Proceedings of the Standing Senate Committee on
Banking, Trade and Commerce
Issue 4 - Evidence - April 29, 2004
OTTAWA, Thursday, April 29, 2004
The Standing Senate Committee on Banking, Trade and Commerce, to which was referred Bill C-249, to amend the Competition Act, met this day at 11:06 a.m. to give consideration to the bill.
Senator Richard H. Kroft (Chairman) in the Chair.
[English]
The Chairman: Our first witness this morning is Mr. Schwartz, an economist and past member of the Competition Tribunal. We have had the pleasure of your company before Mr. Schwartz. We welcome you back again.
I believe you have an opening statement. Please proceed.
Mr. Lawrence P. Schwartz, Economist, Past member of the Competition Tribunal, As an individual: Honourable senators, I come to you with a background in economics. I had the singular honour of serving our country for the past five years of my term as a full-time lay member of the Competition Tribunal. I sat on panels for various cases, including Air Canada, Canadian Waste, a variety of consent order cases and a case involving the merger of Superior Propane and ICG Propane.
I hope I can contribute to the deliberations of this committee through my independence. I am not working for anybody who has an issue in this matter or for any law firm or client who has an issue coming before the bureau or the Competition Tribunal. Indeed, my contribution would be my knowledge of the history of the Competition Act and why certain things are there, including the defence of efficiency in section 96 that Bill C-249 addresses.
My position is very simple. This proposes a major change in Canada's competition policy, not a minor or trivial one. It is completely lacking in economic support.
I believe section 96 works well. It works as it is intended to work. The bill on the other hand is unnecessary and possibly harmful. It is premised, if I may say, on a misunderstanding of the role, the intent and the purpose of merger law in our Competition Act.
In regard to the bill, it removes the defence of efficiency to an anti-competitive merger and makes efficiency, instead, a factor that the Competition Tribunal may consider in its decision as to whether this merger violates section 92. I emphasize the words ``may consider.'' At the moment, under the efficiency defence in section 96, gains in efficiency must be considered. There is no discretion. One of the things this bill would do would make efficiencies a totally discretionary factor. No matter how large they are, the tribunal would have the discretion to ignore them completely when deciding whether a merger lessens competition substantially. I note the discretionary element that Bill C-249 contains.
Also, the bill speaks to benefits to consumers. The efficiencies that may be considered have to be such as to provide benefits to consumers, including competitive prices and product choices.
In my reading, there is a little ambiguity in this. I read from it the requirement that any efficiency gains the tribunal may consider have to be such as to reduce the price down to the competitive level.
That rather assumes that we know what the competitive level is. In the real world, on a day-to-day basis, I do not know where the competitive price is. I have an idea. Things that are clear in economic theory are not necessarily so clear in day-to-day business transactions. I am not saying it cannot be estimated, but it will be difficult.
What do you do when the price before the merger at issue is already above the competitive level? Under those conditions, if you are to require efficiency gains to be considered, it ought to be enough that they lower the price below the pre-merger price. I do not understand the necessity of requiring that the price decline all the way to the competitive level. As long as the price goes down, we are all better off. I am not sure I understand why the price must be the competitive price. Although, perhaps, in many cases, it might not matter, there will be cases in which it will matter.
The worrying consequence for me is that because efficiency becomes a discretionary factor, the emphasis on efficiencies will be diminished. We will end up with the American approach or the more rigid European competition regime that I will submit to you is the opposite of what was thought of in the 1986 amendments to the Combines Investigation Act that created the Competition Act and gave us the efficiency defence as we know it.
The central focus on efficiency in merger review accounts for why Parliament made efficiency a defence rather than a factor in 1986. It did not want to risk going the American route in which things would be so discretionary they might not get any weight at all or get weight in such an ambivalent way that we would not know what the policy was.
As to the history of the act, I suspect that many Canadians wonder where section 96 as it appears today came from. It comes from a 1969 report of the Economic Council of Canada, which on a reference from the federal government undertook a study of competition policy in an attempt to amend the old Combines Investigation Act. Many of you will know that that act made merger and monopolization a criminal offence. On the merger side, there were no convictions because the Crown could never establish to the criminal standard of proof that the merger violated the act.
One of the things the Economic Council of Canada said was that criminal law is the wrong framework to evaluate mergers. They also said that merger are normal. There should be no presumption that a merger is bad. It is part of normal economic activity. It should not be criminal. They took notice based on their research of the economic evidence that suggested that Canadian factories and plants were below world scale, serving mainly the home market protected by high tariffs and trade barriers, and prospectively, in the council's view, unable to compete in the forthcoming world of more liberal trade and investment.
They said that, for these two reasons, to make competition policy more effective, we should make merger a civil offence rather than a criminal offence. They also said that they need the civil law regime to bring efficiency into consideration. The economic council report of 1969 explicitly said that, with respect to mergers, there should be a defence of efficiency. They acknowledge that it was possible for an anti-competitive merger to create gains in efficiency so large when judged against the harms to competition that the merger should nonetheless be permitted.
I should like to emphasize a point that you will understand. The Economic Council of Canada was an independent and research-based organization. It was in that research-based framework that this efficiency defence had its birth.
Honourable senators will also know that the attempts to amend the Combines Investigation Act throughout the 1970s and 1980s was a tortured process. My understanding is that that was due to the concern of the business community about conspiracy provisions. Others perhaps can speak to that.
There was not much concern about the merger law being civil and even having an efficiency defence, although the first efficiency defence that the government introduced following the report of the Economic Council of Canada limited the availability of the defence to those cases where the gains in efficiency would be passed on to consumers in the form of lower prices. That is clearly stated in Bill C-256.
That bill did not go anywhere. It was replaced a few years later. The history is in my report.
The next efficiency defence dropped the passing-on requirement and said that they want the efficiency defence but that it would not be available where the merger would result in complete control of a product in a market. That kind of gets to the question of monopoly. That provision did not survive.
The Liberal government introduced Bill C-29 in 1982. That was a simple statement, as I put in my paper to you. There were no limitations on the defence of efficiency. There was no pass-on requirement and no limitation in the event of monopoly. The Conservative government that finally passed the 1986 amendments to the civil side of the Combines Investigation Act — they renamed it the Competition Act — are as we have today.
There have been various attempts over the history of this act that have been thrown aside to limit the availability of the efficiency defence. Why was that? I commend to you that the reason was that the people who drafted the more recent 1986 amendments saw the fundamentally economic character of the defence of efficiency. They wanted to stop anti-competitive mergers, but they also wanted to take the benefits of efficiency from anti-competitive mergers when they are large enough to exceed the harms to competition.
There are other efficiency-oriented provisions on the civil law side of the Competition Act. I will note section 79. We now call it abuse of dominant position. It was called the offence of monopolization. There is a part of section 79 that says that if the challenged practice leading to the abuse is the result of superior competitive performance, then the tribunal shall consider that factor. I emphasize the use of the words ``shall consider.'' They cannot avoid it. This suggests that an anti-competitive practice could be nevertheless sustained if it resulted from superior competitive performance, among other considerations.
Section 75, refusal to deal, had its roots in protecting small business from arbitrary terminations of supply by dealers and manufacturers. There have been a couple of cases before the tribunal on section 75. The small businessman always wins, as it should be under section 75 as it had been. It is clear.
More recently, Parliament amended section 75 so that if someone feels that they have been terminated in their supplies, they not only have to show their own harm but also they have to show that competition itself has been adversely affected. This is not the same as substantial lessening of competition under the merger provisions, but it goes to the same idea.
We have here another example of how the Competition Act is evolving on the civil side, that we need an economic focus in our Competition Act to promote our long-term economic development.
The final point I would make on this is the rather strange provision that you may see in the statute, section 92(2). Section 92 empowers the tribunal to make an order when a merger is found to be anti-competitive. However, section 92(2) says that if the only evidence that comes up to the tribunal is market share or concentration evidence, the tribunal cannot find a substantial lessening of competition. If the only evidence that comes up is that this merger will raise market share of the merged company from 20 per cent to 30, 40 per cent to 50, or 50 per cent to 75, whatever percentage you want to name, that is insufficient. The Commissioner of Competition has to adduce other evidence because market share and concentration is not enough.
You may ask why this is. It is clear to me that if we were to rely, as the Americans have largely done, although they have come off of it in the last 20 years, on market share evidence, then forget it, we will never have a merger that is permitted in Canada because market share in many of our industries is already high. Hence, if we were to rely solely on market share or concentration evidence, no merger of our larger firms would ever be entertained. They would all be found to lessen competition substantially.
I submit to you that the original thinking of the economic council was that we need mergers to rationalize our industry, to promote world-scale plant and equipment, or what I would simply call economic efficiency in our industry, and that this is why, under section 92(2), we cannot rely solely on evidence of market share.
We have a number of parts of the civil side of the Competition Act that are more economically focused than the criminal side — bid-rigging conspiracy, predatory pricing, which are rigidly focused and properly so on consumer welfare.
I believe the intent of Parliament was very clear. The 1986 amendments to the Competition Act, or the old Combines Investigation Act, are not part of social policy, except maybe in some very indirect sense. They represent fundamental economic framework legislation similar to the laws of corporation, bankruptcy, and intellectual property.
I draw attention to an extract in my report to you from Minister Côté, in 1986, when he introduced this Bill C-91. This is what he said, among other things, in my extract: ``Mr. Speaker, economically oriented major statutes such as the laws on competition, bankruptcy, corporations, copyright and trademarks provide essential tools for the orderly trade as they establish the basic rules for a competitive and fair market-based economy.''
This tells you something, that Parliament viewed the Competition Act on the same level as the laws governing intellectual property, bankruptcy and the corporate law.
I submit to you that those laws are sensitive to social policy but that social policy is not why they are there. We need these fundamental statutes to guide our long-term economic development.
When people say to you that something else was intended — and I must say I believe a previous witness has taken this same speech, a portion of it and not told you what I have just told you — I am very discouraged by that. The idea that the Competition Act was mainly social policy is patently false. It is not that Parliament cannot change it, but there will be a cost in my view to doing so.
I have a few final remarks. There is no sense in which an anti-competitive merger that promises gains in efficiency will always win. Section 96 calls for a trade-off; — that is to say, it is possible that the gains in efficiency would be so large that compared to the harm to competition the merger should be permitted even though it is anti-competitive. That is what section 96 does. It does not say that the anti-competitive merger will always survive because it can show some gains in efficiency. I believe the word is ``trump.'' Efficiencies do not trump anything in the merger sections of our law. Our law now requires what I have just referred to as a trade-off.
So, yes, there will be mergers that result in higher prices, but they will be very rare. I will say to you that it is my view, as I stated in my submission, that the propane case could have been won. There is enough information on the record to show that the commissioner did not adduce all of the information in his possession. Why that was, I do not know. I have asked this question many times, and I do not get answers. I am told that legal opinions were given; I do not know what that means.
As the tribunal said in its second decision in the propane case, if the commissioner had introduced this information properly, and if it had withstood rebuttal, there is every reason to suspect that the propane merger would have been stopped under the approach that the tribunal took in its first decision, which was the approach in the commissioner's merger guidelines, since disavowed.
I do not believe in any way, shape or form that the decision in Superior Propane opens the floodgates. You have with you a couple of extracts from my written submission; I believe the clerk distributed those extracts.
One is not included in my written submission — and that is extract ``C'' at the bottom. It addresses this point. Professors Mathewson and Winter thought the propane decision followed the right procedure but came to the wrong conclusion. In retrospect, they are probably right. If the commissioner had adduced this other information that I alluded to, the bureau might well have won.
Extract C is there for you to read. Mathewson and Winter ask, ``Will Superior Propane open the flood gates for mergers in Canada?'' I will not go into it; you can read it. They clearly conclude that the answer is no and they state Superior Propane should have been won by the Competition Bureau.
Finally, let us deal with this point about convergence. Here, I would refer you to extract A from the sheet. Extract A is from the 1969 interim report of the Economic Council of Canada. It hits the convergence issue very nicely. This is what they said about the difference between Canada and the United States:
In drawing lessons from abroad, appropriate allowance must of course be made for differences between the Canadian and foreign economic environments.
I will not read it all; it is there for you to read.
However, it is clear that in 1969 the Economic Council of Canada said that we cannot afford the regime of American antitrust with its rigid focus on consumers. We need a more economically sensitive competition policy.
Thus, when people come before you, and in the public domain, and say that we have to converge our laws, well, maybe when our economy gets to be that size we should consider it.
I have a chart at the end of my submission where I have put some statistics together for Canada versus the United States. I call it economic openness. It is simply exports plus imports as a fraction of gross domestic product. Canada is up around 80 per cent. The United States is around 20 per cent. I am not prepared to support the convergence idea just yet.
I draw to your attention to a recent book by Israeli competition law professor, Michal S. Gal. His book has achieved, I understand, much attention. He studied in Canada in the last number of years, at the University of Toronto law school, and last year published a book entitled Competition Policy for Small Market Economies. I understand that this book has been seized on in competition law and policy circles with strong endorsement that the smaller economies should not go the way the Americans have gone or the way the European Union has gone. We need efficiency in our long-term economic development statutes. I commend the book to you.
Finally, it is interesting to me that the idea that there is something wrong with section 96 as it is came out only during the Superior Propane case. It was only after the case was lost that we began to hear statements that Canada does not need an efficiency defence. It was only after they lost the case that they said that; they did not say that before the case. Their own merger guidelines, issued in 1991, reflect the basic concerns of the Economic Council of Canada. Those guidelines were reaffirmed by the Competition Bureau, in 1997, when it put the same comment into its bank merger guidelines.
Nevertheless, it is possible that Canada does not need the defence of efficiency in its merger law, but I should like to see the real economic evidence of that. If it is true that our plants and factories have reached world scale, then, arguably, we would not need the defence of efficiency.
It is not enough to go before government without such evidence and say that this law must be changed. I do not particularly care how many people call themselves experts and come before you and say that we do not need it; I am prepared, as an economist and as a social scientist, to say that they could be right, but I would like them to their homework of the sort done by the economic council in its 1969 report that led it to make the recommendation. Many explosive comments have been made about this bill, which I reject out of hand.
My final position is that the efficiency defence, as we know it, works well is important for Canada's long-term economic development strategy. I submit that Bill C-249 should be rejected entirely pending economic evidence. I support the recommendation of the House of Commons Committee on Industry, Science and Technology that in the wake of the Superior Propane case a panel of experts be established to give an opinion on how section 96 should be viewed by Parliament and, perhaps, by the tribunal. Now that the propane litigation is finally over, that committee could take a look at what the tribunal did in the second propane decision. However, that recommendation was not accepted. The government did not produce that panel of experts and that report; and I do not know why.
If Parliament, after all I have said and all everyone else has said, wishes to make efficiency gains a factor to be considered rather than a defence, so be it. I advocate a change in Bill C-249 from ``may consider'' to ``shall consider'' in section 79. The consumer pass-on requirement should be removed because, in my mind, it becomes a prescription for avoiding consideration of efficiencies entirely.
Senator Meighen: Welcome, Mr. Schwartz. Speaking as a lawyer who is familiar with the phrase of on the one hand one thing but on the other hand the other thing, I congratulate you for being clear in your point of view. It is easy to grasp on which side of the issue you stand.
I think that for the most part you answered my question in the last part of your presentation. I do not want to put words in your mouth, but I understand your preferred course of action would be to abandon Bill C-249 until such time as there is empirical evidence that the efficiency defence is no longer required.
Mr. Schwartz: That is correct.
Senator Meighen: Your second and less favoured solution would be to adopt the amendment that you proposed a moment ago.
Mr. Schwartz: It is a much less favoured view, in my opinion, but if Parliament chooses to do this, I hope they will make the changes that I have suggested.
Senator Meighen: Did you follow the deliberations before the House of Commons committee? I ask that because there is suggestion that the full discussion did not take place, for whatever reason.
Mr. Schwartz: I believe that is the case. I did follow it and I sent this committee a letter to say that this is an important change that has been rushed. I congratulate the chair of this committee for not rushing it.
Senator Meighen: If we were to pursue the amendments that you propose, where would that leave us as opposed to the status quo? Would we be 80 per cent there or 20 per cent there?
Mr. Schwartz: That is difficult to say because I am an economist and not a lawyer. The economic council felt strongly that efficiency in merger review should be a defence because, I believe, if they deemed it not a defence, then ways would be found to get around considering it.
Senator Meighen: Would that occur even if it were a company such as Shell?
Mr. Schwartz: That is my second-best attempt to get around it. You will hear other people say that it could be made a factor for consideration; however, I should leave the competition bar to speak to that. I hope they would agree with me that if that is the route, ``may'' should be changed to ``shall.'' As I understand these things, as an economist and from my experience as a member of the tribunal, lay members are not trained in consideration of evidence in a quasi- judicial setting. That was something I learned.
The lay members may feel that they have discretion to do things that the act does not confer on them. If it is the will of Parliament that efficiency should be considered, then the word has to be ``shall'' because if ``may'' remains in respect of ``consider,'' it would be possible for a lay member, or even a judicial member, to be purely arbitrary and veto a merger for any reason whatsoever. Even though you cannot convict under section 92 on the basis of market share, someone could say that he does not like the market share and therefore would not consider efficiency gains. This truly goes against the philosophy of section 92, in which market share was never to have that kind of significance. I make this point in my written submission better, perhaps, than I have made it here.
I have the sense that we are better off with efficiency as a defence rather than as a factor to ensure that efficiencies are not ignored. American history is compelling and it has sway over all of us. I do not know if I want to take the committee's time, but it is in our second decision in the propane case. One of the first to consider efficiencies was the case of Brown Shoe, a shoe retailer, which acquired one other company. It claimed significant cost savings at the first stage of the litigation and the U.S. court found that the efficiencies, in a sense, emphasized the anti-competitive nature of the merger because it meant that competitors would find it more difficult to compete with a merged company, even though the increase in market share was relatively small.
When it reached the Supreme Court, Brown Shoe took the position that its mergers created no efficiencies whatsoever because it knew it would lose. The government prosecuting agency said that there were tremendous efficiencies in the merger and it should be deemed illegal because it would lower its price. This firm, the government said, produced so much in the way of efficiencies that the merged company would lower its price, thereby making it harder for smaller businesses competing with the merged firm.
This is a conflation of so many issues that the economic council was aware of because the Brown's Shoe case was decided in the U.S. Supreme Court in 1962. This kind of perversion where economies work against the merger rather than for is a topsy-turvy interpretation. I submit that this is part of why efficiency is a defence. It is explicitly, statutorily a defence so we do not end up with the American situation.
Senator Tkachuk: Who won Brown Shoe?
Mr. Schwartz: The government won. That set off a train of cases in the United States that became surprising. I did not put all of that into my submission to you, but the second tribunal decision in the propane case did review the American experience and the train of cases that came in the wake of Brown Shoe. You will find them very puzzling.
I have the decision with me. It was United States v. Philadelphia National Bank. Philadelphia National Bank said, ``This merger would be good for the economy.'' They did not claim efficiencies, just that it is good for the economy. The Supreme Court said, ``We are not going to contest that this merger is good for the economy.'' The court said this, as quoted by the tribunal: ``We are clear, however, that a merger, the effect of which may be substantially to lessen competition, is not saved because on some ultimate reckoning of social or economic debits and credits, it may be deemed beneficial.''
There were other cases in the United States. Philadelphia National Bank and Brown Shoe are perhaps the leading decisions. In the United States, even by now, it is clear they do not follow those dicta any longer. The United States is pretty far away from where we are in terms of allowing efficiencies as an affirmative defence. The U.S. is nowhere near there.
There was a lively debate in American antitrust as to whether they should not move more in that direction. My prediction is that they will because the nature of the American economy has changed, as have all economies. There are not the smoke stack industries any longer, and they may need efficiency defences in the future.
Senator Massicotte: In the way the act is currently worded with the efficiency as a defence, some people would suggest that the wording is vague and not clear to the industry and practitioners how to interpret and how to apply that defence argument.
You sat on the tribunal for quite a period of time. From a practice sense, how is that applied? How do you measure whether the efficiency argument is greater than the competitive effect on the pricing to the consumers?
Mr. Schwartz: You are referring to the law the way it is today?
Senator Massicotte: Exactly.
Mr. Schwartz: In the propane case, which was the only case in 16 years since the 1986 amendments, there was one case that got to the tribunal in which the efficiency defence was invoked. It goes to some extent to show how infrequently it will be used.
The merging parties hired professional engineers and accountants to do valuations. The engineers had expertise in logistics because Superior Propane is a distribution business. These engineers, who had experience in logistics and transportation, put together their estimate of how many trucks would be needed, how many drivers would be needed, to do the same amount of work the two firms were doing. Having regard to that, as well the elimination of two head offices, presidents and computer systems, they provided estimates.
The burden fell to the commissioner of competition to rebut those claims. The commissioner had experts, and they did make some effective rebuttal. The merging parties claimed $40 million per year of cost savings for 10 years. The commissioner claimed the figure was lower. I think they said $17 million a year in cost savings. The tribunal had to figure out which of the competing claims was correct. We settled with a savings of $29 million.
Senator Massicotte: What happens with that number? I understood from your earlier comments that it is not an argument about numbers; it is about the impact to the economy. How does that quantum sum get interpreted to say that, in spite of the fact that the consumer will pay more, Canada gains. How does that get interpreted?
Mr. Schwartz: When you put the two firms together, resources will be redundant and found to be redundant. Those resources of capital and labour will be redeployed elsewhere through the market system. If the benefit from that redeployment is larger than what economists call the ``dead weight loss,'' the harm to competition or the inefficiency — you might say we compare the efficiencies gains produced by the merger with the efficiency losses produced by the merger. If there is a net gain to efficiency that offsets the negative effect, we say the merger contributes to the efficiency of the economy. The higher price that may be paid is there; there is no doubt about it. However, if we give sole weight to the price effect on consumer, the efficiency gains will probably never pass.
Senator Massicotte: You are saying, for example, that you have $20 million or $40 million in efficiency gains, as a quantum. There is a calculation done about the economic impact of the price increase or lesser competition, and whichever number is the greater wins. Is that it?
Mr. Schwartz: In principle, yes.
Senator Massicotte: Is using those mechanics consistent with the betterment of Canadians from the economic theory sense?
Mr. Schwartz: Yes. That is to say, the negative effect on competition was quantified by the Competition Bureau at $3 million, plus some other components that it found hard to measure, which is legitimate to say, so the tribunal doubled to $6 million to take account of some of the non-quantifiable effects.
The very first decision of the tribunal said that it is $29 million of efficiency gains versus $6 million of negative effects to competition. Therefore, the statutory requirement that gains in efficiency be shown to exceed and offset were met.
Senator Massicotte: That is consistent with sound economic theory?
Mr. Schwartz: Yes.
Senator Massicotte: If that is the case, why is it that an amendment to the act is being proposed, if it is not in Canada's best interest?
Mr. Schwartz: Bill C-249 is motivated by the consumer interest.
Senator Massicotte: Is that a political objective? If it is not in Canada's best interest, why is it being proposed?
Mr. Schwartz: As I have tried to suggest, the economic council and others said that our economy cannot afford to lose significant improvements in efficiency. The economic council knew that anti-competitive mergers lead to higher prices. They said if you believe the gains in efficiency exceed the negative effects on competition, then the Canadian economy as a whole is better off, even if some groups in that economy are made worse off.
Senator Hervieux-Payette: I am puzzled because you always refer to efficiency. In my mind, bigger meant more efficient.
For example, Air Canada is a large firm with the biggest percentage of clientele, but it is not doing well. Another large corporation in Canada, Nortel, is in the same situation. Paramlat is another example. Even those companies that are surviving — for example, Bombardier has a large market share of the production of railway vehicles in the world. In Canada, they are the biggest one. If we look at their size, normally they would reduce the efficiency that you are talking about. Another example is Mercedes, which acquired Chrysler and other Japanese companies, and they have a poor performance.
This theory of efficiency, because you are big and are engaged in merger and acquisition, to my mind, seems to be on a one-by-one case; otherwise, with respect to the theory, I do not see it.
Even with respect to the banks, which are widely held, I am still looking for the evidence that mergers will be in the best interests of Canada, that is would be progress, that many good things will be done around the world if they merge, that we are now so small that we cannot succeed.
I am trying to find the right theory to prove efficiency. Is efficiency big? Is efficiency something that you have to look at case-by-case, or is it just a concept that economists are using, where there are no specific examples of efficient merger? We need to some success stories to prove the efficiency theory. In theory, I have no problem.
In the case of the City of Montreal, amalgamation was supposed to result in efficiencies the less costs, except that we are now told that the costs will not exceed more than 5 per cent of previous costs.
As far as I am concerned, I have a hard time buying this concept, because I have not seen any concrete evidence, in the marketplace or in public administration.
Mr. Schwartz: You are quite right. The notion of size — I do not necessarily say that size and efficiency gains are correlated. In fact, in the last 10 years or so in western economy, certainly in the United States and Canada, we have seen a lot of divestitures, large companies selling off divisions, getting smaller in some sense. They say they are returning to their core. That is simply a business interpretation of saying, ``We will be more efficient if we are smaller.'' That is what it means. Hence, I agree that a business undertaking could be more efficient by getting smaller. However, that is a question that is usually sorted out in the marketplace.
We have, getting to the heart of your question, an adversarial system in our competition law. Whoever wants to invoke the defence of efficiency has to prove it. Therefore, they have to show on normal legal standards under civil law that these gains in efficiency will be obtained on a balance of probabilities. If they can do that and survive rebuttal — I am not a magician. I listen to the evidence from both sides. That is the job of the tribunal, which in some respects is more like a court. It is not like the CRTC or the NEB. We do not have a public interest mandate. We just listen to the evidence. If the gains in the efficiency are there and they withstand the adversarial process, then the tribunal should accept them. Size per se is not the issue.
Senator Kelleher: Yesterday, when we had witnesses before us, they tried to define this nebulous person called the ``consumer.'' What is your definition of what you think this section means when it talks about the consumer?
Mr. Schwartz: That is an interesting observation, senator.
Senator Kelleher: This is one of the problems we are seeing. How do you define who a consumer is?
Mr. Schwartz: It is — sometimes you might substitute the word ``buyer.'' The buyer could be another business. The question comes up, though, and to your point, what if the consumer and the stockholder are the same? We know the anti-competitive merger increases the profits of the merged company, but if a pension fund is a stockholder, and it has a whole range of people of largely middle incomes as its plan members, those plan members ultimately get the profits, via their pension plan. On the other hand, as consumers, they will be paying the higher price.
It was somewhat far-reaching — that is, the understanding that we do not have to worry too much about who the consumer is, especially if he is also a shareholder. This raises impossible questions. Therefore, the focus on excess profits and who gets them and who pays the higher price become almost impossible to answer.
A previous commissioner of competition, Judge Howard Wetston, made this point. This is why the merger guidelines that were produced when he was commissioner are the way they are. He said that it is very difficult to separate the consumer from the shareholder especially when you consider the economy as a whole. We need a simple test that looks at the gains in efficiency versus the harms to the competition in the economy as a whole.
The Federal Court has modified that and instructed the tribunal to do something different. In our second decision, whether I agree with it or not is irrelevant, we did make some changes to the way we looked at these problems, and I would contend that we examined the impact of this merger on the poor. We had data on the lowest 20 per cent of households in Canada and we had consumption patterns. Fortunately, our society is such that there are not that many poor people in our country. When you took the impact of those into account, the gains in efficiency still outweighed the negative effects on the economy plus the impact on the lowest income sector.
Senator Kelleher: Speaking of efficiencies, if you wanted to apply an efficiency standard to Canada's competitive regime, would it be more or less efficient if Bill C-249 were to pass?
Mr. Schwartz: It would be less.
Senator Kelleher: Why?
Mr. Schwartz: In my understanding, it gives primacy to the consumer. We want to think more fundamentally about the role of economic efficiency in the economy as a whole.
Senator Harb: I am puzzled, Mr. Schwartz, by some of your comments when it comes to the efficiency in the market. In dealing with Bill C-249, my colleague raised the issue of the consumer in this equation. For example, when the price of a commodity in the market is produced by two or three companies and they sell to the consumer, do you call it efficiencies when the price to the consumer moves constantly all the way up at the same rate, all the way down at the same rate, always in unison? I am talking about gas prices.
We have something here that might be different. It is vertical integration in the market. We are not talking about mergers here. We are talking about something similar to what Bill C-249 deals with, but on the other side, where you have all of the oil companies using the same pipelines. One of the witnesses yesterday raised the issue of buses or trucks delivering propane, where at one time there were two different buses and now you have one bus and therefore you have efficiencies.
The oil companies have dealt with this issue, and now they have one pipeline that carries the oil from one end of the market to the other. They share commonality.
Where does the consumer come into the picture in talking about efficiencies? Here we have a situation where, even though we have two or three players, the consumer does not see the benefit. Competition is literally nil, first, because we have vertical integration in the market and, second, there is commonality between all the players, whereby we cannot prove that we have price-fixing in the market. We cannot say to company A that it is fixing the prices. There is what we call an understanding in the market. In a way, what brings the companies together is the fact that the same pipeline is carrying their product.
My question to you is this: Where is the consumer, when we talk about efficiency in the marketplace, vis-à-vis your comment that Bill C-249 will not really address efficiency?
Mr. Schwartz: That will be the result. Efficiencies will only be considered under Bill C-249 if they result in the attainment of the competitive price. If you want a competition regime that does that, Bill C-249 will do it. I would not expect that efficiencies routinely would be so large, in those rare circumstances where they matter, as to get to the competitive price. I am not even sure how you would know that you got to the competitive price.
You have raised a number of important issues, one of which is in the gasoline industry, which is not something I know as much about, but I know the Competition Bureau has studied the industry and the practices that you point out.
The concern, as I understand it, is the practice of what is called in anti-trust ``conscious parallelism.'' Efficiencies are, at the first point, not at issue. The question is: What do you do about conscious parallelism?
The Chairman: Can I ask you, witness, are we getting into an area here that is outside of the ambit of the bill?
Mr. Schwartz: Yes, we are. I will go to the senator's major point, if I may?
The Chairman: There are a lot of interesting areas here; I want to be careful.
Mr. Schwartz: You are correct; it is somewhat peripheral.
We must make a choice in some respects. Do we want a competition and, more especially, a merger policy that favours economic development in a longer-term kind of perspective, or will we do what the Americans did for the better part of the 20th century, and that is focus their antitrust laws clearly on the impact to consumers?
This has gotten the Americans into some really puzzling outcomes — I gave the example of the Brown Shoe case. I believe the Americans are moving away from it toward, eventually, something like what we have in Canada. They are not there yet.
I agree with you, Senator Harb. I think the efficiency defence will come into play rarely, but when it is invoked it will not necessarily succeed. I believe the Superior Propane case, on the basis of what I know, should have been stopped. The evidence was not produced.
That said, if there are mergers that invoke the defence and succeed, yes, prices will go up.
The Chairman: Senators, I should like to take an unusual step and inject a little statement of my own here, if I could, because we have a number of unusual circumstances.
First, we are dealing with legislation that we know historically has been very difficult to deal with — like bankruptcy, which we recently had, it is a long list of attempts.
Second, the real political situation is that we do not know from day-to-day whether we will have the opportunity to examine this issue.
Third, we are dealing with a very unusual situation legislatively. We have a private member's bill here. The case was drawn in very narrow terms. It is a response to a decision; a private member's attention was caught by this. He was diligent and examined it thoroughly. There was what I would describe as a less than complete process through the House of Commons in the examination of this bill. We have the Competition Bureau, who has lent its support to it, but it is still a private member's bill and does not stand as government policy.
I was prepared to look at this and give it all of the time that we could seriously on the basis that it was a narrow, simple issue. What we have seen over the last two days, and indeed in the evidence before, is that there is much more to this. When we refer to the complete statement of the minister at the time that the bill was introduced, we are dealing with legislation that is framework legislation as part of seeking economic strength in this country. What every witness has agreed to is that this could be an important element in that legislation.
My reason for making this statement is that I should like to put on the record for the benefit of all witnesses coming forward — and the witness is finished, so this is not something put to him — to put the onus on saying, ``Why are we dealing with this in this context?'' All around the table we are preoccupied with policy issues that, in my understanding, should come through a departmental process, through legislation that will put all of this in a policy context. We do not have the opportunity for that. We have not heard from the department. We have not heard any indication from the policy-makers. We are in a difficult position. Each day we are drawn more into policy considerations and we do not have any of the policy inputs, other than the witnesses that we encouraged to come out to deal with this.
This committee has been put in an awkward position. I am making this statement on the record because we have witnesses scheduled. I would also like both the Department of Industry and the Competition Bureau — and we would make time for them — to both make it very clear to the committee why we are dealing with this as a stand-alone amendment and not part of a comprehensive policy in the context of a review, which we have been told at some level is happening in the department.
I am making this unusual statement because I feel the committee is day by day being put at a greater disadvantage by not being able to look at this in the broad policy context that we should.
I hope I have not abused the prerogatives of the chair, but if we are to proceed usefully it is my opinion that we need guidance from all of the parties as to why this is an emergent situation that must be dealt with as a stand-alone outside of a broader policy context, particularly in view of the fact that there is a review process underway.
I hope this will spark some response from the Department of Industry, the Competition Bureau and from other witnesses who may come before us.
Senator Harb: Have we invited the department to appear?
The Chairman: They have no interest so far.
Senator Harb: What about the Competition Bureau?
The Chairman: We have seen the bureau officials earlier, and they are scheduled to appear again. I should like to have it addressed in the context that I have put it.
Mr. Schwartz, I did not mean to leave you sitting in the chair for this tirade, but thank you very much. I appreciate your being here. It will be no surprise to you that your previous and today's input has been no little stimulus to what I have had to say.
Our next witness is Mr. Townley. It is a pleasure to have you back, Mr. Townley. You are more than familiar with the subject matter of today's discussion. You are more than familiar with the procedures of this place and the history of that which we speak.
I invite you to proceed.
Mr. Peter G.C. Townley, Professor of Economics, Acadia University, As an individual: Honourable senators, you have before you a written statement. I gave the interpreters an oral statement that I will now change to reflect your questions, although I might need you to restate that later.
I have a brief statement for you, which I will read.
Honourable senators, thank you for inviting me again to discuss some economic aspects of merger policy with respect to section 96 of the Competition Act and Bill C-249.
My perspective is that of an academic economist. You have copies of my written and oral testimony from last November. I also enclosed a brief guide to the various standards relevant to section 96. My written testimony for this meeting explains why you have all of the other documents.
Determining whether a merger, a policy, a statute or a government project would enhance or diminish the overall well-being of people, especially when it would advantage some people and disadvantage others, is what applied welfare economists do. I have distributed my curriculum vitae in order to qualify as a scholar in this field. As an expert witness in the Superior Propane case for the then Commissioner of Competition, in August 1999 I swore an affidavit regarding an economic problem — that is, find a section 96 rule that would best stop mergers that would diminish the well-being of Canadians while allowing mergers that would improve the well-being of Canadians.
The result of that academic effort has been called the balancing weights approach. Its essence is this: It is not enough to say that if the gains from a merger exceed the losses, then approve the merger. It is necessary to go further to examine the income characteristics of those who would gain and those who would lose. If the distributional efforts of a merger would be adverse, that is, if the merger would cause a transfer of wealth from poor consumers to relatively wealthy firm owners, then this equity impact must be weighed against the net efficiency impact.
The Federal Court of Appeal found some favour with this approach and in the re-determination decision for Superior Propane, the Competition Tribunal did, indeed, make the new jurisprudence operative. It is based on sound economic principles and has been demonstrated to be workable in an actual case.
A positive feature of the balancing weights approach is that it is flexible. This is necessary because the purpose clause of the Competition Act names multiple objectives. This approach takes account all of the case specific facts and circumstances. Bill C-249 is inferior to the balancing weights approach because it lacks the flexibility required to balance the objectives of the act in all circumstances.
The most basic economic policy objective is to improve the well-being of citizens. The balancing weights approach accomplishes this. Adoption of Bill C-249 would jeopardize the well-being of Canadians.
I am aware of a source of great confusion that I wish to address briefly. It would appear to be the perception of some proponents of Bill C-249 that the current law is the total surplus standard — sometimes called the total welfare standard. They are misinformed.
In its decision of April 4, 2001, the Federal Court of Appeal rejected the total surplus standard because of its lack of flexibility. It does not account for the potential for merger-induced, adverse distributional impacts. The court wrote favourably of the balancing weights approach because of its flexibility. It was able to account for adverse distributional impacts. Rejection of Bill C-249 would leave us with this flexible approach, not the total surplus standard.
Bill C-249 raises complex issues that merit much review. I spent two years as a T.D. MacDonald chair at the Competition Bureau, where my role was to provide independent, economic advice from an academic perspective. It is from this same perspective that I will attempt to answer any questions you may have today.
I will now wing it.
The House committee report, which I did not truck along, has recommendation 28 in it. Recommendation 28 says that you should get together a panel of experts and determine how efficiencies fit in across the entire federal Competition Act.
The Competition Bureau took on the task of producing a report, but it was not on that topic. The commission asked Professor Thomas Ross of the University of British Columbia to see how efficiency defences fit in around the world in several countries. We already knew what other countries were doing. There is an issue that has not been addressed, and it was meant to be addressed.
The chairman asked the question about whether this should be part of wider consultations to get the policy. There is a good reason for going to wider consultation right there. There is the question of how efficiencies fit into the merger provisions of the act. The House committee already asked how they fit in everywhere across the act. That has not been answered.
My knowledge from being at the Competition Bureau is that efficiencies were very much a topic. When you start talking about splitting provisions into criminal and civil, one would have an efficiency defence, perhaps, others not. In my mind, this is not something that can be looked at on a piecemeal basis. The elements of the act fit together.
Mr. Schwartz talked about the U.S. history and how they view mergers. There is the statute. There are guidelines. There is how antitrust agencies administer the law — whether they prosecute. We have evidence from officials at the Federal Trade Commission and the U.S. Department of Justice that the Americans are moving towards our approach. I am not saying they would move all the way toward the balancing weights approach that is now the jurisprudence.
When I was at the bureau, I was sent twice to Washington — once with a small group of Federal Trade Commission economists and lawyers and once in a bigger group. They were looking at how we fit efficiencies into the act. The Brown Shoe case was very, very odd. They knew it. They were trying to encourage firms to claim efficiencies.
I would certainly recommend that any consideration of changing sections 96 or 93 should be part of a broader package. Bill C-249 would fundamentally change the purpose clause, section 1.1. I do not know how you change parts of an act without changing the stated purpose of the act.
I hope I have addressed your question, Mr. Chairman.
Senator Massicotte: Maybe you could help me, Mr. Townley, and give me a quick understanding of the economic theory and what is better for Canada. Obviously, there is an argument here. I am a strong believer in competition. We see it everywhere, including it in the Olympics. Competition allows one to improve upon the economy. That is the basis of the Competition Act. As an overall theory, competition betters Canada's economy and allows it to be more productive to the betterment of all Canadians.
I understand that the debate is this: If you approve the amendment, the most important and sole criterion becomes the pricing to the consumer, whereby efficiency loses its importance, although may be considered a factor. Certainly, the way it is worded efficiency is a factor only if it helps with consumer pricing.
Could you give us a lesson in economic theory? What is the betterment of Canada? Obviously, better pricing is better for the consumer. Why would that not deliver better economic results as an overall to the nation? What distortion occurs if you limit it to the consumer only?
Mr. Townley: If a merger passes Bill C-249, which I call a price standard — see my excerpt with the little diagram on mergers — then you are absolutely certain that that merger is good for the economy. It probably satisfies all four elements of section 1.1. Consumers are better off. The prices falling from an anti-competitive merger must be because variable cost savings have driven that price down. If the good is traded, then I would suppose that exporters would find it easier to sell cheaper goods around the world. I do not know what the effect would be on small and medium-sized businesses.
The problem occurs when the merger does not satisfy Bill C-249 and is thus rejected. The chances are that we will reject mergers that could be welfare enhancing, that would be good for the economy. If a price goes up just a little bit to consumers, then we would reject the merger. The overall gains in efficiencies could be huge but we would simply ignore them.
By looking only at the effect on the consumer, you will ignore, essentially, what could be huge savings in fixed costs, which are pretty usual to receive in mergers. That is why firms merge.
If we only made policies that make at least one person better off and no person worse off, then I think we all might be out of business. How many opportunities do you see that? The more usual circumstance is that some people are made better off and some worse off, but we judge the gains to be much greater than the losses and we let it go because it is for the best.
Senator Massicotte: Obviously, one concern is about lessening the competition and allowing monopolies or oligopolies. The benefits may look good in the short term, but eventually, with a less competitive environment, you become less productive in the long term. I presume the analyses at the bureau and the tribunal take that into consideration. Is that considered?
In spite of that, if it is considered, irrespective of the welfare in the economic interest of Canada that it is better by the merger, describe the consequence of that policy in the United States whereby consumer price is more relevant than pricing. How is that distortion to that economy taking place?
Mr. Townley: You have asked me a number of questions.
Senator Massicotte: There are three questions, and short answers would be fine.
Mr. Townley: The long term is not considered in the assessment of these mergers. You are looking for a substantial lessening of competition under sections 92 and 93. The efficiency defence only applies when you have an anti- competitive merger. That is a short-term view. If you are looking for the ability to raise prices for a period of maybe one or two years, then you have to look at efficiencies in the same time frame.
Firms may say that, over the course of 10 years, there will be huge savings, but who cares? That is not relevant to the situation.
Senator Massicotte: On the third part, the Americans are very consumer oriented. You said that economic theory suggests that our approach is better than their approach such that it delivers more productivity to our economy. Therefore, if they get it wrong, what is the consequence to their economy as we have seen it to date?
Mr. Townley: Their economy is so different that you do not know what to think. The population density and size are such that I am not sure that theirs could be compared with ours.
They worry when there are six firms in a market and they go to five. In Canada, I am certain that the Competition Bureau would not even look at that kind of merger.
Mr. Schwartz spoke to the American experience in Brown Shoe and its aberration. The Americans are moving toward what we have, but how far are they moving? They are not rigid; they are not satisfied with their merger laws. They see that they are giving up a great deal by not doing it.
I would also say that, in my opinion, the basis for American law is not so much economic. They went through part of their economic history dealing with the barons, or robber barons, of industry that exploited everything and everyone.
For the most part, it is not so much economic power, or the amassment of economic power, but any kind of power that might translate into political power, whereas in Canada we have a different economic history. For example, we have the Hudson Bay Company and British and French systems wherein monopolies were rewarded.
The Chairman: Thank you, Mr. Townley, for helping us with our deliberations.
The committee adjourned.