The growing use of algorithms puts strain on the traditional antitrust concepts of anti-competitve agreements, concerted practices and tacit collusion. While algorithms can be used in the implementation of an agreement that would be illegal under traditional antitrust principles, the use of algorithms may change competitive behaviours, potentially enabling firms to replace explicit collusion with tacit co-ordination without the need for an agreement or concerted practice.
A finding of an illegal agreement traditionally requires some proof of direct or indirect contact showing that firms have not acted independently. Tacit collusion normally falls outside antitrust law, even though certain market conditions (i.e., transparent markets with few sellers and homogenous products) may enable firms to engage in supra-competitive price strategies without any such contact. Indeed, one of the main risks of algorithms is that they expand the grey area between unlawful explicit collusion and lawful tacit collusion, allowing firms to sustain profits above the competitive level more easily without necessarily having to enter into an agreement.
The OECD note discusses ways in which computer algorithms may change the structural and supply characteristics of digital and some traditional markets to make them more prone to collusion.
a. Structural Effects of Algorithms
Two of the most important structural characteristics that affect the risk of collusion are the number of firms and barriers to entry. A large number of firms not only makes it harder to identify a “focal point” for co-ordination, but it also reduces the incentives for collusion, as each player would receive a smaller share of any supra-competitive gains that a collusive arrangement could extract. Similarly, in the absence of entry barriers, collusion can’t be sustained over time, as any increase in profits would increase the incentives to deviate from the collusive equilibrium and attract new entrants.
It is unclear how algorithms may affect these two structural characteristics. Some of the industries where algorithms are used to set dynamic prices, segment consumers or improve product quality – such as search engines, online marketplaces, discount stores, booking agencies, airlines, road transport and social networks - have a small number of large players. However, many of these industries are also characterised by natural barriers to entry, such as economies of scale, economies of scope and network effects, which allow companies to grow, collect large amounts of data and develop more accurate algorithms. On the other hand, algorithms may also lower barriers to entry, for example by allowing potential entrants to analyze market opportunities and reduce uncertainty.
In addition, algorithms may reduce the importance of the number of competitors in the market as a relevant factor for collusion. Collusion is more easily sustainable in traditional markets if there are few competitors, because a small number of firms can more easily agree on the terms of co-ordination and monitor and punish deviations. Algorithms could allow coordination, monitoring and punishment to take place in less concentrated markets.
Two other important structural characteristics making industries more prone to collusion are market transparency and frequency of interaction. In transparent markets, companies can more easily monitor each other’s actions, and frequent interactions enable them to punish deviations. The OECD note indicates that algorithms likely enhance both factors for collusion. In regard to transparency, the use of algorithms requires the collection of detailed real-time data, so companies have an incentive to develop automated methods to collect and store data, ready to be processed, without the need for human action, for instance through online cookies, smart cards, bar codes, voice recognition, radio frequency identification and other technologies. As a result, market participants can observe rivals’ and consumers’ actions in real-time. In regard to frequency of interaction, algorithms allow firms to make business decisions such as price adjustments very quickly, allowing for an immediate retaliation to deviations from collusion.
In addition, the Italian Competition Authority noted that pricing algorithms may make collusion more likely in smaller, more fragmented markets, such as many markets in Italy. The Italian Competition Authority also noted that an analysis of algorithms’ effects on the susceptibility of markets to collusion needs to take account of the relationship between intra-platform and inter-platform online competition.
b. Demand and supply factors
Apart from their structural implications, the OECD note recognizes algorithms’ possible effects on demand and supply factors. The OECD note acknowledges that the use of algorithms can enable consumers to improve their decision-making processes and to buy products more cheaply, but comments that firms’ use of algorithms is more likely to affect supply factors than demand factors.
As regards supply factors, the OECD note points out that innovation tends to reduce the value of collusive agreements, as well as the ability of less innovative firms to retaliate. Since algorithms are an important source of innovation, companies may face competitive pressure to develop the best-performing algorithm. Similarly, algorithms may help companies differentiate their services or the production process, leading to cost asymmetry. These factors may make collusion harder to sustain, counterbalancing the enhanced risk of collusion resulting from more transparent markets where companies react fast.
c. Algorithms’ impact on the likelihood of collusion
In summary, it is unclear whether algorithms increase or reduce the likelihood of collusion. The OECD suggests that in transparent markets where firms can adjust their decisions very fast, collusion may be sustainable regardless of factors such as the number of firms or the risk that innovations will disrupt the market in the future. The OECD cautions that, even if collusion is theoretically an equilibrium strategy, that does not mean that collusion will occur in practice. Still, according to the OECD, there is a clear risk that current changes in market conditions may facilitate anti-competitive strategies, such as collusion and other market manipulations.