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Laboratory evidence on the effectiveness of corporate leniency programs.

Article Excerpt
The number of cartels detected in the United States and in Europe has increased considerably since the introduction of corporate leniency programs in antitrust legislation. It cannot, however, be ruled out that this apparent success results in part from increased cartel activity. We explore the effects of corporate leniency programs on pricing and cartel activity by use of an experiment. We find that in the lab (i) fewer cartels are established when a leniency program is in place, and (ii) cartels that do exist are less successful in charging prices above the static Nash equilibrium price and have lower survival rates.

1. Introduction

* Corporate leniency programs have become an increasingly important tool for antitrust authorities to break cartels. These programs provide fine reductions and/or rewards for reporting a cartel to antitrust authorities by one of the cartel members. The first such program was initiated by the U.S. Department of Justice in 1978. Since then, they have become part of antitrust legislation in the United States, the European Union, and other countries (OECD, 2002; Spagnolo, forthcoming).

The number of cartels detected has increased considerably since the introduction of leniency programs, but "in principle this could even be due to an increase in cartel activity" (Spagnolo, 2004). The reason for this is that along with the enhanced incentive to cheat on a cartel while simultaneously reporting it, leniency programs can also make cartel activity less costly for participants. This occurs when cartel profits net of reduced fine payments exceed both defection and expected cartel profits. When this happens, too many cartel members are given excessive fine reductions upon reporting, and cartels are formed and reported continuously. Leniency programs with this feature are called exploitable (Spagnolo, 2004). So it remains an open question whether the dramatic increase in leniency applications is proof of their success in fighting cartels or merely reflects increased cartel activity due to their conditions having become too generous.

To answer this question, empirical evidence on the effects of leniency programs would be most welcome. This type of evidence, however, is hard to come by because information on cartels not yet disclosed is typically not available. Moreover, natural experiments do not easily present themselves, as it is not feasible to adjust legislation too often. (1) With a laboratory experiment, however, one can study the effects of leniency programs on the willingness of subjects to engage in (nonbinding) price discussions and on the market prices that result.

Here we report on four treatments of an experiment that implements such a setup and that follow up and extend the work of Apesteguia et al. (2007). In each treatment, subjects repeatedly play a discrete homogeneous-goods Bertrand pricing game in groups of three. This game has been introduced by Dufwenberg and Gneezy (2000). In each period, subjects have to choose an integer in the range 101-110. Subjects who choose the lowest number (price) p receive net earnings of (p - 100)/L, with L equal to the number of subjects choosing the lowest number. This lowest number is labeled the market price. Any price above the market price yields no revenue. The Nash equilibrium price of the one-shot game is [p.sup.N] = 101. The treatments differ in the options of subjects to have nonbinding price discussions prior to a market phase in which the actual price is determined. In comparing behavior and market outcomes across treatments, we study the effects of corporate leniency programs on pricing, cartel activity, and cartel stability.

One notion of cartel activity considers all situations where noncompetitive prices (p > 101) occur as collusive. This notion is consistent with models of tacit collusion with homogeneous products. Apesteguia et al. (2007) apply a different notion by defining a cartel as the situation when all group members unanimously decide to discuss prices. This latter notion is more in line with current legal practice that firms are unlikely to be found guilty of collusion when there have not been explicit attempts by the firms involved to communicate with each other (Motta, 2004). In our analysis, we consider both notions of cartel stability. Our evidence shows a positive relationship between having price discussions and the occurrence of noncompetitive prices, and for this reason qualitative outcomes are similar, whichever notion is adopted.

The remainder of our article proceeds as follows. Section 2 provides a brief overview of previous studies...

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