To save competition: Rethinking exceptions to the ban on cartels

Introduction

The COVID-19 (coronavirus) crisis has disrupted the conditions for effective competition in several markets. From a competition policy point of view, it is not only important toensure that consumer supply continues as competitively as possible during the crisis, but also that early consideration is given to the conditions for competitive markets for the post-crisis period. The consequences of a considerable drop in demand and an impending wave of insolvency will, in the long term, significantly impair or at least jeopardise conditions for effective competition and consumer welfare in many markets.

In this paper, we set out the specific considerations which, in our view, ought to be taken into account when applying antitrust law (specifically under the German and EU antitrust regimes) to take account of the particular economic impacts that the COVID-19 crisis or restrictions on economic activities to deal with the crisis are likely to cause in the long-term. We present a brief summary (see Section 1 below) before highlighting the specific features of the COVID-19 crisis and its economic impact (Sec-tions 2 and 3), and then provide an initial antitrust assessment of the situation and the current com-pensatory measures (Section 4). We also describe the exceptions currently applied to the prohibition on cartels and anti-competitive agreements to overcome supply bottlenecks (Section 5).

As an alternative to the measures applied so far, we present a proposal to allow temporary exemp-tions from the prohibition on cartels for the period during and immediately after the COVID-19 crisis to preserve competitive diversity in certain sectors affected by temporary falls in demand (Section 6). In addition, we discuss other competitive safeguards available to antitrust authorities, such as structural remedies in merger control decisions and enforcement of the abuse of dominance provisions (Section 7).

1. Executive summary

The COVID-19 crisis is not only causing supply problems and bottlenecks in many industries (e.g. supply of medical protective equipment); far more serious are the likely prolonged falls in demand, which are caused by state regulations (e.g. requiring the temporary closure of retail shops, restau-rants, hairdressers, etc.), as well as changes in consumer behaviour expected for the duration of the crisis and likely for a period thereafter.

While direct state support measures, such as loans and aid, are always good for the individual com-panies that receive the support, they are rarely so for an entire industry unless all market participants receive the aid. Moreover, it is already foreseeable that state regulations for certain sectors (e.g. Ger-many’s 800-square-meter retail space restrictions) will give rise to criticism under judicial review. A better alternative approach could be for industry associations to issue specific guidelines, which are then "voluntarily" implemented by companies and resulting in coordination of conduct. In individual cases, it may also be necessary for competitors to agree on the passing on of prices (e.g. passing on the costs of protective equipment to customers in shops or the passing on of increased costs as a result of capacity reductions).

Such restrictions of competition are unlikely to be exempted from the prohibition on cartels/anti-competitive agreements. However, provided they place the cost of maintaining competitive diversity in a given sector directly on industry customers and not the general public, these could be more effective measures for some sectors than state aid financed by taxpayers' money. In addition, state regulation and intervention could be dispensed with. In this respect, the temporary authorisation of cooperation between competitors could replace both state aid and sector-specific special regulations, and could therefore be an interesting alternative for some industries as a remedy to the temporary fall in demand.

2. Normative questions

The view that “market shakeouts” should, in principle, be accepted under "normal" competitive condi-tions is being put to the test during the COVID-19 crisis: one of the normative questions when consid-ering desirable outcomes is whether a shock such as the current crisis should be accepted as a way of selecting companies that were economically sound and competitive before the beginning of the crisis. The German state has decided this issue by initiating rescue packages ranging from liquidity aid to grants, each of which is based solely on the fact that companies were economically sound before the COVID-19 crisis. This implies that the crisis is perceived as an extraordinary crisis that can easily affect healthy businesses. Unlike previous crises, therefore, the focus is not on whether the company can become competitive again, but only on whether the company was healthy before the crisis.

However, emergency aid will reach its limits if the pandemic cannot be stopped very quickly. The strategy pursued by the German Government, but also in the EU, to combine a temporary shutdown with rapid development of a vaccine, has two fundamental risks from an economic perspective: firstly, if the development of a vaccine takes much more longer than up to (early) 2021, and secondly, if it is not possible to develop a vaccine at all. In either scenario, the economy and society would still be facing “the worst”, i.e. a second or even third wave of infection and associated renewed and possibly even longer-term closures and economic disruption.

The duration of the current crisis is therefore uncertain. Nobody knows when a vaccine against the COVID-19 virus will be developed, when it will be produced in sufficient quantities and applied to large sections of Germany’s population and, due to international interdependencies, when it will ultimately be applied globally. While the German Robert Koch Institute recently spoke of restrictions on contact lasting up to 18 months, it cannot be ruled out that these could continue for even longer, especially if the availability, production and application of a vaccine or effective medication takes longer. However, if developing a vaccine/effective medication takes too long, the only remaining option would be to achieve a sufficient level of immunity in the population, which would itself take time.

Massive economic effects can be expected absent a vaccine/effective medication, which neither the German nor any other State would be able to offset by means of aid alone. However, a period of up to 18 months of contact restrictions, as expected by the Robert Koch Institute, would have serious consequences for many industries. Falling demand in catering, retail trade (especially non-food goods), and in the tourism and travel sector (flights, airports, shipping, etc.) will hit upstream manufacturing as well as the capital goods industry (e.g. the mechanical engineering sector or the IT sector for the industries and trades affected). The longer the COVID-19 crisis lasts, the greater the impact of declining income also on industries that for the time-being are potentially benefiting from the crisis; for example, the food retail sector would then also have to fear a loss of sales in the medium-term.

The necessarily selective support of individual sectors and tight time limits for state aid, should the economy be dragged into a downward spiral by the duration of the shutdown, suggest that economic “self-help” measures should also be used where the state cannot provide sufficient or even any aid across a particular sector due to limited resources. Such self-help measures are discussed below, be it in sectors which are already significantly affected by the COVID-19 crisis, or sectors that remain in good condition for now but may be significantly affected the longer the crisis continues.

3. The economic effects of the COVID-19 crisis

The COVID-19 pandemic presents societies and economies around the world with one of the greatest challenges since World War II. Globally, the economy has collapsed sharply. As the leading German economic research institutes point out in their spring report, global production has already fallen by 2.5 per cent compared to the previous year and they expect global trade to fall by 7.4 per cent this year. The German economy will also be hit hard by the pandemic. Production shutdowns, closures of restaurants, cafes and leisure facilities, as well as the general curfew, led to a 1.9 per cent contraction in gross domestic product in the first quarter of 2020. For the second quarter, the economic research institutes expect a reduction of 9.8 per cent, the largest reduction since the beginning of their quarterly reports in 1970.

The social consequences of the crisis will be immense. It is not only many small-scale businesses that are exposed to a significant risk to their existence (especially in the catering, retail and services sectors) but also medium-sized companies in core segments of the German economy (e.g. the automotive supplier sector are likely at serious risk). Added to this are the already obvious setbacks to the trade fair and tourism industries as well as aviation. A glance across the border also suggests something worrying: in Austria, the number of people officially registered as unemployed rose from 333,987 (8.1 per cent) to 504,345 (12.2 per cent) between February and March, an increase of over 50 per cent within a single month.

While Austria, with a strong tourism sector, can be distinguished from Germany, the economic re-search institutes nevertheless also estimate a notable increase in unemployment in Germany by around 236,000 people in the short-term. The number of partially unemployed workers, on the other hand, is expected to increase dramatically from around 110,000 to more than 2.4 million. Total income is also likely to fall sharply in Germany, leading to a significant reduction in demand in the economy as a whole. German export markets are also likely to be hit massively by a reduction in purchasing power. As a result of this unprecedented situation, policymakers around the world have taken measures to help cushion the related economic hardships for businesses and consumers. Germany’s Federal Government, like many other governments, is essentially relying on financial support, in the form of credit subsidies, provision of emergency funds, or a redesign of insolvency rules. These support measures are also made possible by a further, drastic easing of monetary policy by the European Central Bank (ECB).

The support measures envisaged so far, such as loans issued by Kreditanstalt für Wiederaufbau (KfW), other direct aid and, where appropriate, equity participation in companies by the newly estab-lished Economic Stabilisation Fund, are measures which do not maintain competition in a particular sector but benefit the respective beneficiary companies individually. To this extent, the options for structuring the short-term restrictions of competition that are the subject of this paper would both complement and substitute the support measures which have been considered and implemented to date.

All the measures discussed so far are sensible and necessary. However, they fall short on one essen-tial point in that they shift the immediate costs of the crisis into the future both for businesses and for society as a whole. A loan, even a subsidised one, must be repaid. This may not be an issue for man-ufacturers of capital goods or certain consumer goods if the demand that has been lost due to the crisis can be replaced later. For service providers or other consumer goods manufacturers, however, this means a considerable level of debt in the future without an increase in demand; a missed visit to a restaurant, a cancelled trade fair or holiday will not be made up in the future.

Equity participation by the Economic Stabilisation Fund strengthens the equity base of companies concerned that are in difficulty as a result of COVID-19. However, such equity participations are not suitable to maintain the pre-crisis competitive structure in an industry as a whole, as long as the Eco-nomic Stabilisation Fund does not participate in all companies in need of capital. In addition, while equity participation is suitable to strengthen the equity base of a company in crisis, it is not intended to cover ongoing operating or maintenance costs of a company during the crisis through continuous equity injections.

The consequences of the crisis will also be structural in the foreseeable future, unless a timely re-sponse is taken at the structural level. Even fundamentally profitable companies will disappear from the market, and already powerful businesses will gain market power, such as online platforms as e-commerce grows. The diversity of businesses and therefore diversity of products and services will decrease and, along with it, consumer welfare. In addition, it is foreseeable that increased demand after the crisis will put supply chains under stress.

It is therefore important to support the structure of the economy as early as possible. This could be done, for example, through permitting cooperation between competitors to share the impact of sharply reduced demand due to the crisis among themselves (thereby securing their assets), or to coordinate supply of scarce intermediate goods where they are active in supply chains that have been interrupted by the crisis. In this way, more existing companies could remain on the market, which in turn would support competition after the crisis. A permissive approach under competition law to such collaboration could therefore complement the (sensible) financial assistance provided by Germany’s Government and contribute to the preservation of the economic structure.

4. Antitrust overview

The economic crisis caused by COVID-19 creates some peculiarities, in which the current situation is fundamentally different to structural crises in the past. In antitrust law literature and history, structural crises are usually associated with permanent overcapacity or a permanent decline in demand. Accord-ingly, "structural crisis cartels" are generally designed to ensure that competitors jointly agree on the reduction of production or supply capacities and share or participate in the costs incurred. However, the legal exception for crisis cartels under German’s competition regime, which was provided for under Section 6 of the ARC until 2005, was deleted without replacement under the 7th amendment of the ARC.  Similarly, under the EU competition rules crisis cartels have not tended to be treated any differently to other types of cartels.

The COVID-19 crisis is of immense importance in terms of competition policy for the period after the end of the crisis, but also today during the crisis, in terms of the following key issues:

• The consequences of the crisis in terms of changes in supply and demand.
• The consequences of the crisis in terms of changes in the product range offered.
• The impact of changes in supply and demand on effective competition.

First of all, it can be assumed that the likely adverse effects on economies caused by COVID-19 will be temporary, regardless of their exact duration (e.g. whether one or three years or longer). At the latest, as soon as sufficient vaccines or medications against COVID-19 are available or, alternatively, as soon as a sufficient immunisation of the population is achieved, the restrictions on economic life will be completely lifted. Then, both supply and demand will return to pre-crisis levels in the vast majority of the markets concerned, although this could take a long time (it is unclear how long this will take).

In this respect, the current situation is only temporary in terms of shortages of supply of certain prod-ucts, mainly produced in Asia. Oversupply in certain sectors of the economy, some of which have now even completely stalled (e.g. catering, entertainment, retail trade affected by closures, hotels and tourism), is also likely to be temporary. Once the disruption caused by COVID-19 has ended, there is likely to be sufficient demand for supply capacities that were available on the market before the crisis. As mentioned, however, this may take a few years.

Antitrust law should provide appropriate responses for both consequences of the crisis – i.e. both the temporary shortage of supplies of certain products and the current oversupply of certain products and services for the duration of the crisis. We deal with both issues below.

Certain cooperation between competitors, such as competitors sharing information on stock levels and engaging in mutual supply, may be exempted from the prohibition on cartels and anti-competitive agreements under Article 101(3) TFEU / Section 2 ARC relatively easily due to the directly foreseeable advantages of supplying consumers with products that are difficult to obtain (see Section 5 below). However, a corresponding exemption for cooperation between companies for whose products there is no or only very limited demand (e.g. airlines, hotels, retail, entertainment, catering, travel agencies, cruises, etc.) may be more challenging in light of the current interpretation of Article 101 (3) TFEU / Section 2 ARC. A direct advantage for the other side of the market may be harder to demonstrate if, for example, 50 local hotels split the remaining low demand for the duration of the COVID-19 crisis instead of competing with each other for the remaining demand. However, the economic shocks trig-gered by the COVID-19 pandemic require a re-thinking, at least for certain industries and under certain conditions (see Section 6 below).

5. Exemptions from the ban on cartels to deal with supply shortages

Germany’s Federal Cartel Office refers on its website to a joint statement of March 23, 2020 by the European Competition Network (ECN), comprising the European Commission and the national com-petition authorities of EU Member States.² In this joint declaration by all the antitrust authorities be-longing to the ECN, the authorities make it clear that cooperation between competitors to overcome temporary supply bottlenecks caused by COVID-19 is generally exempt from the prohibition of cartels and anti-competitive agreements:

• “The ECN understands that this extraordinary situation may trigger the need for companies to cooperate in order to ensure the supply and fair distribution of scarce products to all consumers. In the current circumstances, the ECN will not actively intervene against necessary and temporary measures put in place in order to avoid a shortage of supply.
• Considering the current circumstances, such measures are unlikely to be problematic, since they would either not amount to a restriction of competition under Article 101 TFEU/53 EEA or generate efficiencies that would most likely outweigh any such restriction. If companies have doubts about the compatibility of such cooperation initiatives with EU/EEA competition law, they can reach out to the Commission, the EFTA Surveillance Authority or the national compe-tition authority concerned any time for informal guidance.”

In practice, the Federal Cartel Office has already declared several cooperation arrangements between competitors to be unobjectionable under antitrust law on an individual basis, each of which has been entered into in order to avoid impending supply bottlenecks or to eliminate existing supply bottlenecks. Other antitrust authorities have issued similar declarations of no objection for cooperation between competitors to ensure essential supplies, such as between food retailers. Some jurisdictions have gone further and granted formal exemptions from competition law – the UK has done this for a number of sectors, including the groceries sector (although there are specific requirements that must be met to qualify for exemption).

6. Exemptions from the prohibition on cartels in order to cope with a temporary drop in demand/temporary overcapacity of supply

In addition to imminent supply bottlenecks, another consequence of the COVID-19 crisis is that de-mand for a range of products and services has either come to a complete standstill or fallen sharply. This affects commercial sectors such as large parts of the retail trade, be it clothing, electronics or a variety of industries that are either affected by a huge slump in demand (e.g. car rental companies, tour operators, hotels, travel agencies and airlines) or directly affected by legally ordered temporary or repeated closures of businesses or shops (e.g. retail trade, amusement parks, hairdressers, cinemas, concerts and sports events).

Norway has decided to exempt cooperation between airlines and other transport companies from the application of its prohibition on cartels and anti-competitive agreements. While this exemption was meant to maintain the transport of persons and goods in Norway, in order to ensure that citizens have access to necessary goods and services, it equally helps both airlines to survive despite a significant drop in demand by cooperating on certain routes.

Another example relates to Isle of Wight ferry services in the UK which are currently allowed to coordi-nate their services under an Exclusion Order that excludes certain COVID-19 related coordination from the UK competition law provision that prohibits anti-competitive agreements. These ferries provide essential lifeline services (e.g. medical supplies and transportation of residents to the mainland for essential healthcare). As COVID-19 has caused a significant reduction in demand there is a significant risk that, along with likely increase in staff absences, the operators will not be able to continue providing their services. Therefore, an Exclusion Order has been adopted that allows the operators to cooperate in certain respects, e.g. on timetables, without fear of infringing the UK competition rules.

With regard to falls in demand, the existing exemption mechanism under Article 101(3) TFEU cannot be readily applied. This mechanism aims for immediate or quickly occurring efficiency benefits with consumers receiving a fair share of those benefits, and the longer the time lag in this occurring the greater the efficiencies must be. However, cooperation arrangements between competitors that suffer a fall in demand for a period of two or three years may not generate efficiency gains for several years and too long to meet the criteria for exemption under Article 101(3).

Possible cooperation between competitors suffering from a fall in demand could involve a temporary reduction in supply, which would also ensure an even reduction in capacity between the competitors involved. However, it may also be necessary for market participants to coordinate with regard to de-mand to ensure their survival in the post-crisis period. In order to do so, agreements on prices which are not currently eligible for exemption may be indispensable. In this way, however, the existing mar-ket structure could be maintained for the period after the end of the COVID-19 crisis – thus ensuring long-term consumer benefits.

At this point, it should be considered whether maintaining a range of suppliers - noting that a large number of retail outlets, cinemas, restaurants etc. will foreseeably suffer from a considerable drop in demand for a long period of time - by means of restrictions of competition that bring about a concerted reduction in capacity is preferable to supporting such businesses using state aid. Furthermore, state aid may not always be an option due to the scarcity of state resources. However, without restrictions of competition or state aid, a large number of suppliers would be expected to disappear from the market in the face of a collapse in demand.

The disappearance of a large number of suppliers would have the consequence that, after the COVID-19 crisis ends, there would no longer be a sufficient number of suppliers to ensure effective competi-tion. This would - from a long-term perspective - lead to significantly greater disruption than allowing temporary cooperation between competitors, which, while leading to a coordinated reduction in supply, would at least ensure or facilitate diversity of suppliers and supply for the period after the crisis.

As a result, "preserving" diversity of supply for the duration of the COVID-19 crisis is also likely to limit the negative effects of the temporary fall in demand to a shorter period of time than would otherwise be the case. This is likely to apply in particular for industries characterised, for example, by high barriers to entry or where capacity expansion after the crisis is likely to take place only after considerable delay (due to the impact of uncertainty). In addition to a temporary reduction in supply, competitors coordinating their purchasing activities could also contribute to preserving the diversity of supply from an economic perspective. In particular, manufacturing companies are heavily dependent on suppliers and would  benefit from temporarily agreeing not to undercut fixed minimum prices for their inputs - if deemed acceptable under competition law as a means to ensure the continuation of alternative sources of supply after the crisis.

Another important consideration is the role of industry-specific standards developed by industry associations in helping both to ensure supply and efficiently limit the risk of infection during the COVID-19 crisis. Industry associations or, alternatively, companies operating within an industry have the necessary expertise to define the appropriate safety standards for their sector and requirements will differ between sectors. For example, an aircraft will require less indoor air per person to prevent infections from breathing air than in a bus, train, ship or restaurant because the air in the aircraft is filtered and supplemented with new outdoor air, whereas in a restaurant, bus or ship this is not the case. Industry associations are also more competent to determine the specific requirements for “their” sectors than the state. If the legislature were to create special regulatory legislation for each specific industry, it would almost certainly be overwhelmed – or overstep the regulatory Rubicon. The first administrative court decisions regarding Germany’s square meter restrictions in retail shops are an initial indication of the complexity of sector-specific regulations in relation to the crisis.

It is possible to develop a number of ways of assessing on a case-by-case basis whether the short-term costs of a temporary restriction of competition would be offset by positive medium- and long-term effects. Possible criteria could be market exit and entry costs, as well as the extent of the price effects caused by the crisis. These criteria could include, in part, the requirements of Article 101(3) TFEU and could more broadly include the following (without claiming to be exhaustive):

• The COVID-19 pandemic must threaten a further or significant deterioration of the market structure.
• Cooperation between competitors must in turn counteract the structural threat to competition. In other words, the cooperation must be suitable for keeping suppliers in the market who were fun-damentally viable and economically "healthy" prior to the crisis (it is therefore not a case of preserving inefficient competitors/market structures).
• The respective restriction of competition must be the "least restrictive means". Cooperation be-tween competitors must therefore not lead to the postponement of investments intended to improve efficiencies that are still possible or have long been planned. This criterion is also linked to the criterion of the necessity of the measure (see previous point).
• Price agreements (e.g. on minimum prices or price frameworks, such as the complete passing on of additional costs) necessary for the alignment of the offer between competitors on the relevant market must also be permitted in certain circumstances, but only where absolutely limited to the necessary extent required for the implementation of the cooperation.
• Cooperation must improve the situation of supply for consumers, which must not be measured solely by price levels. The counterfactual represents the supply situation in case the cooperation is abandoned.

In view of the unprecedented scale of the impact of COVID-19, it would not be justified to limit such “self-help” measures to sectors that were already structurally endangered before the crisis, such as narrow oligopoly markets where only a maximum of three to five suppliers or even less are active today. However, there is a danger that without the self-help measures described above, many markets would develop such potentially anti-competitive structures.

To limit the burden of monitoring such arrangements on competent antitrust authorities, it should be considered that the trade association implementing the restriction or the group of undertakings in-volved in the cooperation be obliged to report regularly to the competent antitrust authority for the duration of the cooperation. For example, the report could include the following parameters: the impact of the cooperation on the market; developments in purchase and sale prices; and how the cooperation has been implemented in detail. This would also enable antitrust authorities to monitor and end cooperation arrangements when the crisis ceases or if the extended cooperative framework is abused.

7. Further competition-enhancing intervention by antitrust authorities

In the absence of potential for cooperation, for example because a market has overcapacity inde-pendently of the COVID-19 crisis, competition authorities can, under favorable circumstances, work towards the most competitive market structures possible with a view to the position after the  crisis ends. Antitrust authorities may, where appropriate, pursue a policy of "market design" in the event of mergers in tight market structures, in order to avoid, as far as possible, structural deterioration of markets.

From a regulatory point of view, increasing governmental intervention with the  aim of designing com-petitive market structures could be rightly countered by the objection that this may itself undermine a competitive market environment and competition between independent companies. However, such interventions by antitrust authorities would provide the opportunity of keeping markets more open and competitive for the period after the end of the COVID-19-related restrictions of competition than with-out such intervention.

In addition, the abuse of dominance rules are also of increased importance at the moment. In the case of dominant companies, it is important that supply bottlenecks are not used to enforce monopoly prices. However, this does not mean preventing any price increases in the event of market-wide increases. The example of the permitted Norwegian airline cooperation illustrates, among other things, the red line to be observed: it is likely that the cooperation partners would have been loss-making without the exempted cooperation. Through the cooperation it is to be expected that both airlines are able to offer a route with better capacity. It is also conceivable, however, that, despite the reduction in average costs, the prices charged to customers would not cover the airlines’ costs. There would then have been a need to increase prices to be able to cover the costs of the flights. Such price increases would not be an expression of monopolistic behaviour, but would be necessary to maintain operations.