GEI Newsletter Issue No. 2

Global Competition Policy in the International Economic Order - by Peter Holmes

Also in this issue:

Editorial
by David Vines
‘Political Economy, Sovereign Debt and the Role of the IMF’ G E I Workshop, Cambridge, 7/8 July 1995
by Sylvia Vally
Seminars at Chatham House on Subsidiarity in the Governance of the Global Economy

Global Competition Policy in the International Economic Order

by Peter Holmes

Dr Holmes is an Economist based at the University of Sussex. He is directing a project as part of the GEI initiative on ‘The International Regulation of Competition and Competition Policy’, and is at present writing a report for the European Commission which will examine whether significant changes are desirable in the way in which anti-dumping policy is operated by the Commission.

1. Introduction

When the Uruguay Round of trade negotiations ended, many observers felt that it was time to pause and take stock. But there was already momentum for new discussions. GATT (now WTO) officials had been organizing discussions on links between environmental regulation and trade. And before the ink was dry at Marrakech, the US was arguing for a new round of negotiations to be opened on the issue of the link between trade and social policy. That is, whether absence of labour protection laws by an exporter should be an excuse for trade restrictions. Now the EU has come out in favour of negotiations on rules governing international competition policy, in a report published in June 1995.

‘Trade and competition’ has been a subject for international debate for most of the century and an area for proposed international agreement for the last 50 years. So far progress has been extremely limited, but there are distinct signs of change. The big puzzle is why it has taken so long to get anywhere. A smaller puzzle is why things seem to have started moving at last.

Before going into detail it is necessary to point out the core problem. Competition policy (or anti-trust in the US) has two complementary aims. One is the protection of competition for the benefit of consumers and economic efficiency. The other is the protection of competitors against potential ‘unfairness’ by their rivals, which may in fact not hurt consumers at all. The Chicago School of economists actually argue that anti-trust laws, being based on a misplaced populism, are in general harmful as they allow losers in the competitive game to survive and hold on to rents. Most economists, however, would not accept this. Any system which promotes the interests of all producers, however biased in favour of producers it is in intent, is likely to promote pluralism and have a pro-consumer impact. The problem arises when we come to international trade laws. Here the emphasis is always on the side of protecting ‘our producers’ and against ‘theirs’. The resulting asymmetry can hurt consumers and users. Some critics of the drive to introduce international rules on anti-competitive business practices fear that the producer-oriented notion of ‘fairness’ may supersede the original goal of competition promotion.

Where markets experience free entry it is reasonable to expect that market forces alone will do away with the need for competition or anti-trust rules. But modern economic theory and industrial economics research suggest that many global markets are subject to massive fixed costs of entry and exit that prevent them being ‘contestable’. Satellites, for example, are expensive to launch and not easy to sell. This raises doubts as to whether we can just rely on free entry to erode dominant positions in global communications industries. Identifying the problem, however, is easier than finding regulatory solutions.

In this article we begin by introducing the main issues and some paradoxes of competition policy at a national level. We contrast them with the rules governing international competition. We then discuss the way international negotiations have tried to bring together the two areas – the main issues involved and the obstacles to progress. Having noted that there is no overall agreement in this area we remark on the way international competition policy has got into the Uruguay Round by the back door and consider likely future developments.

2. National competition policies

The term competition policy as used in the EU covers control of private monopolistic and anti-competitive business practices (i.e. anti-trust) and also the control of state aids. In most parts of the industrial world the two issues are separate, with national rules governing anti-competitive private behaviour (anti-trust) and international rules governing the impact of subsidies on trade. We are concerned with the slow emergence of international rules to govern the national regulation of private behaviour.

The US was first with such national anti-trust rules with its Sherman Act in 1890 and the Clayton Act in 1917, as well as introducing the Wilson Act in 1916 (since superseded) which uniquely applied anti-trust principles to international trade. Japan after 1945 modelled its laws on the US system, but put in place a more lax enforcement system, something which US commentators often allege advantages Japanese firms. Germany acquired a powerful cartel office after the war, intended in part to preserve industrial pluralism by restricting the growth of giant firms at the expense of the smaller ‘Mittelstand’. UK laws also go back to the 1940s and 1950s and are currently regarded as in need of reform. Few other member states of the EEC in 1957 had strong competition laws: the implementation of the Treaty of Rome and later legislation (e.g. the 1989 Regulation on Mergers) in effect created new domestic legislation for several countries.

What makes the EU system unusual is that the system of competition law set up by the Treaty of Rome uses the same set of rules to govern inter-state trade within the Common Market as is normally used to govern purely domestic competition. There are no trade barriers within the Common Market (Internal Market), and regulation of intra-EU trade is by the competition authorities in the European Commission, who are responsible both for ensuring that there is a ‘level playing field’ among producers and increasingly that the field is also a competitive one. It is important to remember that the original Treaty of Rome referred to ‘balanced trade and fair competition’ as a goal of the original EEC (Article 2). The result of this is that EU competition policy is as much oriented towards achieving symmetric conditions for all producers as it is to achieving a balance in favour of consumers.

3. Competition laws and international trade

The GATT has long had provisions for dealing with state aids, both in the original GATT rules on countervailing duties and more recently in specific codes governing what is and is not permissible by way of subsidies. The pre-Uruguay Round GATT made no reference at all to the regulation of anti-competitive business practices, with the one exception of rules on dumping, to which we will return shortly, although international cartels and monopolies have been a source of concern since the time of Lenin, and provoked very great concern in the 1940s. But despite proposals for rules on cartels and monopoly since at least 1947, almost nothing has been done. Export cartels were a rather serious problem in the inter-war period, with collaboration between German, US and UK chemical firms, in particular being somewhat embarrassing. After 1945 it was estimated that a high proportion of UK exports were covered by some form of cartel arrangement. It was not surprising that the authors of the Havana Charter, the constitution of the proposed International Trade Organisation in 1947, included a chapter calling on member states to control international restrictive business practices. But this came to nothing when the GATT was agreed with much narrower coverage.

The Chicago School strongly influenced national competition policy in the 1980s and still leads many to argue that if we just use free trade to facilitate free entry, both nationally and internationally, we will make markets contestable by trade and all will be well.

Those in favour of international competition rules argue that internationalization of business widens the geographic scope, if it exists, for abuse of any dominant positions, and necessitates coordinated international action rather than that of any one jurisdiction. If markets are inherently subject to big sunk costs they will be inherently non-contestable and a priori candidates for at least monitoring. And where there is any segmentation between national markets predatory behaviour is possible through cross subsidy.

In international as in national discussions, there is dispute about the facts: do learning curve effects increase or reduce the scope for global dominance in such sectors as semi-conductors, cars or telecommunications? The failure to act has probably less to do with such economic debates as with the political economy factor that noone is willing to restrict the ability of their own firms to engage in anti-competitive behaviour that harms foreigners even if others agree to do the same.

Trade policy tends to relate to market access rights of national producers. The notion of upholding competition for the sake of producers rather than consumers poses problems for economists as soon as we look at international competition. Most jurisdictions, including the EU, give rights to domestic producers to complain, but not to domestic consumers or to foreign producers, let alone foreign consumers.

Trade laws typically relate to ‘unfair competition’, i.e. too intense competition which undermines the position of domestic producers. The original GATT turned this mercantilist starting point into a pro-consumer free trade approach by insisting on reciprocity. By demanding the right of our exporters to have access to foreign markets we oblige ourselves to let others enter our market. Reciprocity is an adequate way of proceeding if international markets are potentially contestable but merely held to ransom by domestic rent-seeking interests; reciprocity mobilises exporters’ interests against the interests of sheltered import-competing sectors in the interests of perfecting international competition. But reciprocity may be the wrong approach if international markets are not potentially contestable; countries may be forced to bargain away the protection of domestic industries against ‘dominant’ foreign producers who can erect new barriers to entry. We cannot always rely on the exercise of rights by foreign producers to enforce the rights of our consumers. There are genuine possibilities for anti-competitive strategies.

It is notable that GATT rules do specify fairness, but only in terms of producer rights. Article VI allows signatories of GATT (now members of the WTO) to use anti-dumping duties when a foreign producer is selling more cheaply into the importer’s market and is thereby causing ‘injury’ to local producers. Demonstration of dumping and injury is usually enough to trigger anti-dumping duties. Anti-dumping investigations are not designed to differentiate between cases where the foreign producers are engaged in genuinely anti-competitive strategic behaviour to undermine viable but vulnerable home firms, and cases where no more than normally aggressive competition is occurring. Anti-dumping rules are based on legal principles quite distinct from those that economists believe should underlie anti-trust rules. The rights of consumers are very much secondary in law and the rights of foreigners are less still. Current trade laws are designed to protect domestic firms in home markets, not domestic consumers let alone foreign consumers. Indeed most laws (in EU, Germany, Japan and US) allow cartels for export markets.

There is clearly a gap in the law here: there is too much regulation to restrict practices that hurt producers (which often would be quite legal if done internally) and not enough attention to wider economic interests. But we could not simply abolish anti-dumping laws as they stand and rely on unmodified competition laws. Existing national competition laws are inadequate. They allow exporter cartels, and they are not designed to deal with the scope, however limited it may be, for strategic behaviour by a firm based in one market exporting to another, with the two markets being linked but trade being less than wholly free. The political perception that this strategic behaviour is a widespread problem economists cannot ignore.

It is widely believed that Japanese firms gain an unfair and distortionary advantage in trade because their internal competition laws are not rigourously enforced. This, it is believed, allows them to cross-subsidize strategic behaviour in other markets on the back of profits that are due in part to privately-created barriers to entry to certain Japanese markets. (There is of course a paradox in saying that competition laws are inherently desirable and that their enforcement would handicap Japanese business!)

The EU has joined this debate. Sir Leon Brittan has criticised high prices in Japan as giving a potentially unfair ‘deep pocket’ to its firms. Meanwhile the EU has also taken firm steps to ensure that the new market economies of Eastern Europe have competition rules like those of the EU, both because it says these laws will help foster healthy competition in the CEECs and because it wants a ‘level playing field’ for EU firms.

Continued - 4. Competition policy in international negotiations

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