On Bundling and Price Discrimination

Friday's WSJ includes Ronald Cass' insightful commentary on the South Korea Fair Trading Commission's recent decision to force Microsoft to sell modified versions of Windows that strip out its Instant Messenger and Media Player technologies.  Cass emphasizes the potential dangers of several nations dictating separate product configurations:

We live in a global market. If each nation asserts the right to dictate the composition of products sold there, producers will need different products for every nation. Suppose, in addition to the EU and Korea, that Japan, India, China and Brazil regulate products like Windows, each requiring different features. The efficiency of global production will not be totally eliminated, but it would be very significantly eroded.

I share Cass' concern in this regard, and what appears to be his general sense that tying is efficient and not likely to harm consumers.  Cass rejects the leverage theory, which hypothesizes that a dominant firm can extend monopoly power from one market to the next by bundling, and also emphasizes the production or distribution efficiencies associated with bundling (shoes with shoelaces and such).  To my mind, however, the $64,000 antitrust question is about neither leverage theory nor distribution costs, but how antitrust law will treat practices that increase firm profits by linking a complementary good to the tying good, i.e. metering the intensity of demand.

Metering is a form of price discrimination, which despite its nasty label and disfavored position in antitrust, is quite often good for consumers.  The static welfare effects of price discrimination are generally ambiguous as some consumers gain and others lose, but likely to be positive if the metering device allows accurate measurement of the intensity of demand since output will increase.  When one also accounts for dynamic consumer welfare gains, price discrimination is likely to benefit consumers unless linked to some independent antitrust wrong.  So what should antitrust law do about these practices?  Ben Klein and John Wiley have argued that price discrimination of this type should amount to a business justification defense (70 Antitrust LJ 599 (2003)).  Others have argued that antitrust should strictly prohibit metering.  It is in light of this debate that I find the following passage from Cass' analysis puzzling:

In rare cases, bundling doesn't promote efficiency. Early tying cases probably were examples of firms trying to exploit a monopoly -- not by extending it to another product, but by using a complementary product (ink, punch cards) to distinguish among buyers based on how much they value the base product (mimeo machines, computers). Those who buy more ink or more punch cards presumably would be willing to pay more for the mimeo or computer. Tying the complementary good allows the producer to extract some of that extra value. Newer theories, depending on very peculiar assumptions, posit that tying can harm competition. Yet, while competition hurts individual businesses, consumers almost never suffer from a firm's decision to bundle products together. In reality, bundling doesn't hurt competition.

Cass appears to take the position that metering is the "rare case" in which bundling does not promote efficiency.  In my view, this is incorrect for two reasons.  First, metering and other forms of price discrimination are extremely common in well-functioning, competitive markets.  Second, metering does promote efficiency for the reasons described above and in greater detail in the Klein and Wiley piece.  My colleague Bruce Kobayashi has posted a comprehensive survey of the expansive bundling literature on SSRN.

I do not mean to minimize the problems, which Cass highlights, associated with divergent international standards.  These are serious issues, and Cass is certainly correct that the South Korea Fair Trade Commission's decision is a blow against efficiency.  However, if it is true that international authorities often follow the United States' lead on substantive antitrust issues, it is increasingly important that domestic antitrust jurisprudence sensibly addresses the ubiquitous practices of bundling, metering, and price discrimination more generally.  The forthcoming SCOTUS opinion in Independent Ink is a valuable opportunity to clarify the law in this area.

Comments

[Robert Schwartz]

Interesting discussion, but Windows in Korea is different product than Windows in the US. Try booting up a copy and you will see why.