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Chapter 2A of the Competition Act, introduced by the Competition Amendment Act 1 of 2009 gives the Competition Commission wide powers to investigate and prosecute firms that engage in 'complex monopoly conduct', which may better be described as 'tacitly coordinated conduct'. This note explains the basic economics underlying complex monopoly conduct and how Chapter 2A is likely to apply in practice.

Prior to promulgation of the Competition Amendment Act, the Commission could only successfully prosecute cartel conduct if an 'agreement' or 'concerted practice' between participants is proved. Regardless of the anti-competitive effect of the conduct, unless overt coordination can be shown, a conviction could not be secured.

Chapter 2A is aimed at two scenarios, which previously fell through the competition enforcement net:

• First, where strategic interdependence between major players in concentrated industries results in coordinated outcomes, without any agreement between the competing firms. The classic example of this is 'price following behaviour'. This is where a trend develops over time whereby one of the firms increases its price at regular intervals and others follow suit¹ .


• Second, where cartel participants successfully conceal the agreements between them. This results in the Commission stumbling at the 'agreement hurdle' when attempting to prosecute the conduct before the Competition Tribunal. Under the provisions of the Amendment Act the Commission may sidestep this problem.

In the Commission's and the DTI's view, the South African economy is rife with examples of these scenarios.

The Amendment Act confers extremely broad investigative powers on the Commission. If the Commission has 'reason to believe that complex monopoly conduct subsists within a market' it may investigate 'any conduct within that market without initiating or having received a complaint'. The Commission's usual suite of search and seizure powers are available in pursuance of the investigation.

However, if the Commission wishes to obtain an order against firms who conduct their affairs in a 'conscious parallel or coordinated manner', only a narrow band of conduct is 'punishable'.
'Coordination' is not defined. However, in the likely event that the Tribunal adopts an interpretation which is consistent with conventional economics, the principles set out below will be key to determining what conduct is covered.

Basic Economics

Determining whether two firms' conduct is 'coordinated' is an exceedingly slippery task. This is primarily because coordinated and non-coordinated conduct does not necessarily bring about different outcomes. In addition, firms may compete on certain aspects and coordinate on others, and a single coordinated or non-coordinated outcome is not necessarily identifiable in a particular scenario.

Non-coordinated conduct

There is nothing repugnant about a firm knowing about the behaviour of its competitor, nor about a firm basing its own behaviour on that of its competitor. For example, a firm may decide that it will maximise its profits by setting its price at the same level as its competitor. The competitor may similarly decide that leaving its price at that level will maximise profits² . Provided that the firms decide to price at that level of their own accord, there can be no competition concern. Independent profit maximising decisions are perfectly acceptable.

Coordinated Conduct

However, shared profit maximising decisions are problematic. Where one firm bases its behaviour on its rival's anticipated response, and its rival does the same, the two firms' conduct is coordinated. This is best explained by reference to an example:

Two competing firms, Firm A and Firm B, both price at R100. Firm A works out that it could dramatically increase market share and sales and thereby increase its profits by reducing its price to R80. However, Firm A knows that if its reduces its price, Firm B is likely to respond, possibly by reducing its price to R70 in order to undercut Firm A's price. Firm A decides that the price war that would ensue would destroy its profit margins in the long run, and so decides to leave its price at R100.

Firm B goes through an identical decision making process. If it undercuts Firm A's price, Firm A would probably respond Firm B's profits would be less in the long run. So Firm B also decides to leave its price at R100. Both firms act contrary to their short run incentives (which are dictated by competitive dynamics), and leave their prices unchanged. The result is a coordinated equilibrium at a price of R100 - a price which is higher than that which would result in under competitive conditions³ .

This has the same anti-competitive effect as participants in an overt cartel fixing their prices at R100. The difference is that at no stage have firms A and B agreed on a price. Instead, they have independently arrived at a price of R100 by a rational reaction by each firm to prevailing market conditions. They have simply decided to prioritise long run stability over short run profit maximisation . Regardless, this collusive market outcome has been deemed worthy of inclusion in the competition authorities' list of unacceptable conduct.

The rationale underlying the decision by two firms to behave in a coordinated way is the same as that underlying the decision to form an overt cartel with the object of fixing prices. In both cases firms simply wish to avoid the long run cost of competing with one another.

Generally, 'uncartelised' oligopolies will settle on a 'price following' pattern. One firm assumes the role of 'price leader' and its competitors become 'price followers'. It is important to note that under Chapter 2A, neither price leading nor price following may be prosecuted independently. The price leader must increase its price on the understanding that the followers will follow, acting contrary to its incentive to leave its price unchanged. The price follower must increase its prices to a similar level to that set by the leader, contrary to its incentive to either leave prices unchanged or undercut the leader's price. Only where there is a reciprocal understanding between firms as to how the collusive outcomes are to be achieved, can a finding of complex monopoly conduct be made.
Coordination is not limited to price increases. Tacit understandings may develop between firms as to when prices should be increased, decreased, or left unchanged and the extent of any price adjustments. In fact, coordination need not necessarily be in respect of price at all.  Firms may act contrary to short run incentives to entice each other's clients or expand in markets where the other is dominant, or reach tacit understanding about volumes to be released into the market.
Note that firms that coordinate on price may compete vigorously in other respects, such as research and development and product quality. It remains to be seen whether a finding of complex monopoly conduct is possible where firms only collude in one facet of their business but compete in all others.

Implications of Chapter 2A

Chapter 2A's predominant effect will be to increase the frequency and breadth of investigations into markets where coordinated outcomes are observed. Because of the availability of search and seizure powers, investigations under Chapter 2A are likely to be preferred to those under Chapter 4A, which provides a formalised 'market enquiry' regime for instances where anti-competitive actions of a particular firm cannot be pinpointed.

The Commission is likely to experience difficulty in securing an order correcting complex monopoly conduct from the Tribunal, primarily because of the subtleties involved in distinguishing coordinated from non-coordinated conduct. The formulation of appropriate remedies is likely to be an equally difficult task.

However, the following guidelines may be extracted from the text of Chapter 4A combined with the relevant economic principles:

• complex monopolies generally exist within oligopoly structures;
• firms cannot be guilty of complex monopoly conduct when acting independently. A degree of reciprocity in the tacit understanding between participants will be necessary to secure a conviction;
• only one of the participating firms needs to have a significant market share. Small players who engage in price following behaviour may be guilty of complex monopoly conduct, and
• it is irrelevant whether the complex monopoly conduct is 'rational'. The critical criterion is whether the conduct results in particular outcomes, which are restrictive of competition.

The Amendment Act promises to have a welcome positive effect on competition in the South African economy, if only indirectly. The message is sent to businesses that comfortable arrangements and understandings between competitors which circumvent competitive incentives are no longer acceptable. Firms can no longer hide behind the absence of an explicit agreement to coordinate. Conduct will be judged by its effect on competition, rather than on conventional notions of 'cartel behaviour'. In addition, the most crafty and evasive of cartels now face the prospect of investigation, despite the absence of a whistleblower or complainant. Firms must actively compete or face intervention by the competition authorities.

Should you require more detailed information or training for relevant employees on how to avoid engaging in complex monopoly conduct, or on any particular provisions of the Competition Amendment Act, and their implications, please contact the Bell Dewar Competition Department.

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