Critical Loss Analysis in Market Definition and Merger Control

The last couple of years have seen an increasing interest in critical loss analysis, both, in academia and in practice. This development is documented by various research papers, high-level exchanges between antitrust experts as well as an increasing number of case decisions – in the United States as well as in Europe – which make use of some form of critical loss analysis.

Generally, critical loss analysis is considered as one empirical method to investigate the closeness of competitive interaction triggered by supply-side and demand-side substitution. The critical sales loss is the decrease in sales resulting from a particular price increase that is just large enough so that a hypothetical monopolist or a merged entity, respectively, would not impose a price increase of at least that amount. If the actual loss following such a price increase is found to be less than the critical loss, the price increase would pay; otherwise it would not.

In this context, it is the aim of this article to describe the general method of critical loss analysis, to assess important properties of the concept, to show how critical loss analysis has to differ between market definition exercises and the evaluation of the competitive effects of horizontal mergers and to discuss applications of critical loss analysis in recent cases.

As a general result it can be said that an application of critical loss analysis in practice is often not as straightforward as the presentation of the general theoretical concept might suggest. In fact, the method has to be applied with great care in order to receive meaningful results. On the one hand, it is shown that the critical loss might be sensitive to changes in the calculation method as well as the underlying demand and cost functions. On the other hand, the success of a critical loss analysis critically depends on the accuracy of the estimation of the actual loss. As indicated by both high-level theoretical exchanges (sketched partly in Section D.) and the review of two recent antitrust cases (sketched in Section E.), this often turns out to be the key challenge in a critical loss analysis.

Hüschelrath, Kai (2009), Critical Loss Analysis in Market Definition and Merger Control, ZEW Discussion Paper No. 09-083, Mannheim, published in: European Competition Journal.