This chapter will firstly explain competition law of the European Union, with its objectives on how to provide a sufficient system for all Member States undertakings operating within the EU. In order to be able to explain in detail how competition operates within the markets, theoretical imput is looked at, to show the extreme consequences of the market at either end with and without the regulations governed by competition law. A large part of this chapter will lend itself to the detailed explanation of vertical agreements, in their various formations, benefits of and their potential harmful effects, leading to a discussion on whether vertical restraints are necessary in achieving the main competition policy objective. A brief introduction of Article 81 is made in relation to its application of vertical restraints.
1.2 Competition Policy
The overriding objectives of Competition law concern the efficiency between producers, suppliers and retailers, the protection of the consumer and small and medium sized firms as well as creating the integration of a single market between all Member States. However, these objectives can be unattainable due to other policy objects such as the safeguarding of employment or regional or structural imbalances.
The policy of competition law intends to protect four issues, which occur within the free market of trade within and between Member States. The first is to prevent agreements with a restrictive nature being made between firms that do not have a beneficial effect. The second is to control monopoly firms with market power from abusing their position and preventing competition entering the market as well as distorting the market itself. Thirdly, a workable market needs to be watched and maintain in oligopolistic markets.
Fourthly, the monitoring of mergers is required to prevent concentration of the market dominance and diminish competitive pressures within it. EC policy is broad to allow the Commission to develop the principles. Other policies including economic, social and political can have an effect on competition. Different weighting is given to policies when deciding upon the facts before the courts.
Competition law is based on assumptions of Perfect Competition which assumes that there is an unlimited amount of buyers and sellers, there is free entry and exit to the market, products are identical and homogeneous and there is full product information available to the consumer to be able to form a rational choice and decision on the purchase of products. However, the conditions to aspire to Perfect Competition are not so easily achieved within the market itself, in fact virtually impossible as the market is not consistent or stable.
On the other hand, not having any competition regulations will leave the market open to domination by monopolistic firms. This enables the firm to control the output of products and fixing the price of products. Thus, the monopoly distorts the natural competition of the market. Although the formation of a monopoly is economically harmful, it is ecceptable to have a natural monopoly where the cost to produce two products is cheaper than one. In addition, a state may infer a monopoly.
Due to the impossibility and undesirability of the above forms of competition there has to be a balance between the two. This is generally the case of regulators watching the markets within the EU. Competition Law acts as an “invisible hand”1.
1.3 Economic Structure
To be able to understand the effects of competition an economic view of the market needs to be considered. Undertakings act in accordance with demand for the product they produce and then supply to fulfil that market. This is known as “supply and demand”. Without competition a firm can control the output of supply and set the prices of products, thus effecting the natural market by having the power to create a shortage of the product to the demand required. This enables firms to increase the price of the product. There are two types of demand, an elastic demand, where consumers cease to buy the product if prices increase and inelastic demand, where product prices increase and the level of consumer purchase stays consistent.
1.4 Effects of Competition
The effects of competition comply with its objectives in producing greater efficiency, consumer welfare and protection of small and medium sized firms within the markets. Allocative efficiency is created when resources are supplied in accordance with demand, therefore an adequate number of products are produced without any over production thus reducing cost. In being efficient the production costs are kept to a minimum in order to gain the efficiency and maximise profits. These profits allow investment in dynamic efficiency to improve the product through research and development. Competition between firms allows the consumer to have several benefits as they have a wider choice of products, a better range of products due to innovation and lower prices. This permits the consumer to have a freedom of choice when selecting their product. Competition also enhances the freedom of firms to enter the market, compete with, and be protected from those already established. Thus creating an internal market of all member states.
1.5 Vertical Agreements
The first policy of competition law is to prevent agreements of a restrictive nature. An agreement occurs when two or more firms come together and work towards a common goal. The commission stated “… it involves joint decision-making and commitment to a common scheme…”2. The term restrictive in relation to the EU competition law is defined as “direct or indirect, actual or potential effect on interstate trade”3 or any effect whatsoever on the market.
Agreements can take place at different levels within the chain of production, from producer to retailer to consumer; this is called vertical agreements and can come in several forms4. Agreements between firms on the same level, such as between retailers is called horizontal agreements. Both forms of agreements can breach competition law, which are covered by Articles 81 to 99 of the Treaty and are regulated by the commission.
It is necessary to have a detailed look at the varying types of vertical agreements that occur within the market and the effects they have on competition, whether positive or negative. Firstly, let it be known that vertical agreements are agreements made at different levels within the chain of distribution. It starts from the producer until the final agreement with the consumer.
A typical example would be an agreement made between producer/wholesaler, wholesaler/retailer, and retailer/consumer although other forms of agreements are included to include transportation agreements or the middleman is left out of the equation. Thus having various forms of vertically integrated agreements.
1.6 Benefits Of Vertical Agreements
Recently it is becoming increasingly more difficult to distinguish between various undertakings at the same level of the distribution process due to the evolving nature of the functions conducted and various phases of development. This is as well as difficulties due to MS having differences in the interpretation as to the activities the undertakings perform.
Due to the change of the European economy and the effects of competition, undertakings are having to become more efficient and adapt to the market in order to maintain and produce profits. To be able to do this ‘value added’ functions are incorporated into the process, thus the inclusion of transportation, finance and stock control, selling and promoting to appeal to sellers. However, the products must appeal to buyers at the other end of the market i.e. a cheap price. Thus the inclusion of ‘value added’ functions can reduce the cost of contracting out in which the savings can be passed on to the buyer. They can offer specialist functions due to better knowledge and more experience making the process more efficient. Retailers opt for the most economical and resourceful products, giving consumers freedom of choice and reasonable prices and keep up with consumer demand.
The need and wants of the final consumer, in which the retail industry has to fulfil in order to satisfy the demand and generate profits, cause trends in demand and supply. This was the system of ‘push and Pull’, where products were made in advance due to expectation of demand and followed consumer demand.
Recent changes have taken place, which has permitted undertakings to act more efficiently in response to the demand. The adoption of the ‘Just-In Time principle is based on the fact that no products are made, components ordered until there is a down-stream demand for the product. The new system is more efficient and is less costly due to lower levels of wastage. It also forces undertakings to address any inefficiency in order to keep up with the pace of the market.
Advancement of Information Technology has enhanced efficiency with the use of electronic data interchange, bar coding, etc. This has also made it easier for undertakings to take on functions by others at a different level within the distribution process. These advances have enhanced the relationships between undertakings at various levels of the distribution process, as co-operation is required to establish, maintain and develop an efficient working relationship to be provide a satisfactory process which is satisfactory in complying with the objectives of competition policy, in particular the formation of a single market. An example of this is the partnership of Proctor & Gamble and Wal-Mart whereby the data system in Wal-Mart sends information to Proctor & Gamble and they send out a sufficient supply to meet the demands of the products.
1.7 Harmful Effects of Vertical Agreements
Obstacles occur when there is an anti-competitive effect due to the agreement between undertakings whether directly or indirectly effect the parties to the agreement or a third party. Thus making the agreements vertical restraints. In which EC competition law applies plays a role in preventing the anti-competitive agreements.
Vertical agreements can have anti-competitive effects on the market. This can occur in four ways. It can have the effect of foreclosing the market and raise the rivals cost, dampen competition, facilitate collusion and partition the market.
The commission guidelines identify four types of vertical restraints, Single Branding group, Limited Distribution group, Resale Price Maintenance group and Market partitioning group. These agreements limit buyers to where, how much to purchase products and which, where and how much to sell the product.
Article 81 of the EEC Treaty applies directly to agreements and concerted practices that have an anti-competitive effect. Article 81 prohibits “all agreements between undertakings, decisions by associations of undertakings and concerted practices which may affect trade between Member States and which have as their object or effect the prevention, restriction or distortion of competition within the common market”. Vertical restraints fall within the contemplation of this Article in which it aims to prevent the agreements to continue having an anti-competitive effect on competition within the market.
Although some vertical restraints maybe permitted where there can be a beneficial effect, e.g. to be able to enter a new market. When used correctly vertical agreements can fulfil the policy objectives of creating and maintaining an internal market, and consumer welfare protection.