Kansas Gets it Right on Minimum RPM

 

Embracing Economic Science

 

Kansas Governor Sam Brownback  recently signed legislation reforming the state's approach to minimum resale price maintenance ("minimum rpm"), thereby conforming the law to the dictates of modern economic science.  (The legislation appears here. An official summary appears here.)  The legislation in question amended the state's Restraint of Trade Act to make it clear that the Act only forbids unreasonable restraints of trade, thereby incorporating into Kansas law the sort of "Rule of Reason" that the U.S. Supreme Court read into Section 1 of the federal Sherman Act in Standard Oil v. United States, 221 U.S. 1 (1911). In so doing, the new statute nullfied the Kansas Supreme Court's recent decision in O'brien v. Leegin Creative Leather Products, 277 P.3d 1062 (Kansas 2012), which had held that the state's Restraint of Trade Act bans any and all minimum rpm agreements, regardless whether the contract is reasonable in a particular case.     

 

The O'brien decision would have made perfect sense as a matter of antitrust policy in, say, 1950.  At that time economists and others were hostile to so-called "non-standard contracts," that is, agreements that limited the autonomy of dealers and others who purchased and took title to a manufacturer's product.  This hostility followed naturally from the state of economic learning at the time. For, as previously explained on this blog, during this era economists and others believed that complete or partial vertical integration could serve only two purposes: first, the realization of technological efficiencies and second, the creation or exercise of market power, by depriving rivals of sources of inputs or otherwise stifling competition.  Because minimum rpm and other non-standard agreements reached across the boundaries of one firm to dictate decisions by other firms, sometimes in other states, such agreements could not produce technological efficiencies.  As a result, economists and others inferred that such agreements, which reduced rivalry, necessarily fortified or exercised market power to the detriment of society's consumers.  The result was the so-called "inhospitality tradition" of antitrust law.  (See pp. 68-80  of this article for a more detailed explanation of the origins of the inhospitality tradition.) 

In 1960, however, everything changed.  In a path-breaking article, Professor Lester Telser explained how minimum rpm could prevent a manufacturer's dealers from free-riding on each others' promotional expenditures, thereby overcoming the market failure that would result if each dealer was left to his or her own discretion when determining promotional tactics. See Lester G. Telser, Why Should Manufacturers Want Fair Trade?, 3 J. L. & Econ. 86 (1960).  Six years later, and as previously recounted on this blog, Robert Bork reiterated Telser's argument and extended Telser's reasoning to non-price vertical restraints such as market division as well as horizontal price and non-price restraints that are ancillary to otherwise legitimate joint ventures. See Robert H. Bork, The Rule of Reason and the Per Se Concept: Price Fixing and Market Division, part II, 75 Yale L. J. 373 (1966).  (See also here,  here, and here for this blogger's views on the appropriate characterization and treatment of such restraints)   

The Supreme Court eventually took these lessons to heart.  Thus, in 1977, the Court, citing Bork and others, overruled a prior decision that had banned non-price vertical restraints such as exclusive territories.   See Continental T.V. v. GTE Sylvania, 433 U.S. 36 (1977).  Two decades later, the Court, again citing Bork and others, overruled a previous decision condemning maximum rpm as unlawful per se. See State Oil v. Khan, 522 U.S. 3 (1997).  Finally, in Leegin Creative Leather Products v. PSKS, 551 U.S. (2007), the Court overruled Dr. Miles v. John D. Park & Sons, 220 U.S.373 (1911), which had banned minimum rpm outright.  Writing for the Court, Justice Kennedy persuasively explained that Dr. Miles was based upon an economic misconception, namely, that manufacturer-imposed minimum rpm is economically indistinguishable from a horizontal cartel among the dealers of a manufacturer's product.  Relying upon the work of Bork, Telser and others, Justice Kennedy explained that, instead, manufacturer-imposed minimum rpm often produces significant efficiencies, by, among other things, preventing free-riding and thus ensuring an optimal amount of promotional expenditures, with the result that per se condemnation of the practice is not justified.  In so doing, the Court followed Standard Oil's requirement that courts employ "reason" to adjust antitrust doctrine in light of "more accurate economic conceptions," that is, advances in economic science.

Of course, the Supreme Court's Leegin decision only governed the federal Sherman Act, which generally does not preempt more interventionist state antitrust regulation, no matter how ill-advised.  Thus, Leegin left states perfectly free to ban minimum rpm as unlawful per se under their own antitrust laws, as some have, thereby reducing the welfare of a state's consumers.  Perhaps Kansas law left the O'brien court with little choice but to reaffirm such a per se ban in 2012.  Be that as it may, the people of Kansas are fortunate to have a legislature apparently committed to conforming the state's antitrust law to the dictates of economic science.

The Antitrust Legacy of Justice Stevens/One Irony

Law360 has published an article on the judicial legacy of retiring Supreme Court Justice John Paul Stevens (pictured above) and, in particular, his influence in some lower profile areas, such as Antitrust Law. The article quotes your humble blogger a few times. Here is a link to the article:

Here also is a link to an article I wrote on the antitrust jurisprudence of Justice Stevens, particularly his approach to non-standard contracts that can overcome market failure, about four years ago. I presented the paper at a conference on the Jurisprudence of Justice Stevens at Fordham Law School and was honored by the invitation to attend and participate.

Two cases not mentioned in the Law360 article also deserve particular mention, and I will also discuss a couple more along the way.   First, Jefferson Parish Hospital District No. 2 v. Hyde, 466 U.S. 2 (1984) and second, Leegin Creative Leather Products, Inc. v. PSKS, Inc., 551 U.S. 877 (2007). Justice Stevens wrote the majority opinion in the former and joined the dissent in the latter. In the former the Court retained the per se rule against tying contracts but significantly altered the test so as to raise the bar for plaintiffs attacking ties.  In particular, the Court held that, to satisfy the "economic power" element of the per se rule, a plaintiff must show that the defendant possesses the sort of market power in the tying product market ordinarily necessary to establish antitrust liability in other contexts. Thus, mere product differentiation would not suffice to establish such economic power, as it had in prior cases. See United States v. Loews, Inc., 371 U.S. 38 (1962) (holding that possession of a copyright established presumption of economic power). As Judge Posner would later note, Jefferson Parish's definition of economic power "doomed" franchise tying cases from the 1960s and 1970s, which had found "economic power" sufficient to establish a per se violation in the mere ownership of a franchise trademark combined with the ability to impose the tie. See e.g. Siegel v. Chicken Delight, 448 F.2d 43 (9th Cir. 1971). By requiring proof of the sort of power required to establish liability in other antitrust contexts, Justice Stevens implicitly rejected those decisions. Indeed, the rejection was not necessarily implicit; the defendant in Jefferson Parish had a 30 percent share of the relevant market and operated under a trademark well-known to actual and potential customers. More recently, in Illinois Tool Works, Inc. v. Independent Ink, Inc., 547 U.S. 28 (2006) Justice Stevens authored the opinion for the Court confirming what many had suspected for years, viz., that mere possession of a patent does not ipso facto raise a presumption that the owner of the patent possesses the sort of economic power necessary to establish a per se unlawful tying agreement. Justice O'Connor had said the same thing 20 years earlier in her concurrence in Jefferson Parish.

Jefferson Parish, then, is an example of how Justice Stevens helped incrementally undo some of the more extreme manifestations of antitrust law's inhospitality tradition, as he had helped to do in Continental T.V. v. GTE Sylvania (where he provided the critical 4th vote in favor of granting certiorari in the first place and then the critical fifth vote in favor of Justice Powell's masterful opinion). Sylvania rejected and overturned the per se rule against non-price vertical restraints such as exclusive territories and location clauses, holding that such non-standard agreements can facilitate the production of promotional information and thus enhance competition between manufacturers, so-called "interbrand competition." In NCAA v. Bd. of Regents of the University of Oklahoma, 468 U.S. 85 (1984) he cited Sylvania for the proposition that even horizontal restraints that reduce rivalry can in fact enhance interbrand competition and thus consumer welfare. Lower courts have properly read NCAA and Sylvania as undermining previous decisions purporting to ban as unlawful per se even horizontal restraints that are ancillary to a legitimate joint venture. See Topco v. United States, 405 U.S. 596 (1972) (banning as unlawful per se horizontal division of territories ancillary to legitimate joint venture). See e.g. Polk Brothers v. Forest City Enterprises, 776 F.2d 185 (7th Cir. 1985).

Leegin, of course, was a different kettle of fish. There Justice Stevens joined Justice Breyer's dissent, rejecting the majority's decision to overrule Dr. Miles v. John D. Park and Sons, 220 U.S. 373 (1911), which had banned minimum resale price maintenance. Justice Breyer's dissent is quite unconvincing. He invokes stare decisis in favor of retaining Dr. Miles, but in so doing contradicts several of the Court's previous decisions articulating a unique approach to stare decisis in the antitrust context. That is to say, while he invoked "stare decisis," he ignored caselaw repeatedly establishing that courts can (and should) adjust antitrust doctrine, overruling prior decisions if necessary, including at least one decision he joined --- State Oil v. Khan, 522 U.S. 3 (1997) (a unanimous opinion by Justice O'Connor).  Indeed, as I have argued elsewhere, the whole notion of a Rule of Reason, articulated in Standard Oil v. United States, 221 U.S. 1 (1911) (discussed in great detail in a subsequent post) implies that courts will apply the best version of economic theory when evaluating trade restraints and, moreover, will adjust antitrust doctrine in light of advances in economic theory. Or, as Justice Stevens himself said in National Society of Professional Engineers v. United States, 435 U.S. 679 (1978):

"Congress, however, did not intend the text of the Sherman Act to delineate the full meaning of the statute or its application in concrete situations. The legislative history makes it perfectly clear that it expected the courts to give shape to the statute's broad mandate by drawing on common law tradition. The Rule of Reason, with its origins in common law precedents long antedating the Sherman Act, has served that purpose. It has been used to give the Act both flexibility and definition, and its central principle of antitrust analysis has remained constant."

Those common law precedents, of course, required courts to reconsider and abandon doctrine when economic theory undermined the economic premises of that doctrine.  See Alan J. Meese, Price Theory, Competition and the Rule of Reason, 2003 Illinois L. Rev. 77, 89-92.

It's unfortunate that Justice Stevens did not prevail upon Justice Breyer to change his mind and join the majority.

Let me note a final bit of irony. Justice Stevens has repeatedly worked to limit the Constitution's protection for economic liberties dissenting, for instance, in decisions that provided modest protection for property rights. A classic case is Nolan v. California Coastal Commission, 483 U.S. 825 (1987) where a local agency attempted to condition the grant of a permit on a property owner's "agreement" to turn over a chunk of his property to the state, for purposes unrelated to the permit, without compensation. While the Supreme Court voided the condition as a violation of the Takings Clause, Justice Stevens dissented. At the same time, in National Society of Professional Engineers, mentioned above, Justice Stevens embraced the Standard Oil decision "hook, line and sinker." Standard Oil, in turn read the Sherman Act narrowly so as to avoid striking the statute down as inconsistent with the 5th Amendment's guarantee of liberty of contract. See Meese, Price Theory, Competition and the Rule of Reason, 2003 Ill. L. Rev. at 83-89. A broader reading, the Court said, would void all sorts of ordinary agreements and grind commerce to a halt. In the very same way, in National Society of Professional Engineers, Justice Stevens pointed out that reasonable commercial contracts are a sine qua non of productive activity. He also recognized that courts should not ban reasonable restraints and defined "unreasonable" in the same way the Standard Oil Court defined that term, namely, producing harm in the form of higher prices or reduced output due to an exercise of market power. By embracing Standard Oil and its Rule of Reason, Justice Stevens, perhaps unwittingly, embraced the very economic liberty he often tried to undermine in other contexts.