Beyond the SCP paradigm: Merger control for the twenty-first century

Developed by an American economist named Joe Bain in the 1930s, the Structure-Conduct-Performance (“SCP”) paradigm unquestionably has impacted the development and enforcement of competition policies in the United States. A theoretical, uniform framework that allows various industrial issues to be analyzed, including the relationship between market structure, firm conduct, and firm performance, the SCP paradigm has operated as a preliminary screening device for antitrust enforcement agencies to determine which proposed mergers are likely to be anticompetitive. If an analysis of the SCP paradigm triggers further scrutiny, the antitrust enforcement agency will then decide how much time and resources it will allocate in undertaking the complex inquiry on the proposed merger’s potential anticompetitive effects. The SCP paradigm’s analysis begins with market structure as a determinant of firm conduct, which then determines performance.

Recently, there have been calls for either an abandonment of or modification to the SCP paradigm in analyzing innovation competition. These critics argue that the SCP paradigm—in its purest form—is an ineffective tool in assessing potential anticompetitive mergers. This article briefly explores the application of the SCP paradigm in the United States along with the merger analyses of the United Kingdom and Germany and the reliance on market structure beyond merger control, which do not strictly adhere to the analyses laid out by the SCP paradigm.

I. The application of the SCP paradigm in the United States

Antitrust authorities have used the SCP framework as a tool to understand the relationship between market structure, firm conduct, and firm performance to evaluate potential antitrust violations. This analysis begins with an examination of market structure to assess the level of competition in a particular industry. The examination into market structure includes a review of the number of buyers and sellers (including their distribution size), barriers to entry of new firms, diversification, vertical integration, and product differentiation. High market concentration, according to the SCP paradigm, can create an environment in which market collusion is more likely than not. And the higher the barriers to entry of a given market, the higher the price-cost margin of the major market player(s) will be.[1]

Once structure analysis deems continued examination worthy, then antitrust authorities will continue their inquiry into firm conduct, when behaviors and strategies of a given firm are examined to understand their impact on competition. If examined conduct consists of anticompetitive practices or agreements (i.e., policies or conducts that are considered predatory or exclusionary), then the inquiry proceeds to scrutinize the effects of market structure and firm conduct on consumer welfare, innovation, and overall market efficiency. Examples of performance measures can include prices, output levels, quality of goods or services, innovation rates, consumer choices, and efficiency indicators. By evaluating performance, authorities can identify any negative effects on competition, such as reduced output, increased prices, lower quality, or diminished innovation due to anti-competitive conduct. According to the SCP paradigm, any = innovation is essentially deemed pro-competition.[2]

A. Arguments for continued applications of the SCP paradigm

The allure and practicality of the SCP paradigm are not difficult to recognize or comprehend, particularly when placed in the context of analyzing a potential merger within classical industrial markets such as car manufacturers. For example, if two major players in the automobile manufacturing market were seeking to merge, then the SCP paradigm’s primary inquiry into market structure will be effective in predicting the firms’ behaviors: the merger will result in an increase in production of cars, subsequently affecting pricing strategies. The bigger the two merger seeking players are, the higher the market concentration will be, and more anti-competitive the conduct and effects of the merger will be. It would thus not be a far-fetched conclusion to find that the SCP paradigm will more accurately than not predict the increased market power and concerns about reduced competition in a market, such as the automobile industry, with high barriers of entry.

B. Criticisms of the SCP paradigm

Recognizing and appreciating the simplicity and intuitiveness of the SCP paradigm in the world of automobile manufacturers are not difficult to achieve, but how does the SCP paradigm fit into today’s world of innovation? Some critics argue that the SCP paradigm’s structural presumption has little to no use in predicting the anticompetitive conduct of today’s companies engaged in innovation competition.[3] In a classical industrial market, wherein the SCP paradigm is an apt tool in determining the potential effects (or detriments) of a merger, entrants into the market will always decrease concentration. And lower the number and bigger the size of firms, according to the SCP paradigm, the higher the market concentration will be. In this analysis, competition will likely diminish, and it will be easy to deem any potential merger anticompetitive. This, some argue, is not always true or as simplified in today’s world.[4]

Today, through innovation, an entrant (even “small” ones) can counterintuitively increase concentration by replacing existing market players, replacing outdated and potentially inferior products with new ones, or through expanding or reshaping a market heavily driven by innovation competition. However, the SCP paradigm would deem a merger of a major player and a small entrant (with ground-breaking technology) not likely to result in anticompetitive conduct or effects on the market. The SCP paradigm’s lack of focus on that small entrant’s ground-breaking technology wholly disregards the exponential increase in market power the major player could acquire through this acquisition of a “small” entrant.

Further, unlike classical industrial markets, today’s market power does not solely depend on price competition. Innovative technology acquired and implemented by a firm can increase the control over effects on consumer behavior and user experience, which are separate from pricing decisions. This (potential) control over consumers and their behavior too cannot and should not be ignored, as it has the potential to change the landscape of a given market. It expands far beyond the two-dimensional inquiry into whether market power influences pricing decisions.

Those arguing against applying the SCP paradigm in today’s innovation-driven markets also argue that the SCP paradigm solely focuses on the output capacity of market players, rather than the number of users of a given network such as Google and Facebook. Thus, these critics believe that abandoning a strict adherence to the SCP paradigm in predicting anticompetitive behavior of firms is necessary in today’s world.[5] The below review of what could be argued as modified forms of the SCP paradigm may benefit further scrutiny of the SCP paradigm’s application in markets heavily focused on innovation competition.

II. The application of the SCP paradigm in the UK

The particular terminology and schools of thought that define and describe antitrust debates and practices in the US are not often used with regard to the competition landscape in the UK. Notwithstanding that, the UK and its Competition and Market Authority (the “CMA”) does face similar challenges in this field to those in other jurisdictions, including in the US: the development of new markets and industries, particularly those of the digital economy, are challenging previous and long-held conceptions of competition, dominance, and consumer harm.

A. Merger control in the UK[6]

In basic terms, the CMA will review a merger or acquisition either where the target of the transaction has a sufficiently large UK presence (a UK turnover exceeding GBP 70 million), or the transaction will result in a sufficiently large presence in the relevant market (25% or above of UK sales or purchases of particular goods or services).[7] UK merger reviews focus on the question of whether the transaction will result in a substantial lessening of competition, broadly focusing on the likelihood of prices rising as a result of rival firms merging or higher risks of companies coordinating practices and prices across a market.

B. Variations on the SCP structure

This approach by the CMA does, essentially, follow the SCP structure (albeit without using that term explicitly). But the limitations of the SCP approach, as detailed above, have been recognised by authorities in the UK, at least implicitly. The CMA’s Merger Assessment Guidelines, updated in 2021, provide an example of a slight variation to the traditional SCP approach (albeit one that the CMA had begun to adopt previously), and introduces a more subjective consideration of the likely effects on consumers of mergers in particular markets: ‘In considering whether a lessening of competition is substantial, the CMA may also take into account whether the market to which it applies is large or is otherwise important to UK customers’.[8] (emphasis added). More importantly, the Guidelines reduce the emphasis on market definition,[9] allowing more scope for the CMA to consider what represents a substantial lessening of competition, and no longer refer to safe levels of market concentration: ‘The outcome of any market definition exercise does not determine the outcome of the CMA’s analysis of the competitive effects of the merger in any mechanistic way’.[10]

A further, significant change to the CMA’s approach in certain circumstances is likely to be ushered in by legislation put before Parliament in April this year: the Digital Markets, Competition and Consumers Bill. A major motivation behind the Bill is the government’s view that the CMA lacks the tools to deal with challenges from digital markets, including the new possibilities for consumer harms that these markets involve. Under the Bill, the CMA’s new Digital Markets Unit (“DMU”) will designate certain companies as having ‘strategic market status’ (“SMS”) in relation to certain activities. SMS designations will be based partly on a company’s size and market position: this represents a continuation of the SCP approach (i.e. a focus on the first instance on market structure) but also a recognition that the SCP approach needs to be varied due to the specific ways in which conduct and performance of specific types of company can harm consumers. SMS companies will have their own, more detailed merger control regime and, more importantly, be subject to a specific code of conduct and be liable to face targeted ‘pro-competitive interventions’ by the DMU, along with a specific sanctions regime.

A stricter approach to tech mergers, and one that deals with the specific sorts of consumer harms they can give rise to, is emerging in the UK (after an arguably lax approach previously).[11] For example, in recent years, the CMA has ordered Meta to sell GIPHY, thus unwinding its USD 315 million takeover, in part because of concerns around Meta’s ability, by virtue of the acquisition, to deny other platforms access to GIFs or to acquire more user data.

While the CMA’s investigatory role, and the way in which competition collective actions in the UK are being brought to address entities’ abuse of dominance, are perhaps the most important tools for addressing improper behaviour by corporates, the developments described above do represent a recognition that a strict adherence to the SCP paradigm when evaluating mergers is not necessarily appropriate in all instances. It remains to be seen how these developments in the UK merger control space may evolve further.

III. The SCP paradigm in German competition policy

The SCP paradigm, as other terms and concepts of US economic theory, is not very present in the German discussion on competition analysis. Instead, German competition policy has always been dominated by the ordoliberal approach of the Freiburg School.[12] Similarly to Bain, ordoliberalists consider market concentration harmful for effective competition.[13] Hence, although not necessarily referencing the SCP paradigm, the prevalent ordoliberal approach is based on a structure-oriented competition analysis and, thus, on the premise of a causal relationship from structure and conduct to performance.[14]

A. Variations on the SCP structure in merger control

The structure-based approach is particularly important in German merger control practice. Although the statutory criterion for the prohibition of a concentration by the Federal Cartel Office (“FCO,” Bundeskartellamt) was enhanced in 2013 from a purely structure-based market dominance test into a broader concept of significant impediment to effective competition (“SIEC”), market structure remains of core importance in the analytical approach of the FCO. This is supported by the German Act against Restraints of Competition (“ARC,” Gesetz gegen Wettbewerbsbeschränkungen), which explicitly lists the expected creation or strengthening of a dominant position as an exemplary case for the application of the SIEC test.[15] Further, according to the Guidance on Substantive Merger Control of the FCO, market dominance remains one of its key concerns.[16]

However, there is a general trend in merger control that shifts the focus from a narrow structure-based/SCP analysis to a broader approach. This is not only demonstrated by the introduction of the SIEC test in substantive merger control law but also in other recent amendments to the merger control rules. First, the scope of application of the merger control regime has been widened—irrespective of the target meeting a domestic turnover threshold—merger control shall also apply when the value of the transaction exceeds EUR 400 million (value of transaction test). Second, alternative criteria for determining dominance were added in recent years, for example an undertaking’s access to data relevant for competition, and, in the case of multi-sided markets and networks, direct and indirect network effects, the undertaking's economies of scale, and competitive pressure driven by innovation.

Nevertheless, these amendments are mainly directed at concentrations on digital markets where turnover is not considered the (only) decisive factor for a firm’s impact on the competitive landscape.[17]

B. Use of a structure-based approach in Germany’s new sector inquiry tool

The persistent focus on market structure is not limited to merger control but is gaining importance in other areas as well, which becomes particularly apparent with the extended rules for sector inquiries set out in the recent eleventh amendment to the ARC. That amendment provided the FCO with significantly enhanced powers to reshape entire markets and industries. By adopting Section 32f ARC the legislature sought to address structurally low levels of competition in certain sectors.[18] Put briefly,[19] it allows the FCO to take measures in response to the results of a sector inquiry, which until this amendment had no consequences other than the publication of the inquiry report.

Based on the revised rules, the FCO can significantly lower the threshold to intervene against mergers in sectors where the sector inquiry found comprehensive indications that future concentrations could impede effective competition.

Further, the newly introduced Section 32f ARC contains a tool which provides behavioral and structural remedies up to the dissolution of dominant undertakings in cases where the sector inquiry found that there is a substantial and persistent distortion of competition on a market – and thus irrespective of actual merger control or antitrust infringement proceedings. Looking at the criteria for the application of the tool, the main structural characteristics of the SCP paradigm are prominently featured: potential addressees of measures are undertakings which, through their conduct and their significance for the structure of the market, contribute significantly to the malfunctioning of competition. Further, when selecting the addressees and the remedies, the market position of the undertaking shall be given particular consideration.

Most notably, the provision lists as exemplary cases those where malfunctioning of competition may exist; unilateral supply or demand power and restrictions on market entry, exit or capacity of undertakings or on switching to another supplier or purchaser. Further, it provides criteria to give particular consideration to when examining whether competition is distorted, which include number, size, financial strength and turnover of the undertakings active in the markets concerned or across markets, the market share ratios and the degree of concentration of undertakings, and transparency and homogeneity of goods in the markets concerned.

Thus, although conduct-based factors shall be considered within the framework of Section 32f ARC, its focal point lies in the analysis of the structure of the relevant market and, consequently, the application of remedies aiming to create a more competitive structure of the affected market. In that, the Freiburg School’s structure-oriented approach to competition analysis prevails. Further, whether one would consider the adoption of the sector inquiry tool proof of the rise of the New Brandeis Movement in Germany, it is certainly clear that it marks a change in competition policy insofar as it allows for more pro-active administrative intervention in existing markets – and, thus, a shift away from the more restrained approach which followed the anti-interventionist Chicago School of the 1970s and the related European Commission’s more-economic approach.[20]

IV. Conclusion

As detailed above, the SCP paradigm has been and continues to be applied in various ways. As such, it may not be so far-fetched to claim that the seemingly rigid SCP paradigm is more flexible and adjustable than initially perceived. Perhaps the SCP paradigm can be redesigned to include a more effects-based inquiry as a means to adapt to the complexities of modern markets. Perhaps the redesign of the SCP paradigm can include an inquiry into whether enforcement efforts aptly address anticompetitive conduct that harms consumers. Or perhaps the redesigned SCP paradigm can provide for closer alignment with international antitrust standards, promoting consistency and cooperation in antitrust enforcement across jurisdictions.

The proponents and the critics may disagree on the application of the SCP paradigm, but all will have to agree that the modern markets have undergone drastic and rapid changes, and will continue to do so. Thus, a moment to pause and scrutinize the application of the SCP paradigm in today’s world may be essential.

*Jane Shin is an Associate in DC, Patrick Kenny is an Associate in London, and Thilo Hueske is an Associate in Berlin

Footnotes

[1] J. Bain, Industrial Organization 462-63 (2d ed. 1968).
[2] See, e.g., Joseph A Schumpeter, The Theory of Economic Development (Harvard University Press 1934; new edition, Routledge 1980); Joseph A Schumpeter, Capitalism, Socialism and Democracy (Harper Perennial 1976 (1942)).
[3] See e.g., Daniel F. Spulber, Journal of Antitrust Enforcement 5–50 (Vol. 11 2022); Louis Kaplow, Replacing the Structural Presumption, Antitrust Law Journal (Vol. 84 2022).
[4] See n.4; see also House of Representatives, Subcommittee on Antitrust, Commercial, and Administrative Law of the Committee on the Judiciary, Majority Staff Report and Recommendations, Investigation of Competition in Digital Markets, 2020 (hereafter House Report) <https://judiciary.house.gov/uploadedfiles/competition_in_digital_markets.pdf>.
[5] See Spulber, Kaplow n.3.
[6] The focus of this analysis is on merger control; detailed discussion of the CMA’s investigatory powers and the role of litigation is not included here.
[7] This is likely to be varied by the Digital Markets, Competition and Consumers Bill; in particular, the turnover threshold is likely to rise to GBP 100 million.
[8] CMA, Merger Assessment Guidelines (CMA129) - 2021 revised guidance, 18 March 2021, 2.9.
[9] I see this as similar to the concept of market structure per the SCP paradigm; see, for example, the CMA’s own understanding: ‘Market definition involves identifying the most significant competitive alternatives available to customers of the merger firms and includes the sources of competition to the merger firms that are the immediate determinants of the effects of the merger’. CMA, Merger Assessment Guidelines (CMA129) - 2021 revised guidance, 18 March 2021, 9.2.
[10] CMA, Merger Assessment Guidelines (CMA129) - 2021 revised guidance, 18 March 2021, 9.4.
[11] The CMA has recognised this themselves; in a 2021 lecture, the CMA’s Chief Executive noted: “In relation to mergers: of 400 acquisitions made by the largest digital firms between 2008 and 2018, none were blocked by competition authorities. There is now a general consensus that some of these acquisitions should not have gone ahead and that they allowed these firms to amass and reinforce their market power.
[12] See Küsters, 15.2 Erasmus Journal for Philosophy and Economics (2022), available at https://doi.org/10.23941/ejpe.v15i2.688.
[13] See Kokott, WuW 2023, p. 524.
[14] See Kerber/Schwalbe, Münchener Kommentar zum Wettbewerbsrecht, 2023, chapter 1, para. 83.
[15] A non-authentic English version of the ARC is available at https://www.gesetze-im-internet.de/englisch_gwb/englisch_gwb.html#p0395.
[16]   See FCO, Guidance on Substantive Merger Control (2012), available at https://www.bundeskartellamt.de/SharedDocs/Publikation/EN/Leitlinien/Guidance%20-%20Substantive%20Merger%20Control.pdf.
[17] See also FCO, press release of 30 September 2022, available at https://www.bundeskartellamt.de/SharedDocs/Meldung/EN/Pressemitteilungen/2022/30_09_2022_AKK.html.
[18] See reasoning of the Federal Government, p. 15 et. seq., available at https://dserver.bundestag.de/btd/20/068/2006824.pdf.
[19] For a more detailed overview on the revised sector inquiry see Kühling, Engelbracht, Welsch, WuW 2023, p. 250 et seq.
[20] See Rohner, VerfBlog, 2022/10/04, available at https://verfassungsblog.de/kartellrecht-mit-klauen/.