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Alcoa revisited: Comment
JOURNAL
OF ECONOMIC
THEORY
Ncoa
9, 357-359
Revisited:
(1974)
Comment
In his recent very interesting paper [l], Gaskins considers Judge Learned Hand’s famous opinion in the Alcoa case [2]. In particular, he analyzes Eland’s view that secondary aluminum ought not to be counted in the market because over a period of years it was substantially within Alcoa’s control in view of the latter’s control of the production of primary ingot from which secondary must ultimately be produced. The standard economist’s view of Hand’s position on this point is that it ignores the long gestation period for secondary aluminum, the uncertainty with which the amount of future recovery must be regarded, and, in general, the competitive check provided to Alcoa’s ability to ‘“raise prices and exclude competitors” by the supply of secondary aluminum available from already produced aluminum products. Gas&ins examines the effect of a second-hand market on the croft-maxim~ing price of a monopolist who knows the future situation with certainty and shows that the standard view of Hand’s position may be mistaken in two ways. (1) As of an initial period in which the existing stock of al~rni~~rn is zero, the existence of a prospective second-hand market leads the monopolist to set a lower output and a higher price than he would otherwise do; because he must consider the effects of increased current sutput on future competition from secondary recovery. (ii) Even in long-run equilibrium, provided demand is growing an there is some loss in secondary recovery, it does not necessarily turn out that the price is forced to the competitive equilibrium. Indeed, for parameter values chosen to reasonably approximate the facts of the a~~rni~~rn industry9 the long-run equilibrium price, while below the short-run monopoly price which would obtain with no second-hand market, turns out to be much closer to that price than to the competitive one. It is tempting to conclude from these interesting results that Judge was right to exclude secondary aluminum from the market and that the conventional view is wrong. Such a conclusion, however, would be overly strong, particularly if it were to be extended to analyses of other antitrrrst cases. The most that can be said in this direction is that, given the facts of the aluminum industry, the consequences of the mistaken exclusion of secondary ahuminum were probably not very great. To see that this is as far as one ought to go along these lines in the light of Gaskins’ results, we must consider the purpose to which market definition and measurement tends to be put in Sherman Act monopoly cases. 351 Copyrigtxt AlI rights
0 1974 by Academic Press, of reproduction in any form
Inc. reserved.
358
FRANKLIN
M.
FISHER
The object of analysis in such cases is to examine the constraints under which the defendant operates, to consider what limits his “power to raise prices and exclude competitors.” Strictly speaking, this is not a problem in which the precise definition of “the” market ought to matter in realistic cases. The constraints on the defendant are generally of greater or lesser importance, depending on how far away in the continuum of substitutes alternative products are from his. Defining some goods as “in” the market and some as “out” is at best a helpful way of categorizing the important versus the unimportant constraints. At worst it imposes a wholly artificial dichotomy upon a continuous problem and leads to the result being determined by the arbitrary nature of the definitions used. Be that as it may, since Hand’s opinion in the aluminum case, there has been considerable concentration on market definition and the calculation of market share, with the latter (usually with citations to the particular percentages in Hand’s opinion [2, p. 4241) playing a sometimes exclusive role in determining the outcome. That role may properly be regarded by economists as overblown, but it is there nevertheless. Accordingly, the question to ask about Gaskins’ paper is the following: If courts are going to use market share as an index of market power, can one conclude from Gaskins’ results that it is appropriate to exclude secondary products from the market? The answer appears to me to be clearly in the negative. Consider first Gaskins’ result as to the initial period before there is any recoverable stock of aluminum. At this period, the share of secondary aluminum (if it is included in the market) is certainly zero, so including it for purposes of measuring the alleged monopolist’s current share does not matter. This is not very interesting, however. What really matters is the extent to which the defendant is constrained by a nonzero stock of potential second-hand product. It is obvious, moreover, that, however cunning at optimization the monopolist is and however capable at taking into account the effects of his actions on future secondary supply, the existence of a recoverable stock of secondary product that is in existence as a consequence of past actions does place some constraint upon him. To see this, it is merely necessary to ?,sk whether Alcoa would have been better or worse off had the existing stock of aluminum products suddenly evaporated. The real question is the extent to which the growing supply of secondary constrains (or will constrain) the monopolist. This is where Gaskins’ somewhat more surprising conclusion about the long run comes in. It turns out that under reasonable assumptions the effects of the growing supply of secondary are not very great in ‘terms of the long-run equilibrium price. Yet the question to be asked is whether a
ALCOA REVISITED: COMMENT
359
court examining market shares will obtain the correct result by i~c~~d~~g or excluding secondary recovery. Clearly, the question that such a court would (or should) want to ask is what becomes of the market share of the defendant in the long run. This question is answered in Gaskins’ paper. Under the assumptions which lead to a small effect of second-hand aluminum, Alcoa’s long-run equilibrium market share turns out to be between 75 and ‘78 “/I Where there is no growth in demand, no loss in secondary recovery, and no depreciation, on the other hand, the price is ultimately forced to the competitive level and Alcoa’s long-run share is zero. It is thus apparent that a court which included secondary supply in the market would be led to approximately the right result and that a court which excluded it might seriously be misled. hn the case examined by Gaskins, in which the ultimate effects of the second-hand market on price are small, the ultimate share of secondary supply is also small. in which the effects are large, that ultimate share is also large. secondary from such share calculations in the former case would be to place at zero an effect which, while small, is definitely present. To exclude it in the latter case would be disastrous. Yet the reasoning which would lead one to exclude secondary aluminum is equally applicable in either case, since the monopolist takes full account in both cases of the effects of his production on future secondary supply. It follows that what Gaskins shows is that the analytic error of excluding secondary aluminum from the market was of small consequence because the long-run market share (and indeed the short-run share) of such aluminum happened to be small. Given the facts of the Alcoa case,that excllrsion did not aAfectthe outcome. It was an analytic error, nevertheless.
1. DARIUS W. GASKINS, JR.,Alcoa revisited:The welfareimplicationsof a second-band market,J. Econ. Theory 7 (1974),2.54-271. 2. U.S. v. Aluminum Compagny of America, 148 F. 2d 416(2nd Circ. 3945). FRANKLIN
M.
Fmm*
Departmeizt of Economics, Massachusetts Institute of Technology, Cambridge, Massachusetts 02139
ReceivedApril 26, 1974
1Ignoring imports. * 1:amindebtedto JoenGreenwoodfor comments, but retaintheusualresponsibility~ Printed inBdgium
OF ECONOMIC
THEORY
Ncoa
9, 357-359
Revisited:
(1974)
Comment
In his recent very interesting paper [l], Gaskins considers Judge Learned Hand’s famous opinion in the Alcoa case [2]. In particular, he analyzes Eland’s view that secondary aluminum ought not to be counted in the market because over a period of years it was substantially within Alcoa’s control in view of the latter’s control of the production of primary ingot from which secondary must ultimately be produced. The standard economist’s view of Hand’s position on this point is that it ignores the long gestation period for secondary aluminum, the uncertainty with which the amount of future recovery must be regarded, and, in general, the competitive check provided to Alcoa’s ability to ‘“raise prices and exclude competitors” by the supply of secondary aluminum available from already produced aluminum products. Gas&ins examines the effect of a second-hand market on the croft-maxim~ing price of a monopolist who knows the future situation with certainty and shows that the standard view of Hand’s position may be mistaken in two ways. (1) As of an initial period in which the existing stock of al~rni~~rn is zero, the existence of a prospective second-hand market leads the monopolist to set a lower output and a higher price than he would otherwise do; because he must consider the effects of increased current sutput on future competition from secondary recovery. (ii) Even in long-run equilibrium, provided demand is growing an there is some loss in secondary recovery, it does not necessarily turn out that the price is forced to the competitive equilibrium. Indeed, for parameter values chosen to reasonably approximate the facts of the a~~rni~~rn industry9 the long-run equilibrium price, while below the short-run monopoly price which would obtain with no second-hand market, turns out to be much closer to that price than to the competitive one. It is tempting to conclude from these interesting results that Judge was right to exclude secondary aluminum from the market and that the conventional view is wrong. Such a conclusion, however, would be overly strong, particularly if it were to be extended to analyses of other antitrrrst cases. The most that can be said in this direction is that, given the facts of the aluminum industry, the consequences of the mistaken exclusion of secondary ahuminum were probably not very great. To see that this is as far as one ought to go along these lines in the light of Gaskins’ results, we must consider the purpose to which market definition and measurement tends to be put in Sherman Act monopoly cases. 351 Copyrigtxt AlI rights
0 1974 by Academic Press, of reproduction in any form
Inc. reserved.
358
FRANKLIN
M.
FISHER
The object of analysis in such cases is to examine the constraints under which the defendant operates, to consider what limits his “power to raise prices and exclude competitors.” Strictly speaking, this is not a problem in which the precise definition of “the” market ought to matter in realistic cases. The constraints on the defendant are generally of greater or lesser importance, depending on how far away in the continuum of substitutes alternative products are from his. Defining some goods as “in” the market and some as “out” is at best a helpful way of categorizing the important versus the unimportant constraints. At worst it imposes a wholly artificial dichotomy upon a continuous problem and leads to the result being determined by the arbitrary nature of the definitions used. Be that as it may, since Hand’s opinion in the aluminum case, there has been considerable concentration on market definition and the calculation of market share, with the latter (usually with citations to the particular percentages in Hand’s opinion [2, p. 4241) playing a sometimes exclusive role in determining the outcome. That role may properly be regarded by economists as overblown, but it is there nevertheless. Accordingly, the question to ask about Gaskins’ paper is the following: If courts are going to use market share as an index of market power, can one conclude from Gaskins’ results that it is appropriate to exclude secondary products from the market? The answer appears to me to be clearly in the negative. Consider first Gaskins’ result as to the initial period before there is any recoverable stock of aluminum. At this period, the share of secondary aluminum (if it is included in the market) is certainly zero, so including it for purposes of measuring the alleged monopolist’s current share does not matter. This is not very interesting, however. What really matters is the extent to which the defendant is constrained by a nonzero stock of potential second-hand product. It is obvious, moreover, that, however cunning at optimization the monopolist is and however capable at taking into account the effects of his actions on future secondary supply, the existence of a recoverable stock of secondary product that is in existence as a consequence of past actions does place some constraint upon him. To see this, it is merely necessary to ?,sk whether Alcoa would have been better or worse off had the existing stock of aluminum products suddenly evaporated. The real question is the extent to which the growing supply of secondary constrains (or will constrain) the monopolist. This is where Gaskins’ somewhat more surprising conclusion about the long run comes in. It turns out that under reasonable assumptions the effects of the growing supply of secondary are not very great in ‘terms of the long-run equilibrium price. Yet the question to be asked is whether a
ALCOA REVISITED: COMMENT
359
court examining market shares will obtain the correct result by i~c~~d~~g or excluding secondary recovery. Clearly, the question that such a court would (or should) want to ask is what becomes of the market share of the defendant in the long run. This question is answered in Gaskins’ paper. Under the assumptions which lead to a small effect of second-hand aluminum, Alcoa’s long-run equilibrium market share turns out to be between 75 and ‘78 “/I Where there is no growth in demand, no loss in secondary recovery, and no depreciation, on the other hand, the price is ultimately forced to the competitive level and Alcoa’s long-run share is zero. It is thus apparent that a court which included secondary supply in the market would be led to approximately the right result and that a court which excluded it might seriously be misled. hn the case examined by Gaskins, in which the ultimate effects of the second-hand market on price are small, the ultimate share of secondary supply is also small. in which the effects are large, that ultimate share is also large. secondary from such share calculations in the former case would be to place at zero an effect which, while small, is definitely present. To exclude it in the latter case would be disastrous. Yet the reasoning which would lead one to exclude secondary aluminum is equally applicable in either case, since the monopolist takes full account in both cases of the effects of his production on future secondary supply. It follows that what Gaskins shows is that the analytic error of excluding secondary aluminum from the market was of small consequence because the long-run market share (and indeed the short-run share) of such aluminum happened to be small. Given the facts of the Alcoa case,that excllrsion did not aAfectthe outcome. It was an analytic error, nevertheless.
1. DARIUS W. GASKINS, JR.,Alcoa revisited:The welfareimplicationsof a second-band market,J. Econ. Theory 7 (1974),2.54-271. 2. U.S. v. Aluminum Compagny of America, 148 F. 2d 416(2nd Circ. 3945). FRANKLIN
M.
Fmm*
Departmeizt of Economics, Massachusetts Institute of Technology, Cambridge, Massachusetts 02139
ReceivedApril 26, 1974
1Ignoring imports. * 1:amindebtedto JoenGreenwoodfor comments, but retaintheusualresponsibility~ Printed inBdgium