Roma, Villa Mondragone 26-28 giugno 2000
Intellectual property right-based monopolies and ex-post
competition: Some reflections on the essential facility doctrine
by
ALBERTO HEIMLER
Autorità garante della concorrenza e del mercato, Roma
and
ANTONIO NICITA
University of Siena
1. Introduction
2. Incentive to invest, ex-post competition and the (in)efficiency of property rights
3. The economics of the essential facility
4. An IPR based essential facility
5. Solving the antitrust puzzle: the essential facility doctrine, mandatory access and efficient
pricing
6. Conclusions
ABSTRACT
In recent years a growing number of antitrust decisions, in Europe and in the US, has dealt with
ex-post monopolization or abuse of dominant position in industrial sectors characterized by
IPR-based essential facilities. These examples show that the overlap between antitrust and
intellectual property laws is far from being resolved and some boundaries between the different
provisions need to be traced. Each time we have an intellectual property product, we face a
possible ex-post monopolistic configuration in the product market, which however,
representing a premium for the ex-ante risk, should be viewed as necessary for inducing R&D
investment. At the same time, when the intellectual property has been already developed there
is no (short-term) harm in reducing ex-post profits. An intellectual property right which
generates a ‘stable’ distinct relevant product market might be classified as an essential facility,
since it is (i) not substitutable; (ii) not temporarily duplicable (given the legal protection over
it); (iii) not rival in consumption (the invention could be used by different operators to enter
downstream markets). The idea that an intellectual property right may be viewed as an essential
facility, imposing an access obligation on the owners when they operate also in complementary
markets, should not lead to the elimination of the market power associated with its exploitation.
In order to control for supranormal profits some other instruments (regulatory or antitrust) are
needed. The essential facility doctrine is not a tool to be used for eliminating monopoly profits,
but a way of impeding further monopolization of potentially competitive markets. The pricing
of access is the critical issue and the problems are the same if the essential facility is
infrastructure or IPR based and if the essential facility is regulated or not. The efficient
component pricing rule correctly identifies the price for getting access to the essential facility
and the rule can continue to be followed also in the case of non rival goods.
1
Intellectual property right-based monopolies and ex-post competition: Some
reflections on the essential facility doctrine
Alberto Heimler and Antonio Nicita*
1. Introduction
In recent years a growing number of antitrust decisions, in Europe and in the US,
has dealt with ex-post monopolization or abuse of dominant position in industrial
sectors characterized by a high degree of technological innovations. The great part of
these decisions shares a common feature: dominant firms were charged of having
performed exclusionary practices against competitors, by denying access to innovative
assets protected by intellectual property rights. In some cases, as for example in the
Microsoft case, the implicit idea followed by the US Department of Justice was that of
interpreting those innovative assets as essential facilities, and the intellectual property
rights over those assets as ‘excessive’, from an efficiency point of view1. In these cases
access to these assets was considered necessary for other firms to compete in
downstream (competitive) markets.
These examples show that there is an overlap between antitrust and intellectual
property laws. First of all, competition law and intellectual property law share a
common objective: increasing social welfare by enhancing the degree of competition
through the introduction of appropriate incentives to develop new product and new
markets. However, competition law and intellectual property law differ in the
instrument chosen to attain that goal: competition law is ‘naturally’ aimed at delimiting
and preventing the exercise of restrictive or abusive market power; intellectual property
law is aimed at providing exclusive rights in order to preserve the incentive to create
new products (and new markets). As a consequence, inherent in the application of
intellectual property law is to protect an inventor from anybody exploiting his invention
without his authorization. At the same time, however, intellectual property law meets
competition principles, by recognizing the need to insure that the information on new
patents is widespread in order to encourage and facilitate the creation of new intellectual
products and enhance competition. Since the market power originating from an IPR
finds its origin in the law it would be a deep contrast if the aim of another law would be
the elimination of that same market power.
Indeed each time we have an intellectual property product, we face a possible expost monopolistic configuration in the product market, which however, representing a
premium for the ex-ante risk, should be viewed as necessary for inducing R&D
investment. At the same time, when the intellectual property has been already developed
there is no (short-term) harm in reducing ex-post profits. Such a puzzle reveals the well
known trade-off between the development of ex-post competition when a dominant firm
*
Autorità garante della concorrenza e del mercato, Roma and University of Siena respectively. The
opinions expressed in this paper are the sole responsibility of the authors and cannot be attributed in any
way to the Autorità garante della concorrenza e del mercato. We thank Franco Romani for very helpful
comments.
1
See A. B. Lipsky and J. G. Sidak, 2000; T. F. Cotter, 1999.
possesses an essential facility and the protection of property rights in order to induce
others to invest in competing facilities.
An essential facility is generally defined as an asset which is necessary in order
to enter other competitive (downstream) markets at the minimum efficient scale. An
essential facility must satisfy three conditions: (i) it has to be essential (not
substitutable) for entering competitive downstream markets; (ii) it has to be not
duplicable (costs sub-additivity); (iii) it has not to be rival in consumption.
An intellectual property right which generates a ‘stable’ distinct relevant product
market might be classified an essential facility, since it is (i) not substitutable; (ii) not
temporarily duplicable (given the legal protection over it); (iii) not rival in consumption
(the invention could be used by different operators to enter downstream markets).
The notion of essential facility has been used in antitrust policy to impose on the
essential facility owner who operates also in complementary competitive markets to
grant to competitors access to the essential facility (essential facility doctrine). Thus the
essential facility doctrine is not necessarily a tool for eliminating monopoly profits
associated with the use of the essential facility, but a way for impeding further
monopolization by the essential facility owner of potentially competitive markets. In this
sense the regulatory and antitrust conclusions reached with respect to infrastructure
based essential facilities can be easily extended to IPR based ones: access should be
granted when the IPR based facility is essential for entering a complementary market at
the minimum efficient scale. As with more traditional essential facilities, also with IPR
based ones the problem is the pricing of access.
In the following sections we briefly summarize the problem of the right incentive
to invest in institutional contexts characterized by uncertainty, bounded rationality, asset
specificity and contract incompleteness. Next we analyze the economics of essential
facility and then turn on the comparison of the ex-ante legal protection of information
goods and the ex-post efficiency of introducing competition in former monopolized
markets, emphasizing the Schumpeterian trade-off between static and dynamic
efficiency. We thus examine the rational for imposing obligation to allow access over an
essential facility when intellectual property rights are involved and the problem of
determining an appropriate price for access.
2. Incentive to invest, ex-post competition and the (in)efficiency of property rights
As we know since the pioneering works by J. A. Schumpeter the process of
innovation is always related to the expected appropriation of (temporary) monopoly
rents generated by the adoption of the innovation. The existence of these monopoly
rents in a product markets is the main incentive for competitors to enter the market by
imitating the dominant firm. Such a process of creative destruction may differ from a
market to another, according to level of expected rents, the uncertainty over the return of
the investments and the legal protection of intellectual rights.
Legal protection of property rights solves two problems of incentive alignments:
the well-known free-rider problem and the hold-up problem.
1
Fig. 1 - Standard free-rider problem
T=0
Investment (C)
T=1
Legal protection
Imitation
Selling (P-C)
Selling (0)
T=2
Fig. 2 –Legal protection for N periods against free-riding
T=0
Investment (C)
T=1
Legal protection
T=2
T=3
Selling (P-C)
T=N-1
Imitation
T=N
T=N+1
Selling (0)
The free rider problem regards the process of investor’s rent expropriation by
imitators, i.e. by opportunistic agents which replicate the innovative product at zero
costs, as the information goods, since once used they are perfectly known (K. Arrow,
1962). As a consequence, in the absence of any protection against imitators, no one will
2
be induced to efficiently invest, and the under-investment choice will characterize a
dominant position in the resulting Prisoner dilemma game shown in fig.1. In the absence
of legal protection against imitators, the investor will be induced to under-invest since
he will gain ex-post only competitive profits (P-C=0). By contrast, giving the investor a
(temporary) property right over its innovation will compensate him for the expenses
incurred in R&D and delays competition and imitation over time, to the extent it is
necessary in order to implement the appropriate ex-ante incentive to invest. In fig.1 we
assume that legal protection is ensured for n periods after the investment is selected, so
that imitation can occur only at t=N and competition in the market will be allowed at
t=N+1, where firm obtain normal competitive profits (P-C=0). In fig.2 the creation of
competitive markets is delayed in order to allow the investor to cover the expenses (C)
sustained and receiving the premium for the risk incurred. When legal protection is not
attributed to the investor, the main consequence will not be greater competition and
lower prices, but the absence of the new product.
There are also other type of goods whose value depends not only on the fact that
the owner has an access to these goods, but also that such an access is denied to others.
F. Hirsch (1976) has pointed out that these goods are positional, in the sense that their
value strictly depends on the relative position of different consumers. In all these cases,
at t=N+1 there is no market, since the value of the good is zero. In other terms, in these
cases expropriation of property rights will not bring to the creation of new competitive
markets, but to the creation of new public goods.
Beside the free-rider problem, the hold-up problem provides some further
rationale for property rights protection in vertically integrated production. The case of
hold-up might be particular relevant when strategic complementarities are involved.
Suppose that agent A has to invest in order to provide a widget (x) to agent B. Suppose
that agent A has to make a specific investment, i.e. an investment which, once made, has
a value higher than the next best alternative, only if the underlying transaction with
agent B takes place. Due to contract incompleteness, agent A needs to be guaranteed
against counterparts’ threat of ex-post renegotiation of contractual terms. In the absence
of any contractual safeguards, agent A will be induced to underinvest, reducing hence
social efficiency. According to Grossman and Hart (1986) and Hart and Moore (1990),
giving the investor property rights over strategic physical assets will restore investors’
incentives to efficiently invest, minimizing thus the risk of hold-up.
Fig.3 - Standard hold-up problem
T=0
Investment (C)
T=1
Legal protection
No legal protection
Over physical assets
T=2
Selling (P-C)
Renegotiation
(hold-up) (P-C=0)
3
On these lines, O. Williamson (1985) has emphasized the efficiency role of
vertical integration in order to induce specific investment within the firm, when, due to
contract incompleteness, the market ‘fails’ in inducing appropriate investments. Both in
the case of free-riding and hold-up the efficiency of property rights implies a reduction
of ex-post competition (in the case of hold-up only agent A has access to relevant assets
for B). However, the static losses associated with the reduction of -term competition
might be outweighed by dynamic efficiency induced by long-term competition.
Of course, ex-post competition is always optimal from an ex-post perspective
since it reduces the market power of the dominant firm. However the social optimality
of ex-post competition is always referred to new product markets, which are originated
under the expectation of a temporary absence of ex-post competition.
While property rights are efficient in solving free-riding and hold-up problems,
they can also lead to a number of inefficiencies that are mainly addressed by regulators
and by antitrust enforcers. Economic regulation impedes (natural) monopolists from
gaining monopoly profits, eliminating deadweight losses originating from monopoly
power. Antitrust laws are also concerned with market power, but these laws do not have
the objective of strictly controlling market power by authoritative rules such as, for
example, the setting of the “right” price of different goods and services. Antitrust
provisions (with the exception of those about mergers) aim at impeding that companies
through restrictive practices or abuse of dominant positions increase artificially their
market power.
However, antitrust interventions are particularly difficult for information-based
sectors where the owner of a commodity is not always able to exclude others from using
it and once a product is on the markets it costs the same irrespectively of the number of
people that consume it. Both excludability and non rivalry are two characteristics of
public goods.
As for excludability, it does not exist in nature. It is the consequence of our
civilization and of law and order. In fact in order to exclude others from exploiting our
property not only laws are needed, but also that they are efficiently enforced. What
characterizes the information based industry is another peculiarity: The inherent
technical difficulty of exclusion which is independent from the existence of any legal
protection. For example broadcast television can be consumed by everybody that has a
TV set and an antenna. This is why broadcast TV had to find someone else (advertisers)
to pay for its services. The development of pay TV was a way to introduce excludability
to this market.
Information based products are also generally not rival in consumption in the
sense that the product costs the same irrespective of the number of consumers. If the
forces of competition would lead prices to fall up to marginal costs, prices would be
very close to zero and all producers would get bankrupt, not being able to cover their
fixed costs.
Because of non excludability and non rivalry information markets are naturally
characterized by market failures. However, contrary to what happens with more
traditional economies where non excludability and non rivalry originated only with
public goods and the most natural solution was government supply, information based
products continue to be supplied by the market, but ingenuous solutions, like shareware
4
or dual-track products, are found in order to somehow ensure the coverage of costs.
However until some form of strong excludability is found the market cannot be stable.
And indeed much of technical progress in information technology industries is directed
to find ways to guarantee excludability.
Complex governance structures, long-term contracts, IPR and competition laws,
emerged in modern capitalistic society in order to deal with the problem of providing
optimal ex-ante incentives alignments so as to increase social welfare. The essential
facility doctrine has tried to give a specific answer to the governance of assets which are
indispensable for entering downstream markets and are controlled by an integrated
monopolistic owner.
3. The economics of the essential facility
The problem of mandatory access to an essential facility falls into the broad area
of vertical relations and into the debate about whether antitrust law should intervene in
order to guarantee access, which in turn centers around the question of leveraging, that
is the possibility that a monopolist “leverage” its monopoly power in one market in
order to extend it into another market. It originally seemed obvious that this was so, a
view held in particular by Joe Bain and the Harvard School of the 1950’s. Such a
common understanding was forcefully put into question by the so called Chicago
Revolution of the 1980’s which proved that a firm that has monopoly power at one level
can only transmit that same monopoly to another level, but not create more monopoly
power than it already has. In this perspective vertical restrictions cannot aim at
increasing a “fixed sum” monopoly profit and therefore, as a matter of logic, should be
explained by some other reasoning which it was shown in many cases to be greater
efficiency.
Suppose that a private monopolist owns the only possible bridge across a river
and that a number of competing railroad companies provide transport services along the
bridge. Suppose also that there are no restrictions in the pricing for the use of the bridge,
nor for transport service charges. In order for the owner of the bridge to gain monopoly
profits, he has to charge all railroads a monopoly price to cross. The greater the
competition downstream and the lower the profits downstream, the greater the profits
the bridge owner would get. Suppose that the bridge owner also owns a railroad
company that is providing transport services across the bridge in competition with other
railroad companies. His behavior would not change since all the profits that he could
make still depend upon his bridge monopoly: He would continue to charge a monopoly
price to everybody. How then would a refusal to grant access be explained? One
possibility is that the owner of the bridge might not be able to capture all rents by simple
linear pricing. He might have to use some sort of a per train charge which would appear
as a fixed cost for the railroad company. If there is competition downstream and
transport prices of different goods are equal to marginal costs, the railroad companies
would not be able to recover such a fixed charge and would go bankrupt unless the
bridge owner would reduce its fee. In such circumstances the bridge monopolist may
refuse to deal with competitors in order to remain the only railway company that crosses
the bridge and be able to capture all the monopoly profits originating from the bridge.
He might reach the same result by auctioning away the right to cross the bridge to the
5
highest bidder. For the consumer it would not matter if the essential facility owner
operates downstream or not. In both circumstances he would pay a monopoly charge for
crossing the bridge.
There has always been a debate on the “expropriating” role of a mandatory
access regime. Indeed, if an essential facility owner is not allowed the possibility of
excluding others from exploiting his facility (his invention in the case of an IPR based
essential facility), all his profits would be reduced to zero (unless there are capacity
constraints): nobody would pay for something everybody has. Indeed with an essential
facility, profits arise from the rights to exclusively exploit a given invention. If the
essential facility is given to everybody its value drops to zero.
As a consequence an IPR owner would need always to grant exclusive use of his
right if he wants to maximize profits. Following Coase (1972), should the buyer of the
services of an upstream monopolist not be assured that the use of his property would not
be also given to someone else, he would not be willing to pay for its use a fee equal to
the monopoly profits he can gain in the downstream market. In fact, if the possibility of
contractual exclusivity is ruled out, the upstream property owner, after having sold the
use of his property to one customer in exchange for his monopoly profits, would have
the incentive to sell it to others as well, but at prices below the monopoly level. The fear
of losses on the part of its first potential customers would make them choose to delay
their purchase and such a strategy would impede the upstream monopolist from gaining
monopoly profits at all. At the limit, if the services associated to the upstream property
could be supplied without any quantitative limit, should it be for example an intellectual
property right, the price buyers would be willing to pay (in the absence of exclusivities)
would be driven down to zero and all monopoly profits would be dissipated.
Figure 4
p
D
m
p
c
q
q
m
q
c
If, as in Coase (1972), D in Fig. 4 is the demand curve for the use of an essential
facility needed in fixed proportions in the production of some other good and qc is the
maximum capacity the property can be put at use, then an upstream monopolist would
first sell the profit maximizing quantity qm at the price pm. He would then be left with
an unused capacity equal to qc-qm, that he would be willing to sell at any positive price
6
lower than pm. The first buyer knowing the existence of such an incentive would never
accept to purchase qm at the price pm in the first place and the equilibrium price for the
use of the essential facility would be pc, where its full capacity is utilized. With the
same line of reasoning, if the upstream property is a patent, some other intellectual
property right or a franchise the total quantity of which is not physically limited, then,
without the possibility for the owner of the right to engage in some exclusionary
conduct, the equilibrium price would be zero and the total quantity demanded would be
q (Fig. 1).
Certainly the possibility for an upstream monopolist to engage in such an
opportunistic strategy is higher the greater the length of the contract. At the limit if the
contract is made once and for all (pure durable good), a very strict contractual
exclusivity (with high penalties if the upstream monopolist would not comply) will be
necessary in order to assure the buyer that the services associated to the upstream
property will not be sold to other users at lower prices (see Stokey, 1981 and Butz,
1990). Without such an exclusivity clause the upstream monopolist would never be able
to gain his monopoly profits because everyone would refuse to purchase at prices above
the competitive level.
On the other hand, should contractual arrangements be valid only for very short
periods of time, which is possible when what is sold is a perishable service, pricing
would adjust to actual market conditions and this would make it much more difficult for
the upstream monopolist to engage in opportunistic practices. He would sell the
monopolistic quantity at the monopolistic price and would not sell any additional
quantity, because otherwise his reputation as an unfair trader would make it more
difficult for him to trade again at profitable (monopolistic) prices in the future. In any
case opportunistic practices would not always be to the monopolist advantage in the
case of vertical integration, that is if the owner of the facility would himself operate as a
monopolist in the downstream market.
The importance of Coase (1972) analysis for the essential facility doctrine is that
exclusivities are necessary for the essential facility owner to gain all the profits
associated with the use of the essential facility. Coase (1972) also shows that
exclusivities are to the advantage of both the buyer of the essential facility services and
the supplier. In fact by just eliminating the possibility of contractual exclusivities profits
originating from the use of the essential facility may disappear.
4. An IPR based essential facility
It has been recently pointed out, by a US federal district court that Intel’s
microprocessors (which embody certain patent rights) and related confidential technical
information (which probably qualify as trade secrets) were essential facilities in the
market for graphic systems and computer workstations2. The reason why Intel’s
microprocessors has been considered, implicitly or explicitly, an essential facility relies
in their nature of standards products. As we know from a huge scholarly literature3, the
2
3
T.F. Cotter (1999); Intergraph Corp v. Intel, 3 F. Supp. 2d 1255, 126-70, 1277-78 (N.D. Ala. 1998).
See R. Langlois (1999) and A. B. Lipsky and J. G. Sidak, (2000) for a survey.
7
market for standard has, as every bidding process, an intrinsic nature of competition for
the market.
As it is shown in figure 5 above, a technological standard, once dominant,
generates new downstream product markets, which might be oligopolistic or
competitive. Given its nature of ‘input’ for downstream markets, a technological
standard needs to be legal protected by adequate property rights in order to induce the
efficient amount of ex-ante investments. In the absence of this legal safeguard the
rational strategy would be not investing at all at t=0 and imitating eventual investors at
t=1 (free-riding). When the technological standard to be realized involves some lateral
or vertical complementarity (Hart and Moore, 1990), the problem to be faced is that of
hold-up, and in the absence of full property rights protection (due to the nature of the
technology or to the incompleteness of the legal system), lateral and vertical integration
may represent an optimal strategy.
Fig.5 –path dependency and predatory product innovation
T=0
T=1
Investment (C)
Legal protection
Selling (P-C)
T=N
Imitation
Old technology
T=N+1
New Investment (C)
Selling (0)
New Legal protection
Selling (P-C)
As a consequence, for the owner of the technological standard it may be rational
to integrate with downstream operators. Such a behavior should not generate any market
8
restriction as long as (i) the owner of the standard does not refuse to sell or to make
compatible its standard to downstream competitors (intra-standard competition); (ii) the
owner of the standard is only one of the actual competing standards’ owners and the
technological innovation rate is very high in the industrial sector so that markets of
standards and downstream markets are very volatile (inter-standard competition).
Fig.6 –Standards and competition
T=0
Battle for standard
T=1
Stand.1
Stand.2
Stand. 3
Stand. 4
Dominant standard
T=2
Downstream markets
T=k
project.
1
project.
2
project.
3
project.
4
Fig.7 –Inter-Standard Competition
Battle for standard
T=0
T=1
Stand
.1
Stand
.2
Stand
.3
Stand
.4
project. 2
project. 3
project. 4
Downstream markets
T=2
project. 1
9
The refusal to deal by a standard owner and the associated question of
monopolistic leverage have been criticized by the relevant literature and should not be
generally considered a restriction of competition: for the owner of a standard denying
access might not be a rational strategy since he could have extracted maximum surplus
simply by charging a monopoly price for access to his standard. Price alternatives to
refusal to deal could extract the full amount of surplus, so that in a context of perfect
information and certainty, the integrated monopolist has not any particular reason for
monopolizing downstream markets. In this case, the investor creates new competitive
downstream markets promoting competition at the intra-standard level. By contrast,
when the battle for standard is very strong over time and standard duration is uncertain,
a lower degree of intra-standard competition may be compatible with a higher degree of
inter-standard competition as in the figures above.
A standard, like an invention, can become an essential facility when they are
indispensable for entering a complementary competitive market. Like a physical
essential facility an IPR based one should be: (i) not substitutable (essential); (ii) not
duplicable (cost-subadditivity); (iii) not rival in consumption.
5. Solving the antitrust puzzle: the essential facility doctrine, mandatory access and
efficient pricing
In the United States the main characteristics of antitrust decisions concerning the
imposition of a duty to deal with competitors on the part of firms controlling an
essential facility have been as follows4: a) control of the facility by a monopolist or a
group of competitors with monopoly power; b) the inability practically or reasonably for
the foreclosed competitor to duplicate the facility or its economic function; c) the denial
of use of the facility or the imposition of restrictive terms with the consequence of
substantial harm to competition in a relevant market in which the monopolist competes
(or would be forced to compete absent the discriminatory practice); d) the absence of a
valid business reason. From this definition it is quite clear that a facility is considered
“essential” by US Courts only if the services it can provide belong to a relevant market
(no duplicability at reasonable costs) controlled by a monopolist. At the same time, the
behavior of the essential facility owner is deemed abusive only insofar as it affects
substantially the competitive conditions of the downstream market.
In the European Union the notion of essential facility has been utilized mostly
with respect to legal monopolies that tried to extend their dominant position to
complementary competitive markets. As a consequence in the analysis no explicit
reference was given to the possibility (or the cost) of duplication of the facility or to the
competitive conditions characterizing the downstream market. Furthermore the reasons
considered “objective” in cases of refusal to access have included for the EC only
technical feasibility (such as the lack of unused capacity) or compliance with public
interest objectives imposed upon the owner of the facility. Only recently the European
Court of Justice gave a rigorous interpretation of an essential facility in a case where the
owner of the facility was not protected by any special and exclusive right (legal
4
See Tye (1987).
10
monopoly)5. In that case the Court gave a definition of essential facility so rigorous that
it would be almost impossible to apply. Indeed the Court, denying that Mediaprint, a
dominant Austrian newspaper publisher, should give access to its national distribution
network (essential facility) to Oscar Bronner, a small newspaper publisher, said that a
facility is essential when it is not economically viable to duplicate the facility by an
entrant with the same size of the incumbent. The problem with this definition is that
there are very few industries where a facility could not be duplicated by a new entrant of
the size of the incumbent. Furthermore the new entrant may never reach that scale,
while at the minimum efficient scale of operation the duplication of the facility would
not be economically viable.
In any case, in the antitrust experience of the US and of the EC the refusal to
deal by an owner of an essential facility is generally considered to be a violation only in
so far as such a refusal is directed towards a competitor, the reason probably being that
by refusing access to a competitor the essential facility owner (whose market power is
not questioned) is able to gain monopoly profits both in the market for the services of
the essential facility and in the complementary market where such services are used as
an input to production. However the theory behind such decisions is not at all clear.
The essential facility doctrine does not introduce a generalized mandatory access
regime. The essential facility doctrine introduces a further qualification and that is that
access should be granted to competitors wishing to enter complementary markets. This
means that profits related to the use of an essential facility are not put into question. The
objective of the essential facility doctrine is to grant access to competitors in the
complementary market that are more efficient than the incumbent, not necessarily to
reduce the profits originating from the use of the essential facility itself.
This is why the major problem of an access regime is the pricing of such access.
The Efficient Component Pricing Rule, proposed by Willig (1979), Baumol and Willig
(1995) and Baumol and Sidak (1994), addresses exactly this question. According to the
ECPR an essential facility owner that operates also in a complementary market would
maintain his profits if he would be free to price access in such a way as to charge its
competitors the opportunity cost of new entry. If p is the price that the essential facility
owner charges for the services sold in the complementary market, it would grant access
if the new entrant would be willing to pay a sum equal to p-c, where c is the marginal
cost saved by the essential facility owner because of entry. The behavior of the essential
facility owner would be profit maximizing. Entry would occur only if the new entrant,
being able to produce with lower marginal cost, is more efficient than the incumbent.
The Efficient Component Pricing Rule (ECPR) by itself does not eliminate
profits originating from the essential facility. This is why in order to be used as an
instrument for regulating monopoly profits the ECPR should be supplemented by some
other tool. However if p, the price that the essential facility owner charges for the
services sold in the complementary market is regulated, the ECPR would still apply. As
a consequence, assuming that regulation is the proper instrument for addressing
monopoly profits, the ECPR, more than a regulatory device is an effective instrument
for identifying price abuses, a widely denounced antitrust violation, but a difficult one to
prove. Under an antitrust perspective, the ECPR is the highest price a monopolist can
charge for granting access. Any price above the ECPR would be “excessive” and should
5
European Court of Justice (November 26 1998), case C-7/97, Oscar Bronner Vs Mediaprint.
11
be considered an abuse. If the new entrant has the same costs as the incumbent any price
above the ECPR would be exactly equivalent to a refusal to deal and there would be no
entry. On the other hand a competitor more efficient than the incumbent would enter
also at access prices above the ECPR. The incumbent could in fact profit from the
greater efficiency of a new entrant and, instead of charging an access price equal to p-ci,
where ci is the cost the incumbent avoids because of entry, would charge an access price
equal to p-c*, where c* is the cost of the new entrant and c* <ci. The incumbent by
charging an access price equal to p-c* would gain from the efficiency of the new entrant
and would impede that efficiency gains be transmitted to the consumers.
ECPR, at least for access to a vertically integrated essential facility, solves the
question of identifying the “right” price, a problem antitrust authorities have been
struggling with for many years without actually finding a suitable solution.
One key question for which a possible answer needs to be found is why an
essential facility owner would refuse to deal instead of charging a price which would
reflect the ECPR or be higher. Indeed the monopoly holder may fear that competitors
entering the complementary market may become stronger competitors also in other
contiguous markets because of existing economies of scale and scope, weakening his
market position in these markets as well. Furthermore, competitors in the
complementary market may develop skills and competence to become effective
competitors also in the essential facility market, trying to bypass the original monopoly
of the incumbent. Mandating access is therefore the right solution and the ECPR the
maximum price that would keep with the essential facility owner profits originating
from the use of the facility, while at the same time inducing efficient entry in the
complementary market.
The ECPR is the right way of pricing access also for IPR based essential facility.
Indeed when the essential facility is IPR based the essential facility doctrine, exactly as
it is for infrastructure based essential facilities, would imply that access to the essential
facility should be granted when it is indispensable for entering into a competitive
complementary market. In such cases the ECPR would not eliminate profits originating
from the IPR itself. For example, if a pharmaceutical patent is an essential facility and
the owner of the patent also operates as a producers of the drug based on that patent, the
essential facility doctrine would imply that any producer of pharmaceuticals should be
granted access to the patent. The access price, according to the ECPR, would be pj-cj,
where pj is the price of the drug and cj is the cost of production of the drug that the
patent owner avoids. A competing producer would enter only if he is more efficient than
the incumbent who will in any case continue to earn all the profits associated to the
patent.
Of course, if the complementary product is non rival the avoided cost in the
ECPR formula is zero and the new entrant would have to pay the price of the full bundle
for the use of the IPR based essential facility. In theory the major problem with pure non
rival goods is that the marginal cost is zero and there is no way one can be more
efficient than that. As a consequence the application of the ECPR to the case of non
rivalry would require a qualitative improvement on the part of the new entrant such that
the price of the combined bundle would be greater than p.
For rival goods, efficiency requires that entry is accommodated only if the new
entrant produces the competitive good at lower costs than the incumbent. For non rival
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goods, efficiency requires that the new entrant provides to consumers greater benefits
than the incumbent.
6. Conclusions
Some recent antitrust decisions have dealt with the strategic use by a monopolist
of an intellectual property right, defined as an essential facility, in order to deter
competitors’ entry. Dominant firms, such as Microsoft and Intel, were charged of having
performed exclusionary practices against competitors, by denying access to innovative
assets protected by intellectual property rights.
We have argued in this paper that the essential facility doctrine is a tool for
granting access, not an instrument for eliminating monopoly profits originating from the
essential facility. There are other instruments to achieve that. In this perspective it has to
be acknowledged that especially for IPR based essential facilities a complete
liberalization’ of intellectual property rights will destroy the emergence of new market
rather than introducing competition in new markets.
An essential facility is generally defined as an asset which is necessary in order
to enter other competitive (downstream) markets at the minimum efficient scale. For
this asset being an essential facility is must satisfy three conditions: (i) it has to be
essential (not substitutable) for enter competitive downstream markets; (ii) it has to be
not duplicable (costs sub-additivity); (iii) it has not to be rival in consumption.
An intellectual property right which generates a ‘stable’ distinct relevant product
market might be classified an essential facility, since it is (i) not substitutable; (ii) not
temporarily duplicable (given the legal protection over it); (iii) not rival in consumption
(the invention could be used by different operators to enter downstream markets).
The idea that an intellectual property right may be viewed as an essential facility,
imposing an access obligation on the owners when they operate also in complementary
markets, should not lead to the elimination of the market power associated with its
exploitation. In order to control for supranormal profits some other instruments
(regulatory or antitrust) are needed. The essential facility doctrine is not the tool to be
used for eliminating monopoly profits, but a way of impeding further monopolization of
potentially competitive markets.
The Efficient Component Pricing Rule identifies the proper price for access
without considering the problem of eliminating monopoly profits originating from the
use of the facility and indeed the method is neutral with respect to the level of profits
that the incumbent receives. The ECPR is particularly important when the essential
facility is IPR based and is not price regulated. In fact the utilization of the ECPR would
not contradict the objective pursued by the IPR, that is to guarantee ex-post profits in
order to provide the right incentives for ex-ante R&D investments. The ECPR does not
break down when the market for which access is needed is characterized by non rival
products. It is true that avoided costs in the case of non rival goods are zero, but the
ECPR would still be used and a new entrant would pay the full price of the bundle to the
incumbent (p-0). This implies that entry will occur only if the new entrant’s bundle is
valued by the consumer more than that of the incumbent.
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