Are Cartel Fines High Enough?

Are Cartel Fines High Enough?

 Cartels are defined as a combination of independent commercial or industrial enterprises designed to limit competition or fix prices. Firms collude and decide how much they are going to overcharge consumers for the good that they are selling. They are able to do this because they have very little to no competition in the market of the good they are selling. It is to say, they are the sole producers of the good. Being the sole producers of a good gives cartels market power and they are able to price their good at whatever price they want because there are also little to no substitutions of the good available. Because cartels are able to manipulate and distort the market, organizations all over the world have decided to limit and prevent their formation. If cartels are detected they are fined, but are the fines they are imposed too high? 

To be able to start to understand how and what cartels influence, one must first analyze where they come from and how they are formed. In the beginning, cartels are many different independent producers that supply in the same market. Then, producers come together and form groups that the supply the same product in the same market. These groups then work to makeA sure that they achieve their own personal interests and make their own gain. Cartels have three main actions that enables to regulate the market and get rid of competition. The first action that allows them to regulate the market and eliminate competition is that they created fixed prices for participating members so that their competition and their competitive costs are avoided. Secondly, cartels limit production in their corresponding markets. Manufacturers are the ones that form cartels, therefore cartels can regulate the levels of supply and disregard the rules of supply and demand. Lastly, the action that allows cartels to regulate the market and eliminate competition is that cartels control and administrate the behavior other members that are part of it. These three main actions have many different effects on consumers, but most of the them are negative ones. For a cartel to be effective and powerful, it must have market power; which means that they are able to raise prices about the competitive level. If there were no entry barriers, firms that were to enter the market are likely to undermine the cartels’ increase in price and divide the market. Moreover, if there were not barriers of entry there would most likely be a surplus in supplies and it would be difficult to sustain a collusive agreement. The second factor that allows cartels to control the market is the high market concentration. Market concentration should influence the likelihood of effective collusion and should make it easier for firms to control prices and have the smaller firms follow their prices. The third factor that allows cartels to control the market is the elasticity of demand. The more inelastic the demand is, the greater the cartels market power is and the greater the incentive to collude is. There is a greater incentive to collude because it is easier for a firm to raise prices without having to reduce by a large amount the industry output. (Jensen)

The collusive price of a market means that there is a higher profit than the competitive price of a market. This is because competitive firms spend money on advertising, for example, that firms that collude do not. 

Cartels are most likely to be found and formed in oligopolies. An oligopoly is a market structure in which only a few sellers offer similar or identical products. This type of market allows cartels to form and develop due to the small amount of competition and even smaller amount of substitute products available. For example, the lysine cartel was formed in an oligopoly. Lysine is an essential amino acid that stimulates growth and lean muscle development in hogs, poultry, and fish and has no substitutes. Archer Daniels Midland (ADM) and three other Asian lysine manufacturers colluded on lysine prices, allocated the volume of lysine to be sold by each manufacturer, and participated in meetings to monitor the obedience of cartel members. The lysine market exhibits most of necessary conditionals that help price-fixing. To begin, the market sales concentration was very high. The lysine cartel was made up of four manufacturers that produced 95% of the world’s lysine. Secondly, lysine is a perfectly homogeneous product. Thirdly, barriers of entry were high because plants were highly specialized in production and their sizes were relatively large in comparison to market demand. In addition, the public did not know about the domestic lysine prices, therefore the four firms had market power. Furthermore, because lysine purchases were made in large orders and infrequently, it made it easier for the cartel to monitor for compliance than many small transactions would (Conner, 2005). Because of the lysine cartel, penalties and chances of being caught fixing prices have increased. If one is guilty of price-fixing, one may face fines and imprisonment (Conner, 2001).  

Since the 1950’s cartel fines have increased. During the 1960’s and 1970’s the United States has increased financial penalties, criminal sanctions, and leniency in order to increase the cartel detection probability and decrease cartel behavior. During 1890’s the Congress passed the Sherman Act which set the maximum fine at $5,000. In 1955 the Congress raised the maximum fine to $50,000 per count.  During this time there was a large epidemic cartel formation and these fines helped prevent their formation. The next time period that many cartels were forming was from 1951-1961. The electrical equipment price-fixing cases was prominent during that time. There cases involved thirty corporations and forty-five suspects. These cases were publicly scrutinized because the penalties and fines that they received were low in comparison to what they did and how much profit they made. After these cases, the Congress created the Antitrust Procedures and Penalties Act. The maximum fine for cartels increased from $50,000 to $1 million dollars and the maximum term of imprisonment for collusion was increased to one year. when the legal maximum fine was $50,000, the average fines for firms that were caught price fixing was about 0.4% of the cartel’s affected sales. Throughout the years corporation and individual have increase and in 2004 the Congress passed the Antitrust Criminal Penalty Enhancement and Reform Act that increased the maximum cartel fines to $100 million. In addition, they increased fines the maximum imprisonment term from one to ten years. Furthermore, they increased the maximum for individual fines to $1 million (Ghosal, Sokol, 2014). 

Since then cartel fines have increased, but an analysis of all antitrust cases from 2005-2008 was conducted and it was concluded that about 55.9% of firms were sentenced within the guidelines but the remainder of them were under the legal minimum (Effectiveness of Antitrust Sanctions on Modern International Cartels). Today, the general principle is that fines should equal the external harm times a probability multiplier (one divided by the probability that sanctions will be levied). For example, if firms considering price fixing anticipate that there is only a fifty percent change of being caught and fined, the fines they are imposed should exceed, somewhat, twice any profits. If they don’t exceed by the profit, then their illegal activities will be profitable even after taking into account the sanctions they were imposed (Kaplow, 2011).  According to this study, if there are fines and the expected level of those fines exceeds expected profits from coordination, then firms will put in a lot of effort to ensure that their employees is engaging in coordinating prices and price fixing. On the other hand, if firms anticipate a that they will make a large profit from price coordination without facing any penalties (fines and imprisonment) then they will do anything in their power to make sure that it happens. In addition, they state that it is risky to set sanctions equivalent to a firms’ profit because they might be indifferent to the sanctions imposed on them and may partake in the same illegal activity again.

An article published by the Cardozo Law review written by John M. Connor and Robert H. Lande says that that the combined level of U.S. cartel sanctions is only about 9% and 21% of as large as it should be to protect potential cartelization victims. They analyze whether or not cartel sanctions are set at their optimum level. They believe that in order to improve the deterrence power of antitrust enforcement against cartels one can either increase the sanctions or raise the probability of getting caught and convicted. Therefore, if they double the average sanction level, they would prevent collusion and save consumers and businesses a lot of money every year. At the end of this article, it is concluded that if cartel sanctions were approximately five times as large as they are today and the higher amounts were levied by the courts on price fixers, consumers would be protected from becoming cartel victims. To reach this conclusion, they used cartels’ historical evidence. In the United States cartels have faced a 20% to 24% chance of being discovered and convicted. Therefore, the “costs” of being punished are reduced to 4% of sales (Conner, Lande, 2012).

An article published in the Iowa Law Review analyzed the total joint impact of every assessable anti-cartel sanction using the standard optimal deterrence approach. This approach presumes that firms and individuals considering illegal collusion will be prevented only if:

$\frac{\mathit{Expected} \mathit{rewards}< th\mathit{an} \mathit{expected} \mathit{costs}}{\mathit{Probability\; the\; illegal\; activity\; will\; be\; detected\; and\; sanctioned}}$

Connor and Lande believe that cartel sanctions should be equal to:

$\frac{\mathit{Net\; harms\; to\; others}}{\mathit{Probability\; of\; detection }\times \mathit{ Probability\; of\; conviction}}$

After conducting their research and analyzing it they concluded that the current overall level of anti-cartel sanctions should be increased by at least five times what it is now. They conducted a study of 71 cartels and concluded that victims of 14 of the 71 cartels had Recovery Ratios that surpassed 100%. Seven of the 71 victims received at least double damages, fifty-seven victims received less than their initial damages, twelve receives less than 10% of their damages. This essay concludes many times that cartel damage cases settle for significantly less than single damages. In addition, they say that judges should realize that awarded antitrust damages are usually less than the actual damages. This means that judges should fight any cognizant or unconscious tendencies they have to reward defendants accurate or legal verdicts out of fear that the deed will lead to true treble damages that will “over-punish” defendants and/or “over-compensate” litigants. All in all, the article states that a judge should not approve settlements so quickly and fines should be greater.

 On the other hand, there are opinions that the optimal fines that cartels receive should be decreased. They say that they should be decreased slightly because many times cartels are fined an amount that they are not able to pay and therefore leaves them bankrupt. For example, the sanctions imposed on cartels are about twice the amount of the firm’s annual turnover in that specific market. By the sanctions being twice what they make, many firms are not able to pay it and are therefore left bankrupt and exit the market. Furthermore, bankruptcy creates an additional social cost because the firm avoids its debts, dismisses employees, reduces the tax base, and reduces stockholders’ capital.

 In conclusion, I believe that cartel fines should be increased because it has been proven that as cartel sanctions increase, the formation of cartels decreases. Furthermore, I believe that if cartels overcharge their consumers, get caught, and go bankrupt because of the fine that was imposed on them, it shows other companies not to follow their steps and to not form other cartels. Therefore, I believe that cartel fines imposed on corporations should increase.

References

• Allain, M., Boyer, M., Kotchoni, R., & Ponssard, J. P. (2011). The Determination of Optimal Fines in Cartel Cases: The Myth of Underdeterrence. SSRN Electronic Journal. doi:10.2139/ssrn.1919006
• Boyer, M., & Kotchoni, R. (2011). The Econometrics of Cartel Overcharges. SSRN Electronic Journal. doi:10.2139/ssrn.1919000
• Connor, J. (1998). Lysine: A Case Study in International Price-Fixing. Choices, 13(3), 13-19. Retrieved from http://www.jstor.org/stable/43663287
• Connor, J. M. (2006). Effectiveness of Antitrust Sanctions on Modern International Cartels. SSRN Electronic Journal. doi:10.2139/ssrn.988707
• Connor, J. M., & Lande, R. H. (2006). The Size of Cartel Overcharges: Implications for U.S. and E.U. Fining Policies. SSRN Electronic Journal. doi:10.2139/ssrn.988722
• Ghosal, V., & Sokol, D. D. (2014, 08). The Evolution of U.S. Cartel Enforcement. The Journal of Law and Economics, 57(S3). doi:10.1086/676070
• Kaplow, L. (2011). An Economic Approach to Price Fixing. SSRN Electronic Journal. doi:10.2139/ssrn.1873412
• Kobayashi, B. H. (2002). Antitrust, Agency and Amnesty: An Economic Analysis of the Criminal Enforcement of the Antitrust Laws Against Corporations. SSRN Electronic Journal. doi:10.2139/ssrn.305260
• Lande, R. H., & Connor, J. M. (2008). Cartel Overcharges and Optimal Cartel Fines. SSRN Electronic Journal. doi:10.2139/ssrn.1285455
• Lande, R. H., & Connor, J. M. (2012). Cartels As Rational Business Strategy: New Data Demonstrates that Crime Pays. SSRN Electronic Journal. doi:10.2139/ssrn.1917657
• Lande, R. H., & Connor, J. M. (2005). How High Do Cartels Raise Prices? Implications for Reform of the Antitrust Sentencing Guidelines. SSRN Electronic Journal. doi:10.2139/ssrn.787907
• Langenfeld, J. (2016). The Empirical Basis for Antitrust: Cartels, Mergers, and Remedies. SSRN Electronic Journal. doi:10.2139/ssrn.3061922