The Economics of Predatory Pricing
Predatory pricing “is alleged to occur when a firm sets a price for its product that is below some measure of cost and forfeits revenues in the short run to put competitors out of business” (Sheffet p.163-164). The reason firms take the short term loss is because they hope to drive out competitors and raise prices to monopolistic levels. By doing this, they covered their short term loss to make even greater profits in the long term than they would have by not using predatory tactics (Sheffert). Predatory pricing became illegal under Section 2 of the Sherman Act. It has remained one of the more difficult allegations for prosecutors to prove, due to the complexity of determining the company’s actual intent and whether or not it the strategy is competitive pricing. According to Areeda and Turner, there are three ways to determine if a firm is implementing predatory pricing. First, a price above marginal cost is presumed lawful; second, a price below marginal cost is considered unlawful, except when there is strong demand; and third, average variable cost is considered a good proxy for marginal cost. This is a reason predatory pricing is still important today. The courts must decide whether or not companies are engaging in competitive prices for the good of the consumers or are using predatory tactics for the good of their own company. The purpose of this paper is to focus on the current legislation regarding predatory pricing, determining when there is predation in an industry and the cause and effect relationship it has on an industry.
The Current View and Legislation on Predatory Pricing
When people think of predatory pricing, two main laws come to the minds of most people. First, is Section 2 of the Sherman Act, which finds guilty “every person who shall monopolize, or attempt to monopolize, or combine or conspire with any other person or persons, to monopolize any part of the trade or commerce.” The second law that frequently comes up in predatory cases is Section 2 of the Clayton Act, more commonly known as the Robinson-Patman Act of 1936. This amendment to the Clayton Act outlaws discriminating in price, in order that one may lessen competition or attempt to monopolize. The major item coming from the Robinson-Patman Act is the primary-line injury, which is when the seller harms their own profits through price discrimination (Areeda & Turner, 1975).
Currently, economists are debating if predatory pricing is actually feasible or not. Many of these skeptics come from the Chicago School of thinking, which believes that predatory pricing cannot be profitable in the long run. According to Helgeson and Gorger on the other hand, economists are arguing the Chicago School’s ideas that that “managers (1) are exclusively motivated by profit-maximization, (2) have complete information, (3) are calculatively rational, and that (4) customer welfare is solely measured in terms of...