Buyer power : economic theory and competition policy towards the retail sector
The main international antitrust institutions within the last ten years have all
devoted significant resources to solving one particular problem. The problem of how to
treat antitrust cases, and in particular merger cases, that involved firms operating in the
retail sector has been considered in Britain by the Office of Fair Trading and the
Competition Commission, in the US by the Federal Trade Commission, by the
Directorate General Competition (DGComp) in the European Union, and finally, in an
attempt to compare and coordinate international approaches, by the OECD. At the same
time, independent academic research had also started to devote more attention to the
economic theory that could be employed to analyse the retail sector.
An important factor behind this relatively sudden growth of interest in the
economics of the retail sector has been the sharp rise in concentration that the food retail
sector in particular has experienced in most western economies during the past 20 years
or so. The change in concentration was accompanied by a change in consumers'
shopping habits and has brought about a change in business practices, in particular in
retailers' relations with suppliers.
This is not a change that has taken place everywhere. Concentration indexes vary
substantially across European states. Great Britain is one of those markets where the
retail sector is relatively mature with retail chains dominating the marketplace at the
national level. At the other end of the spectrum lie countries such as Spain, Greece, and
Nicola Mazzarotto © 2005
Italy where concentration is still relatively low and consumers' shopping habits appear
to still be quite traditional.
Changes in business relations have, in some cases, been met by organized political
responses. In both France and the UK, farmers' associations have complained strongly
of an alleged monopolistic power that national retail chains exploited to impose unfair
contract terms upon their members. In the UK, consumers associations organised the
"rip off Britain" campaign with the aim of tackling the supposed monopolistic origin of
international price differentials.
For most antitrust authorities in the second half of the 1990s the need was urgent to
find a framework within which to analyse mergers between retail chains in markets
where concentration was already high. These mergers involved issues that were not
much treated by economic theory, such as the role of specific contractual clauses
imposed by retailers on their suppliers or, more generally, the implications of "buyer
power". Buyer power can be thought of, broadly speaking, as the market power that
retailers enjoy vis-ä-vis their suppliers, for competition. Despite being used in different
contexts, however, this term does not always carry the same meaning. The first chapter
discusses the use of this term by antitrust authorities, before reviewing the most relevant
theoretical literature that has addressed the issue of buyer power in recent years.
In 1999, following a first wave of independent as well as commissioned theoretical
research, the European Commission's DGComp was given the opportunity of
employing it by the notification of a merger between two major Austrian supermarket
chains: Rewe-Billa and Meinl. Chapter 2 analyses the principles of this decision' in
detail. This chapter also argues that the principles established in this decision are
representative of the Commission's "approach" as they were subsequently utilised to
assess other mergers in food retailing as well as in other retail sectors.
This Decision represents, in my view, an opportunity for two main reasons. First, it
allows us to clearly identify the principles upon which the Commission, more or less
explicitly, judges a retail merger to be anticompetitive and allows us to check whether
these principles are supported by economic theory. Second, it allows us to identify
where policy implementation could benefit from further developments in economic
Chapter 2 is motivated by these two ideas. It highlights areas where the
Commission's approach seems weak. These are mainly in the field of market definition,
' Decision1 999/674/EC- Rewe/Mein(lO J L 274/1,23/10/1999).
at various stages of the supply chain, and in its use of the theory on buyer power. These
themes then inform the theoretical work in the subsequent chapters.
The third chapter focuses on market definition, analysing the Commission's
practice by reference to a simple stage-game model of bargaining between a single
manufacturer and several retailers. The results show that the Commission's approach to
market definition at the procurement level, i. e. where retailers act as buyers from
manufacturers, can give misleading results in the competitive assessment of the merger
if the assumption that the Commission makes on the origin of buyer power is violated.
This assumption states that buyer power originates from the size of the orders that a
buyer can place In simple terms: the larger buyer pays the lower price. In the second
chapter an alternative view is put forward, which stresses the importance of competitive
conditions in differentiated markets. If retailers are asymmetric in that they sell in
distribution markets that differ for their degree of seller market power, and their
bargaining power vis-a-vis suppliers is linked to those competitive conditions, then the
Commission's approach may not capture buyers' dominance in the intermediate market
and may give misleading indications. This chapter then suggests some changes to the
Commission's practice of defining procurement markets that could address the current
The fourth chapter extends the model of chapter 3 to look at retailers' procurement
strategies. In the Rewe/Meinl decision it was reported that Rewe did not coordinate the
purchases of its international subsidiaries when buying from large international
producers. This is a puzzling fact when one thinks that buyer power is directly related to
buyer's size. However, chapter 4 shows that if buyer power is determined by
competitive conditions in the distribution markets, then not to coordinate international
purchases can be a profit maximising strategy.
The fifth chapter addressesth e issue of the origin of buyer power formally and in a
more general setting. In the model retailers compete for final consumers around a circle
and bargain with a single monopolist manufacturer, over a linear price and a two-part
tariff contract, in a way that can be described by a Nash Bargaining Solution. The
chapter compares the effect of different types of mergers on the merged parties'
bargaining strength. The results point to the size of the merged entity being a misleading
proxy for its buyer power and suggest that using a modified version of Shapiro's
diversion ratios, which are termed "buyer diversion ratios", is a better way to analyse
the buyer power implications of mergers between retailers.
Finally, chapter 6 concludes considering the main results of the thesis in terms both
of economic theory and competition policy. The chapter also discusses the limitations of
this thesis and identifies areas were the research could be taken forward.