Wednesday, September 28, 2011
Posted by D. Daniel Sokol
Jay Ezrielev (Compass Lexicon) and Joseph J. Simons (Paul Weiss) describe THE 2010 MERGER GUIDELINES, CRITICAL LOSS, AND LINEAR DEMAND.
ABSTRACT: Critical Loss Analysis (CLA) is a widely used tool for market definition under the hypothetical monopolist test. The 2010 Horizontal Merger Guidelines appear to refer to a specific version of CLA that assumes that (1) pre-merger pricing satisfies the Lerner Condition; and (2) products' demand functions are linear in price in the vicinity of the pre-merger equilibrium point. We show that under general conditions, the linear demand assumption is not satisfied and can lead to significant errors in the application of the hypothetical monopolist test. We develop a model of differentiated products competition that shows that under reasonable assumptions, products' demand functions are concave around the pre-merger equilibrium point. The concavity of the demand curve appears to be related to clustering of consumers around products in the differentiated product space. When such clustering occurs, the model suggests that demand will tend to have a concave shape around the pre-merger equilibrium point.