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INNOVATION CONSIDERATIONS IN EU COMPETITION LAW ANALYSIS

Pablo Ibanez Colomo*

INTRODUCTION

Administrative action is often based on forecasts. Effective regulatory intervention may require

that authorities resort to prospective analysis to establish whether or not an event is likely to take

place. Competition law is not an exception in this regard. When evaluating the effects of a merger,

authorities determine whether the conditions of competition will deteriorate following the

operation. The analysis may provide indications about the likelihood, for instance, that prices will

be higher in the post-merger scenario,1 or that the new entity will no longer have the incentive to

supply inputs to rivals once the operation is completed.2 The same is true, inter alia, when they

seek to establish whether a strategy put in place by a dominant firm is likely to exclude its

competitors.3 Some of the issues raised by the prospective analysis that such scenarios entail have

long been widely discussed in the specific context of competition law and in administrative law at

large. This is the case, in particular, of the standard of proof that authorities must satisfy when

intervention is based on claims about future market outcomes.4

* Department of Law, London School of Economics and Political Science. E-mail: P.Ibanez-Colomo@lse.ac.uk. 1 Guidelines on the assessment of horizontal mergers under the Council Regulation on the control of concentrations between undertakings [2004] OJ C 31/5 (hereinafter, the ‘Horizontal Merger Guidelines’). 2 Guidelines on the assessment of non-horizontal mergers under the Council Regulation on the control of concentrations between undertakings [2008] OJ C 265/6. 3 Guidance on the Commission’s enforcement priorities in applying Article 82 of the EC Treaty to abusive exclusionary conduct by dominant undertakings OJ (2009), C 45/7. 4 See, in relation to competition law, David Bailey, ‘Standard of proof in EC merger proceedings: A common law perspective’ (2003) 40 Common Market Law Review 845; Malcolm Nicholson, Sarah Cardell and Bronagh McKenna, ‘The Scope of Review of Merger Decisions under Community Law’ (2005) 1 European Competition Journal 123; and Tony Reeves and Ninette Dodoo, ‘Standards of Proof and Standards of Judicial Review in EC Merger Law’, in Barry Hawk (ed), Annual Proceedings of the Fordham Corporate Law Institute (2005) (Juris Publishing 2006). See, in general, Paul Craig, EU Administrative Law (2nd edn, OUP 2012) 400 et seq.

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The relationship between the (prospective or retrospective) nature of the analysis of the

authority and the substantive aspects of a discipline (and more precisely, how the former affects

the latter) is an aspect that is given less attention in the literature and is rarely examined explicitly.

Competition law has the peculiarity of being enforced through remarkably succinct and plastic

provisions that are worded as very general prohibitions. The precise way in which the relevant

provisions are shaped thus depends on several factors. The timing of intervention is one of them.

Ex ante action based on forecasts makes it possible for competition authorities to expand the reach

of their powers and mimic the sort of proactive and prophylactic intervention that is typical of

economic regulation. Where such prospective analysis reveals that a practice5 implemented by a

firm is likely to impact negatively on competition, an authority is in a position to adopt the

necessary remedies (which may include imposing positive obligations on the firm) to prevent this

outcome. Pure ex post intervention (that is, intervention taking place once the negative effects on

competition have materialised), on the other hand, would simply empower the authority to

establish the infringement and impose a penalty (typically, a fine) on the firm as a deterrent.

This article examines how the nature and logic of competition law changes as authorities

expand the time horizon that they consider in their prospective analysis. The question of how far

into the future competition authorities can (and should) venture has grown in theoretical and

practical importance in recent years along with the transformation of the world economy. Rivalry

in a growing number of sectors is driven not so much by prices and/or output but by the

improvement of existing products6 and the development of new ones. Where they intervene in

these sectors, competition authorities often do so out of a concern that anticompetitive strategies

impact negatively on the process of innovation.

It will have become quickly apparent to the reader that changing the focus of enforcement

to embrace innovation considerations is not without problems. Unlike prices, output or product 5 The expression ‘practice’ is used in the article as a shorthand for an agreement, a unilateral practice or a concentration that is potentially anticompetitive. 6 Likewise, the expression ‘product’ is used to refer both to goods and services.

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quality, innovation is a disruptive and unpredictable process that often alters the features of

existing markets in fundamental ways. It does not necessarily come from established players,

which means that an analysis of the relevant market and its underlying features at a given point in

time provides, at best, a very imperfect and incomplete idea of the way in which it is likely to

emerge or evolve. If this is so, how can a competition authority justify the adoption of a

prohibition decision, or the imposition of remedies, on grounds that the contested conduct or

operation will affect the foreseeable rate of innovation in the marketplace? It would seem that any

claims or predictions made in this sense by the authority would not only be based on a partial

understanding of the forces at play, but would also be impossible to prove or disprove. As such,

they could open the door to arbitrary decision-making. From this perspective, the controversy

examined in this paper looks like a classic one in administrative law.

A competition lawyer would add a discipline-specific objection to the use of innovation

considerations in competition law analysis. One could argue that it is inherently incoherent for an

authority to rely on the long-run evolution of markets to justify intervention in the short run. It is

not possible to rule out the possibility that market dynamics unforeseen at the time of the decision

by themselves eliminate the concerns underlying intervention. What seem like entrenched and

damaging monopolies and oligopolies in the short run very often appear as temporary and

inoffensive when one takes a dynamic (long run) perspective. If positions of market power tend,

as a rule, to self-correct in the long run, one could also validly claim that an ad hoc legal regime

designed to preserve competition in the marketplace is not necessary in the first place. At the very

least, it seems opportunistic to rely on dynamic factors to justify administrative action while

ignoring the fact that the market features on which the decision is based can mutate if one expands

the time horizon considered in the analysis. When pondering the convenience of remedial action,

it would be logical to require authorities to acknowledge that competition law was conceived to,

and is only adequately equipped to address meaningfully short term considerations. Ignoring the

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logical boundaries of the discipline to expand the reach of the authorities’ powers could be seen,

from the perspective of an administrative lawyer, as an ultra vires act.

The fact that the concerns against the introduction of innovation considerations in

competition law can be framed as classic legal topics shows how the use of simple principles are

useful to clarify seemingly obscure and technical questions – it also shows that competition law

scholars and practitioners sometimes tend to ignore the lessons drawn from these topics. The

fundamental claim made in this paper is in fact an amalgam of the two abovementioned concerns.

It is submitted that innovation claims can only be considered in the analysis insofar as they are

verifiable and that do not depart from the sort of static (short run) analysis that is typical of

competition law. Where these two conditions are fulfilled, reliance on innovation considerations is

not in any way different from the standard assessment conducted by authorities in the field. Think

for instance of a merger involving the only two firms that – at the time of the operation – devote

substantial resources to the development of a particular product. Such an arrangement would be

problematic, as the merger eliminates the only constraints each other face in the short run. Because

the two firms strive to become the first to develop the product, competition is thus likely to be

harmed. The fact that the operation does not involve an ‘existing’ product seems irrelevant in this

sense. Similar consequences could be expected from a unilateral strategy pursued by a dominant

firm aimed at preventing the launch a new product (say, an improved and cheaper substitute of its

own product) by a competitor.

What is problematic from a legal standpoint is the introduction of the dynamic dimension

of innovation in the analysis, that is, of innovation-related arguments that are yet to materialised

when administrative action takes place. Suppose that, of two merging firms, only one of them

devotes substantial resources to the development of a new product at the time of the operation.

From a static standpoint (that is, in light of the features of the market at the time of intervention),

it is not obvious to see how the merger impacts negatively on the incentives of that firm to

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continue with its research efforts (the other party did not place a constraint on its incentives to

innovate in the pre-merger scenario). From a dynamic standpoint, on the other hand, a competition

authority could always attempt to claim that the operation eliminates the incentives of the other

party to start a similar research project in the future, or that the merged entity would have reduce

incentives to introduce improvements on the product once developed. Likewise, it could claim that

a unilateral strategy does not prevent the launch of a new product when intervention takes place,

but will prevent the launch of new products in the future.

The European Commission (hereinafter, the ‘Commission’) has introduced the dynamic

dimension of innovation in some cases decided since the mid-2000s. The expansion of the time

horizon considered in the analysis alters the nature of competition law in fundamental ways that

have not yet been fully considered, which have never been explained or subject to a debate, and to

which EU courts have not yet reacted. The purpose of these paper is to uncover and discuss the

legal and institutional implications of departing from static analysis. The different ways in which

competition law and innovation considerations can interact, are examined as follows. Sections 2

and 3 set the scene by explaining and clarifying the differences between the static and the dynamic

dimensions of competition and innovation. Section 4, in turn, explains the different ways in which

the static and dynamic dimensions of both innovation and competition can be combined in

practice. Section 4 shows how innovation considerations can be – and have routinely been –

integrated in competition law analysis without contradicting the static nature of the discipline.

Finally, Section 5 addresses the transformative effects of dynamic innovation arguments and how

they sit at odds with well-established principles in the field.

THE STATIC AND DYNAMIC DIMENSIONS OF COMPETITION

The static dimension of competition

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The static dimension of competition is concerned with the intensity of inter-firm rivalry on

parameters such as prices, output and product quality. It is the concept that captures the essence of

the process that tends to be associated, both in technical and non-technical work, with a generic

and unspecified idea of competition. From a static standpoint, an effectively competitive market is

one in which firms strive to attract consumers by improving their performance (through, inter alia,

lower costs and new and improved products). Under the mainstream analytical framework, market

outcomes are typically measured against the benchmark of efficiency. Accordingly, effective

competition is understood to lead to an efficient allocation of resources. Where a firm has the

ability to influence, at least to some degree, one or several parameters of competition (and, as a

result, to deviate from efficient outcomes at the expense of consumers), it is said to enjoy market

power. The control of the creation and the strengthening of positions of market power is a

definition that reflects accurately the nature of the activity of contemporary competition

authorities, including the Commission.7

The extent to which a firm enjoys market power is established by reference to a series of

proxies, the purpose of which is to identify the competitive constraints it faces. The definition of

the relevant market, which has become a default starting point of the assessment under the

mainstream analytical framework, makes it possible to identify the rivals that have the ability and

the incentive to influence the competitive conduct of a firm.8 Once the relevant market is defined,

it is possible to draw conclusions about, inter alia, the number of firms operating therein, the

market shares each of them enjoys, or the characteristics of the product they offer. Competition

law intervention is based on the presumption that less concentrated markets are more competitive

7 See for instance Guidelines on the applicability of Article 101 of the Treaty on the Functioning of the European Union to horizontal co-operation agreements [2011] OJ C11/1, para 28 (hereinafter, the ‘Guidelines on horizontal co-operation agreements’); Guidelines on vertical restraints [2010] OJ C130/1, para 23; or Horizontal Merger Guidelines [2004] OJ C 31/5, para 8; and Non-Horizontal Merger Guidelines [2008] C265/6, para. 23. 8 Commission Notice on the definition of relevant market for the purposes of Community competition law [1997] C372/5.

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than more concentrated ones. Similarly, the higher the market share enjoyed by a firm, the higher

the market power it is presumed to enjoy.

These presumptions, which rely heavily on the structure of the relevant market, remain at

the heart of the remit of competition authorities. Mergers are subject to an ex ante control

mechanism the purpose of which is to limit the degree of market concentration. Similarly, the

primary purpose of Article 102 TFEU is to avoid the increase in market concentration that

dominant firms deploy to exclude their rivals. Across all areas of competition law, market shares

are used as a proxy for the market power enjoyed by firms. Thus a firm is presumed to enjoy a

dominant position where its market share is above 50%.9 Vertical restraints within the meaning of

Article 101 TFEU are presumed to be unproblematic where the market shares of both the supplier

and the distributor are below 30%.10

The evolution of competition law in the past decades is probably best described as a

progressive move away from the mechanical application of structural presumptions. It is now clear

that very concentrated markets are sometimes fiercely competitive, and that it is unwarranted to

see industry consolidation as problematic in and of itself. In fact, the idea that mergers are, very

often, a source of efficiency gains is now undisputed.11 Similarly, market shares are understood to

be only an imperfect indicator of the market power enjoyed by a firm. Generally, they are now

taken as a starting point in the analysis, which may be modulated in light of other factors. The

Commission concedes in its policy documents that firms with very high market shares may be

unable to influence the conditions of competition if entry and expansion is easy for new players,

or if the market is subject to rapid and constant change.12

9 Case 62/86 AKZO v Commission [1991] ECR I-3359, para 60. 10 Article 3 of Commission Regulation 330/2010 of 20 April 2010 on the application of Article 101(3) of the Treaty on the Functioning of the European Union to categories of vertical agreements and concerted practices [2010] OJ L102/1. 11 Horizontal Merger Guidelines [2004] OJ C 31/5, para 76; and Non-Horizontal Merger Guidelines [2008] C265/6, para. 13. 12 Horizontal Merger Guidelines [2004] OJ C 31/5, para 15.

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The rise of the ‘information economy’ during the 1990s offered clear examples showing

that what seem like very strong market positions may be short-lived if incumbents are unable to

cope with competition coming from new entrants. The growing importance of these markets has

triggered a trend in scholarship (led by and large by US scholars, often economists) advocating for

a shift in the way in which competition policy is conducted. The point that some of these authors

make is not that the static analysis of competition concerns should adjust so that it adapts to the

features of fast-moving industries, but that it should be abandoned altogether in favour of a

framework revolving around innovation and dynamic competition.13 It is in this context that

explicit references to innovation started to appear in the policy documents issued by competition

authorities.14

The dynamic dimension of competition

When one takes a dynamic perspective, that is, when one looks beyond the features of a particular

market at the time when administrative action is considered, the concerns underpinning

competition law systems look exaggerated if not entirely unjustified. Rivalry between

technologies becomes the only relevant parameter of competition when the long run is considered.

This is the central message, sometimes simplified or misunderstood, conveyed by Joseph

Schumpeter in his classic work Capitalism, Socialism and Democracy.15 The fact that a firm

enjoys market power in the short run is not necessarily a reliable indicator of its ability to harm

consumers and reduce welfare beyond the short term. Conversely, a market characterised by

intense rivalry is not necessarily the one that best suits consumers’ needs, which may be more

13 See for instance J. Gregory Sidak and David J. Teece, ‘Dynamic Competition in Antitrust Law’ (2009) 5 Journal of Competition Law and Economics 581; 14 For a discussion of the increased role of innovation in the merger guidelines issued by the US Department of Justice, see Carl Shapiro, ‘Competition and Innovation – Did Arrow Hit the Bull’s Eye?’ in Josh Lerner and Scott Stern (eds), The Rate and Direction of Inventive Activity Revisited (University of Chicago Press 2012). 15 Joseph Schumpeter, Capitalism, Socialism and Democracy (G. Allen & Unwin Ltd 1943).

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effectively served by a monopolist offering a superior product.16 These scenarios, which seem

counterintuitive from a static standpoint, can be properly understood once the impact of

innovation on the competitive process is considered.

The prices charged by a dominant firm, even a monopoly, may consistently decrease over

time in real terms as a consequence of technological evolution.17 Alternatively, a dominant firm

may be driven out of the market if it is unable to cope with the pace of technological change.

Conversely, a firm improving radically an existing product may drive incumbents out of the

market even if it charges monopoly prices for its innovation. From a dynamic standpoint, the

competitive constraints that matter are not those that come from existing rivals – and which

produce competing products – but those that result from the innovations that alter the features of

existing markets in a fundamental way. Schumpeter dismissed the static analysis of competition

insofar as it failed to capture the true essence of capitalism as an engine of wealth, which he

famously described as a ‘perennial gale of creative destruction’.

From a dynamic standpoint, the protection of static competition – with its short-run focus

on prices, output and quality – would only be relevant insofar as it would contribute to preserving

innovation in the marketplace. Put differently, only if a clear and positive link between the static

and dynamic dimensions of competition can be established would it make sense to intervene to

address short-run concerns. What Schumpeter observed in this regard is that perfect competition –

the ideal benchmark against which markets are assessed from a static standpoint – is not the

market structure that is most conducive to innovation. If anything, it would be at odds with it.18 On

the other hand, Schumpeter speculated that the big industrial conglomerates that were seen with

16 Lemley offers a particularly illuminating example in this regard by asking whether one would prefer a ‘monopolistically-priced iPod or a perfectly competitive market for 8-track tapes’. See Mark Lemley, ‘Industry-Specific Antitrust Policy for Innovation’ (2011) Columbia Business Law Review 637. 17 In Capitalism, Socialism and Democracy, Schumpeter noted that, in the long run, prices for goods and services often ‘fall spectacularly’ as a consequence of technological progress. 18 Schumpeter observed (ibid.) that ‘The introduction of new methods of production and new commodities is hardly conceivable with perfect – and perfectly prompt – competition from the start. And this means that the bulk of what we call economic progress is incompatible with it’.

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concern at the time could be the driving forces behind the process of technological change that had

improve the lives of ordinary citizens in the preceding decades.19

The Schumpeterian view of competition has found a new lease of life in recent years. It is

easy to see how Schumpeter’s insights can be relied upon to defend the relaxation of competition

policy. One could claim that, to the extent that the link between static and dynamic competition is

unclear,20 there is no reason to presume that increased market concentration will harm the process

of innovation. One could take the argument even further and claim that the protection of static

standpoint is potentially damaging for the process of innovation. Industries in which rivalry is

primarily driven by innovation (as opposed to prices or output) could invoke, accordingly, quasi-

immunity from competition law. From this perspective, the onus would be on the competition

authority to show convincingly why innovation is likely to be harmed as a consequence of the

practices raising concerns from a static standpoint.21

A competition authority may adopt different strategies to address the Schumpeterian

challenge, some of them defensive, some offensive. One possible approach is to claim that,

irrespective of its potential impact on innovation, static competition is worthy of being protected

in and of itself. Unless they are repealed, or unless courts reinterpret them to accommodate

dynamic considerations, there would be no reason not to apply competition law provisions as

currently understood. Alternatively, a competition authority may take a specific stance in the

debate and rely on dynamic considerations to justify intervention. In the same way that some

voices plead for the relaxation of competition law insofar as the link between static and dynamic

19 Schumpeter (ibid.) claimed that big business ‘has come to be the most powerful engine of [economic] progress and in particular of the long-run expansion of total output not only in spite of, but to a considerable extent through, this strategy’. 20 Such a claim typically comes from a study by Richard Gilbert, ‘Looking for Mr. Schumpeter: Where Are We in the Competition-Innovation Debate’, in Adam B. Jaffe, Josh Lerner and Scott Stern (eds), Innovation Policy and the Economy, vol 6 (MIT Press 2006). 21 Douglas H. Ginsburg and Joshua D. Wright, ‘Dynamic Analysis and the Limits of Antitrust Institutions’ (2012) 78 Antitrust Law Journal 1.

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competition is unclear, an authority may claim that the protection of the former is necessary to

protect firms’ incentives to innovation.

THE STATIC AND DYNAMIC DIMENSIONS OF INNOVATION

The improvement of existing products and the development of new ones through innovation are

costly activities. They have in addition the peculiarity of having public good features, by which it

is meant that they are non-rival in use and non-excludable.22 Simply put, inventions are costly to

produce, but once produced, they can be replicated by rivals at a substantially lower cost without it

being easy for the innovator to prevent them from doing so. If firms are unable to appropriate the

benefits of their inventions, they can be expected to under-invest, relative to the social optimum,

in research and development activities.23 This would thus be instance in which public intervention

to address a market failure would be justified.

While the use of purely private devices is not unconceivable, governments rely on different

mechanisms to provide and preserve firms’ incentives to innovate and thus to achieve an efficient

allocation of resources. These include the provision of direct subsidies and, in particular, the

award of intellectual property rights. Among these, patents are the most relevant for the purposes

of the discussion about the static and dynamic dimensions of innovation, but the same conclusions

can be extended, inter alia, to copyright protection and to plant varieties. In accordance with

Article 52 of the European Patent Convention, such rights are awarded to inventions that are ‘new,

involve an inventive step and are susceptible of industrial application’.24 A patent reward

inventive activity by providing for a right, limited in time, to exploit the invention on an exclusive

22 A good is said to be non-rival where its consumption by one person does not limit others’ ability to consume it. A good is said to be non-excludable where the producer cannot prevent others from using it. The basic idea was developed in Paul Samuelson, ‘The Pure Theory of Public Expenditure’ (1954) 36 Review of Economics and Statistics 387. 23 N. Gregory Mankiw, Principles of Economics (6th edn, South-Western 2012) 221. 24 The text of the provision can be found at http://www.epo.org/law-practice/legal-texts/html/epc/2010/e/ar52.html.

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basis. In some cases, firms may seek to use contractual devices to preserve the value of their

innovations.

This analysis of firms’ incentives to innovate is based on the same framework on which

the case for competition policy is based. Thus it addresses what is perceived to be an inefficient

outcome (under-investment in inventive activities) from a static standpoint, and this in spite of the

fact that it is driven by a dynamic concern (the provision of adequate incentives to innovate will

favour dynamic competition). While the award of intellectual property rights may seem like a

logical response when evaluated under a static framework, it does not necessarily follow that it

will lead to greater innovation in the long run. It may even be the case that the award of exclusive

rights over inventions leads to a decrease in the rate innovation and thus harms dynamic

competition. The reasons why this may be the case have been widely discussed in the literature in

the past decades.25

A dynamic perspective on innovation issues considers several factors in addition to the

static case for the award of exclusive rights. It is not unusual for inventions to cumulate over time

and overlap with one another in many industries. Because analysis focused on the short run (one-

shot analysis) fails to capture the interplay of innovations over time, it does not consider the fact

that the award of exclusive rights to one firm may hinder the subsequent development of

inventions elaborating on, or improving, existing ones. Similarly, it fails to consider the fact that

these new entrants, because they would seek to capture sales away from the incumbent enjoying

exclusive rights, may have a greater incentive to innovate.26 In a well-known work, and just to

mention one example in which these intuitions are explored, Bessen and Maskin developed a

model showing that, in an industry where inventions build on existing ones (i.e. they are

‘sequential’) and are complementary in nature, the patent system may make innovators and society

25 For a review of the literature and its implications for competition law, see John Vickers, ‘Competition Policy and Property Rights’ (2010) 120 Economic Journal 375. 26 This basic idea was explored by Kenneth Arrow, ‘Economic Welfare and the Allocation of Resources for Invention’ in The Rate and Direction of Inventive Activity: Economic and Social Factors (Princeton University Press 1962).

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at large worse off.27 This would explain, in their view, the rapid pace of innovation in the software

industry during a period of weak intellectual property protection.

The point of this discussion is to show that the debate around the protection of incentives

to innovate, which seems relatively straightforward from a static standpoint, is further complicated

when a dynamic dimension is introduced. In spite of the uncertainty and the debates around its

desirability, the idea that the award of exclusive rights is necessary to ensure the appropriability of

inventions is currently enshrined in the legal system. As is true with the protection of the static

dimension of competition, the introduction of dynamic innovation considerations can be used –

and have in fact been used – as an argument in favour of the adjustment or the reform of

intellectual property regimes. Because of the plasticity and the indeterminate nature of competition

law provisions, authorities such as the Commission are able to navigate between the static and the

dynamic dimensions of competition depending on the circumstances of a case.

INTERACTIONS BETWEEN THE STATIC AND DYNAMIC DIMENSIONS OF

COMPETITION AND INNOVATION

The interactions between the static and dynamic dimensions of competition and innovation can

lead to four possible scenarios from a policy-making perspective. As shown in Figure 1, a

competition authority faces, first, a choice between the static and the dynamic dimensions of

competition. In addition, priority must be given either to a one-shot or a long-run view of

innovation. The different combinations around these two choices will lead to an alternative policy

options, each having a different impact on the frequency and the intensity of intervention.

Depending on the enforcement priorities, the concern with the static parameters of competition

(and thus, by proxy, with market structures) will be more or less intense, as will the readiness to

27 James Bessen and Eric Maskin, ‘Sequential innovation, patents, and imitation’ (2009) 40 RAND Journal of Economics 611.

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interfere with the ad hoc legal regimes devised to promote innovation (and in particular

intellectual property). The different shades of gray seek to capture the likelihood of enforcement

of each of the models. The model in which intervention is more likely is one that combines a

concern with market structures and a readiness to fine-tune ad hoc regimes with a view to

increasing the rate of innovation in the long run. Conversely, the one in which intervention is less

likely is one in which the focus is placed on dynamic competition and which does not dispute the

static case for the protection of incentives to innovate.

A policy model that is based on the static dimension of competition and innovation

combines the traditional concern of the discipline with parameters such as price, output and

product quality a view of innovation that is consistent with such an approach to competition. It is a

model based (whether implicitly or explicitly) on the belief that preserving the competitive

constraints faced by firms tends to have a positive impact on the rate of innovation in the

marketplace. At the same time, it is one that does not dispute the need to award exclusive rights to

promote firms’ incentives to innovate. The market structures resulting from the exploitation of

intellectual property rights are taken as a given. By the same token, the law is shaped and

modulated in a way that takes account of the rationale underlying the award of these rights.

Dynamic competition

Static innovation

Dynamic competition

Dynamic innovation

Static competition

Static innovation

Static competition

Dynamic innovation

Con

cern

wit

h s

tru

ctu

res

Deference to ad hoc regimes

+

+ -

-

Fig. 1: Interactions between the static and the dynamic dimensions of competition and innovation

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At the other end of the spectrum, a competition law may enforce competition law in light

of what one may term a purely Schumpeterian model, whereby innovation is the only relevant

parameter justifying intervention. This model would probably lead to less frequent intervention

relative to the previous model, insofar as it would no longer be based on the premise that the

preservation of short-run competitive constraints is necessarily conducive to increased innovation.

On the other hand, and insofar as intellectual property regimes are based on a static view of the

process, this – purely dynamic – approach to enforcement would interfere more frequently and

profoundly with them. If an ex post assessment reveals that the award of exclusive rights hinders

innovation in the context of a particular case, remedial action – and thus market fine-tuning –

would be justified.

The model in which intervention would be more frequent and intrusive, in any event, is the

one at the bottom right corner of Figure 1. This hybrid static-dynamic approach to enforcement

combines the static view of competition (and its concern with prices, output and quality) and the

lack of deference towards intellectual property that is characteristic of the dynamic dimension of

innovation. This is a model that is similar to the first one described above in that it is based on the

presumption that the protection of competition in the short run is conducive to innovation, but that

differs from it in that it challenges the static case for the award of exclusive rights for the same

purpose. As a result, this form of competition law does not take the market structures resulting

from the intellectual property system as a given, but interferes with it when deemed justified.

The first – purely static – model is the most obvious one for a competition authority to

adopt. Where innovation considerations are introduced in the analysis, they reflect a concern with

the short-run competitive constraints faced by firms. In other words, innovation is assessed, from

this perspective, as any other static parameter of competition. At the same time, and because the

static case for the award of intellectual property rights is not disputed, the law may be modulated

to take account of the features and rationale underlying such regimes. In fact, EU competition law,

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as stated by the ECJ, accommodates some restraints that would not be acceptable in circumstances

where firms’ incentives to innovate are not directly at stake – or not likely to be affected as a

consequence of intervention. More generally, it is clear from the case law of the ECJ that the

exercise of intellectual property rights is only abusive in a set of well-defined and exceptional

circumstances.

As the role of innovation as a driver of the competitive process becomes apparent and

pervasive, a competition authority may be naturally inclined to introduce a dynamic view of

innovation. This is the shift observed in the administrative practice of the Commission since the

mid-2000s. Deference to intellectual property regimes (and, more generally, the static case for the

award of exclusive rights to the exploitation of public goods) limits significantly the scope and the

reach of administrative action. Such constraints on intervention can however be effectively

removed by introducing an evaluation of the impact of the exercise of exclusive rights on

innovation in the long run. In other words, the introduction of dynamic considerations makes it

possible to introduce a perspective on the relationship between market structures and the rate of

innovation on the basis of which the static case for intellectual property protection can be

challenged and undermined. A dynamic view of innovation could fulfil a similar role where the

evidence gathered by the authority fails to meet the substantive standards to which it is in principle

subject. In such a case, reliance on innovation considerations would make it possible to

circumvent the constraints that would derive from the relevant precedents.

EU COMPETITION LAW ANALYSIS AND THE STATIC DIMENSION OF

INNOVATION

Innovation considerations as a limit to intervention

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Innovation, public goods, and competition law analysis

Competition law interferes with the exploitation of intellectual property rights in various ways.

This is only logical if one considers that the award of exclusive rights always is likely to lead to an

obstacle to rivalry in practice. To the extent that, as a result, such rights are a source of substantial

market power (that is, to the extent that the right holder faces little or no constraints on the

relevant market), they may confer on the firm holding them a dominant position within the

meaning of Article 102 TFEU.28 The acquisition of intellectual property rights through a merger

may lead to a significant impediment to effective competition (including the creation of a

dominant position) within the meaning of Article 2 of the Merger Regulation.29 Finally, the

licensing of intellectual property rights is caught by Article 101 TFEU insofar as it constitutes an

agreement within the meaning of that provision.30

EU courts have consistently showed a clear understanding of the public good features of

inventive and creative activities. In the context of Article 101 TFEU, they have acknowledged that

the promotion of static competition may harm the incentives to innovate where public goods are

involved. This has been reflected in the adjustment of the law, pursuant to which contractual

arrangements that would otherwise be deemed to restrict competition within the meaning of

28 In accordance with Article 102 TFEU: ‘Any abuse by one or more undertakings of a dominant position within the internal market or in a substantial part of it shall be prohibited as incompatible with the internal market in so far as it may affect trade between Member States […]’. The idea that an intellectual property right may confer a dominant position on its holder was laid down in Case 24/67 Parke, Davis and Co. v Probel, Reese, Beintema-Interpharm and Centrafarm [1968] ECR 81. 29 In accordance with Article 2(3) of the Council Regulation (EC) No 139/2004 of 20 January 2004 on the control of concentrations between undertakings [2004] OJ L24/1: ‘A concentration which would significantly impede effective competition, in the common market or in a substantial part of it, in particular as a result of the creation or strengthening of a dominant position, shall be declared incompatible with the common market’. For an overview of the way in which the Merger Regulation applies to the exploitation of intellectual property rights, see Benoit Durand, ‘Intellectual Property and Merger Control: Review of the Recent Experience under the European Merger Regulation’ in Claus-Dieter Ehlermann and Isabela Atanasiu (eds), European Competition Law Annual 2005: The Interaction between Competition Law and Intellectual Property Law (Hart 2007). 30 Article 101(1) TFEU prohibits as ‘as incompatible with the internal market […] all agreements between undertakings, decisions by associations of undertakings and concerted practices which may affect trade between Member States and which have as their object or effect the prevention, restriction or distortion of competition within the internal market’. On the application of Article 101 TFEU to intellectual property licensing agreements, see in particular See in particular Case 258/78 L.C. Nungesser KG and Kurt Eisele v Commission [1982] ECR 2015.

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Article 101(1) TFEU are acceptable where the exploitation of a public good is at stage. In

principle, agreements restricting (or eliminating the scope for) parallel trade within the EU violate

Article 101(1) TFEU by their very nature.31 Accordingly, a manufacturer may not shield a

distributor from competition coming from distributors established in other Member States.32

However, such restrictions may be acceptable in the context of a licensing agreement if

they are necessary to preserve the value of the intellectual property right and thus the incentives to

innovate. In Erauw-Jacquery, the CJEU held that an agreement prohibiting a licensee from

exporting seeds subject to plant variety rights is not contrary to Article 101(1) TFEU.33 In

reaching this conclusion, the CJEU noted that export restrictions may be necessary for ‘a person

who has made considerable efforts to develop varieties of basic seed’ to protect their value against

‘improper handling’. In Coditel II, it held that the licensing of the television rights for a film on an

exclusive basis does not in itself amount to a restriction of competition within the meaning of

Article 101(1) TFEU, and this in spite of the fact that it provides for the absolute territorial

protection of the licensee.34 The analysis of the CJEU considered, in particular, the ‘characteristics

of the cinematographic industry’.35

The CJEU has shown a similar attitude towards the use of contractual devices to preserve

the value of innovations. Take the example of franchise agreements. Franchising is an effective

means for a firm (the franchisor) to expand rapidly an innovative business method that has proved

successful with consumers. The growth of the business model has a positive impact on

competition and society as a whole. However, the franchisor may be unwilling to rely on

independent franchisees if this jeopardises the appropriation of its innovations. Based on this idea,

the CJEU concluded in Pronuptia that vertical restraints aimed at preserving the know-how of the

31 C-515/06 P and C-519/06 P GlaxoSmithKline Services and others v Commission [2009] ECR I-9291. 32 Joined Cases 56/64 and 58/64, Établissements Consten S.à.R.L. and Grundig-Verkaufs-GmbH v Commission [1966] ECR 429. 33 Case 27/87, SPRL Louis Erauw-Jacquery v La Hesbignonne SC [1988] ECR 1919. 34 Case 262/81 Coditel SA, Compagnie générale pour la diffusion de la télévision, and others v Ciné-Vog Films SA and others (‘Coditel II’) [1982] ECR 3381. 35 Ibid., para 16.

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franchisor (and the uniformity of the system) are not restrictive of competition within the meaning

of Article 101(1) TFEU.36 This includes non-competition clauses, which would have been subject

to a different analysis in other circumstances.37

Innovation as effective competition

Competition is likely to be fiercer in a market in which innovation is intense and less fierce in one

in which there is no scope for innovation and the improvement of existing products. In that sense,

the fact that the rate of innovation is high in a particular market is in itself an indicator that

remedial action may not be warranted, even when other factors suggest the opposite. A market

characterised by a high rate of innovation is on in which relative positions fluctuate along with

entry and with product improvements and thus one in which existing players are not able to

influence the parameters of competition to a significant extent. Their position may change if they

are unable to adapt, in the same way that a new entrant may be able to gain the favour of

consumers quickly.

The Commission acknowledges the role of innovation as an indicator of effective

competition (and thus as a limit to intervention) in different policy documents, including the

Horizontal Merger Guidelines.38 In October 2011, for instance, the Commission cleared the

acquisition of Skype by Microsoft.39 The operation led to an entity enjoying a market share above

80% on the market for video calls, which was moreover several times higher than that of its most

immediate competitors. In light of the relevant precedents these two factors would have suggested

36 Case 161/84 Pronuptia de Paris GmbH v Pronuptia de Paris Irmgard Schillgallis [1986] ECR 353. 37 Case C-234/89 Stergios Delimitis v Henninger Bräu AG [1991] ECR I-935. 38 Horizontal Merger Guidelines, para 15. 39 Microsoft/Skype (Case COMP/M.6281) Commission Decision of 7 October 2011 [2011] C341/2.

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that the operation created a dominant position in that market.40 However, the Commission took

account of the rate of innovation on the relevant market to conclude that the operation was not a

source of competition concerns. The authority deemed it very likely that a very substantial fraction

of end-users would switch to competing services if the parties were unable to cope with

innovation in the relevant market.

Innovation considerations as a justification for intervention

Competition law may react to practices restricting innovation. Innovation considerations may give

rise to intervention in three different scenarios. A restriction to innovation may mean, from a static

standpoint, that a given practice prevents the launch of newly developed products that have not yet

reached consumers. It may also refer to instances in which inter-firm rivalry does not concern the

launch of new products but the development of new ones. Finally, a given practice may be said to

restrict the process of innovation if it reduces or eliminates the competitive constraints faced by

one or more firms on a market where innovation is one of the key parameters of competition.

These three scenarios are examined in turn.

Innovation as a new product

Anticompetitive strategies aimed at preventing the launch of a new product can be said to

restrict innovation. The analysis of these strategies remains static, insofar as these are aimed at

eliminating a source of competitive constraints, and as such would not depart from orthodox

policy-making. This can be achieved by means of a merger (if a firm acquires a technology

40 In para 17 of the Horizontal Merger Guidelines, the Commission states that ‘very large market shares – 50 % or more – may in themselves be evidence of the existence of a dominant market position’. See in this sense Case 85/76 Hoffmann-La Roche & Co. AG v Commission [1979] ECR 461, para 39.

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competing with its own), an agreement (one can think of a group boycott41), or a unilateral

practice. In Tetra Pak I, the General Court (hereinafter, ‘GC’) held that the fact for a dominant

firm to acquire an exclusive licence relating to a technology competing with its own may violate

Article 102 TFEU.42 In Magill, the CJEU held that the refusal to license an intellectual property

right may in ‘exceptional circumstances’ amount to an abuse of a dominant position within the

meaning of the same provision. Pursuant to the strict conditions set in that case, the refusal must,

inter alia, prevent the emergence of a ‘new product’ for which there is potential consumer

demand.43 By way of example, it is useful to refer to the Thoratec/HeartWare merger, which

captures the essence of this scenario equally well.44 The operation, challenged in the US by the

Federal Trade Commission (‘FTC’), involved the only supplier of a particular type of mechanical

circulatory devices and the only other company that was close to launching the same product.

Innovation as a race for a new product

The following scenario refers to a situation in which no firm has yet launched a product,

but two or more are devoting resources to their development. To use the expression of the

Commission, this scenario is one of ‘competition in innovation’45 in which firms are engaged in a

‘race’ to be the first (and possibly the only) to launch the product in question. Such a situation can

be beneficial for consumers if it increases the likelihood that the product will be developed and

accelerates its launch. Conversely, the elimination of one of the contenders (for instance through a

merger between two of them) would have a negative impact on the process of situation.

41 The application of competition law in such a scenario is considered in the US Department of Justice and the Federal Trade Commission, Antitrust Guidelines for the Licensing of Intellectual Property, April 1995, available at http://www.justice.gov/atr/public/guidelines/0558.htm, section 5.1. 42 Case T-51/89 Tetra Pak Rausing SA v Commission [1990] ECR II-309. 43 Joined Cases C-241/91 P and C-242/91 P, Radio Telefis Eireann (RTE) and Independent Television Publications Ltd (ITP) v Commission (“Magill”) [1995] ECR 743. See also Case C-418/01, IMS Health GmbH & Co. OHG v NDC Health GmbH & Co. KG [2004] ECR I-5039. 44 ‘FTC Challenges Thoratec's Proposed Acquisition of HeartWare International’, 30 July 2009, available at http://www.ftc.gov/opa/2009/07/thoratec.shtm. 45 Guidelines on horizontal co-operation agreements, paras 119-22.

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In some instances, the issues raised in such a scenario are conceptually similar to those

raised by ‘bidding markets’.46 Competition in ‘bidding markets’ does not occur ‘within’ the

relevant market, but rather takes place ‘for’ the market. Firms in a ‘bidding market’ compete for

contracts, which are awarded to a single firm (to use Klemperer’s expression, rivalry is said to be

of the ‘winner-takes-all’ type). As a result, the intensity of rivalry is measured not so much by

reference to the market shares, but by reference to the number of firms that have the capacity and

the means to bid for a contract. The impact of potentially anticompetitive practices is measured in

the same way.47

Where inter-firm rivalry is similar in its features and structure as that found in ‘bidding

markets’, there seems to be no apparent reason why competition law should not apply to

‘competition in innovation’ scenarios. The assessment in such a case would remain static and not

dynamic, in the sense that it would revolve around an economic activity that can be established at

the time of intervention. In line with their US counterparts,48 Commission explains in the

Guidelines on horizontal co-operation agreements that similarities between the two markets exist

where the boundaries of innovation activities can be defined with precision, that is, where research

efforts are not merely speculative and are systematically devoted to the development of a

particular product.49 In those circumstances, which are difficult to be met in practice but may

arise, for instance in pharmaceutical markets,50 it becomes possible to identify the number of

rivals engaged in the same economic activity as well as the effects of, for instance, a merger or an 46 See Paul Klemperer, ‘Bidding Markets’ (2007) 3 Journal of Competition Law and Economics 1. 47 See Horizontal Merger Guidelines, para 29, where the Commission states that ‘[i]n bidding markets it may be possible to measure whether historically the submitted bids by one of the merging parties have been constrained by the presence of the other merging party’. 48 See US Department of Justice and the Federal Trade Commission, Antitrust Guidelines for the Licensing of Intellectual Property, April 1995, available at http://www.justice.gov/atr/public/guidelines/0558.htm, section 3.2.3, where the authorities clarify that they ‘will delineate an innovation market only when the capabilities to engage in the relevant research and development can be associated with specialized assets or characteristics of specific firms’. See also US Department of Justice and the Federal Trade Commission, Horizontal Merger Guidelines, August 2010, available at http://www.justice.gov/atr/public/guidelines/hmg-2010.html#6d, section 6.4. 49 Guidelines on horizontal co-operation agreements, para 120. 50 As explained by Carl Shapiro, the ‘[regulatory] approval process often makes it possible to know well in advance which firms are in the best position to introduce drugs or medical devices soon in a specifi c therapeutic area’. See Carl Shapiro, ‘Competition and Innovation – Did Arrow Hit the Bull’s Eye?’ in Josh Lerner and Scott Stern (eds), The Rate and Direction of Inventive Activity Revisited (University of Chicago Press 2012).

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agreement on the competitive constraints faced by the remaining players.51 In Syngenta/Monsanto,

for instance, the Commission examined the research and development capabilities of the merging

parties for the products concerned by the operation and concluded that the new entity would be by

far the market leader.52

Innovation as a parameter of competition

Innovation can be treated as a dimension over which firms compete in the short run. Thus, in the

same way that the reduction in the competitive constraints faced by firms may have a negative

impact on prices, output or product quality, one could reasonably expect it to reduce the intensity

with which new and improved products are developed or launched, and particularly so on markets

where innovation drives rivalry. Put differently, there would be a direct negative relationship

between market power and the rate of innovation in the relevant market. A look at the soft law

instruments issued by the Commission shows that contemporary EU competition law does not

dispute this relationship, which is taken as a given. Innovation is referred to alongside other

parameters of competition.53

The assumption that the protection of rivalry in the short run preserves firms’ incentives to

innovate, while intuitively correct and consistent with the remit of an authority concerned with the

protection of static competition, is not entirely devoid of technical and practical difficulties. The

analytical framework used to evaluate anticompetitive practices (including market definition and

the assessment of market power) is essentially based on prices.54 These documents do not provide

51 Guidelines on horizontal co-operation agreements, para 120; and Horizontal Merger Guidelines, para. 38. 52 Syngenta/Monsanto’s Sunflower Seed Business (Case COMP/M.5675) Commission Decision of 17 November 2010. 53 In para 8 of the Horizontal Merger Guidelines, and in para. 10 of the Non-Horizontal Merger Guidelines, for instance, the Commission holds that ‘[e]ffective competition brings benefits to consumers, such as low prices, high quality products, a wide selection of goods and services, and innovation’. See also, inter alia, paras 2 and 3 of the Guidelines on horizontal co-operation agreements. 54 In fact, the analytical framework found in the soft law instruments mentioned in the preceding footnote is by and large based on prices, and ‘increased prices’ are used to refer to any negative impact on competition. In this sense,

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for explicit tools to assess how changes in the market structure affect the rate of innovation. It

would seem that, at best, competition authorities can only draw inferences about the way in which

a change in the market structure is likely to impact other parameters of competition. As mentioned

above, moreover, the relationship between the two is a complex one, at least more so than that

existing between prices and market structures.55

In spite of these concerns, there seems to be no compelling reason to why innovation

should be excluded from static analysis. In addition to the obvious fact that the remit of

competition authorities has never been confined to the assessment of the impact of potentially

anticompetitive practices on prices alone, one should note that the analysis in the field tends to be

holistic and very often relies on a number of indirect proxies, and not necessarily on direct and

observable evidence. When assessing the unilateral effects of a horizontal merger, the

Commission considers, in addition to the level of concentration and the relative position of the

parties on the relevant market, the extent to which they are close competitors, whether market

entry and exit is costly, whether rivals have the ability to expand capacity or whether the

constraints coming from buyers or suppliers are sufficient to eliminate any concerns.56 The

assessment of vertical and conglomerate mergers, as well as the assessment of potentially abusive

practices within the meaning of Article 102 TFEU, is primarily based on whether the foreclosure

of competing firms is a likely scenario in light of the features of the relevant market.57

Bohannan and Hovenkamp observe that ‘[i]nnovation has never fit very comfortably into antitrust enforcement policy. Antitrust has relied largely on neoclassical models that identify anticompetitive behaviour in terms of price and output, measured mainly by units of production’. See Christina Bohannan and Herbert Hovenkamp, Creation without Restraint – Promoting Liberty and Rivalry in Innovation (OUP 2012) 238. 55 See Carl Shapiro, ‘Competition and Innovation – Did Arrow Hit the Bull’s Eye?’ in Josh Lerner and Scott Stern (eds), The Rate and Direction of Inventive Activity Revisited (University of Chicago Press 2012), where the author acknowledges that the ‘the overall cross- sectional relationship between firm size or market structure and innovation is complex’, and that ‘[g]eneral theoretical or empirical findings about these relationships remain elusive’. On the differences between the relationship between market structure and prices, on the one hand, and between market structure and innovation, on the other, see also Michael L. Katz and Howard A. Shelanski, ‘Mergers and Innovation’ (2007) 74 Antitrust Law Journal 1. 56 Horizontal Merger Guidelines, in particular paras 24-38. 57 Non-Horizontal Merger Guidelines, para 29 and Guidance on the Commission's enforcement priorities in applying Article 82 of the EC Treaty to abusive exclusionary conduct by dominant undertakings [2009] OJ C45/7, paras 19-20.

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Conclusions about the effects of the practice on the different parameters of competition are

drawn only at a subsequent stage, and tend to rely heavily on an analysis by proxy. This is not

specific of the assessment of innovation considerations, but seems to permeate the whole of

contemporary competition law analysis. Put differently, inferences about the impact of changes in

the market structure on innovation are probably not any less imperfect about the impact of such

changes on product quality or consumer choices. Static analysis remains essentially structural in

nature. If this is so, there would be no valid parameter-specific reason why the current state of

administrative practice should be contested. If anything, one has to acknowledge that the

Commission seeks more carefully than in the past to draw an explicit link between the proxies

used and the different parameters.

In view of the above, it would seem that the crucial step from a static perspective is the

first one, whereby the authority establishes the impact of a given practices on firms’ ability and

incentive to compete. To the extent that the conclusions drawn from an assessment in light of the

criteria identified above (market shares, barriers to entry, closeness of competition, countervailing

buyer power) suggests convincingly that the constraints faced by firms are likely to be

significantly affected, there would be no reason why the authority should not be able to identify, in

the analysis of the second step, that innovation is one of the parameters of competition in which

these effects will be manifested. This approach reflects very well the way in which innovation

considerations have been introduced by the Commission in the vast majority of cases and which, it

is submitted, is unproblematic and uneventful.

Take the example of the Intel case to illustrate this idea.58 This decision related to practices

implemented by the world leading manufacturer of microprocessors, a product in which

competition is very much driven by innovation.59 In nearly 200 pages the Commission sought to

establish why, in the specific context in which it was implemented, Intel’s conduct was liable to

58 Intel (Case COMP/C-3/37.990) Commission Decision of 13 May 2009 [2009] C227/13. 59 Ibid., paras 139-148.

26

lead to the elimination of an equally efficient competitor and thus violated Article 102 TFEU. This

analysis was followed by a succinct seven-page discussion of the plausible effects of the

elimination of the main competitive constraints on consumer choice, including a sketch of the

impact of the practice on Intel’s rival incentives to invest in research and development activities.60

A look at the decision reveals that innovation considerations were not crucial for the outcome of

the case and were introduced only for the sake of completeness. Its fate depended on evidence that

the practices had indeed occurred as described by the Commission (another aspect to which the

authority dedicated nearly 200 pages in the decision) and that they had foreclosure effects.61

Consider now some examples drawn from merger control. In Unilever/Sara Lee, the

Commission noted that the target company had been an important innovator on the relevant prior

to the operation. This aspect was merely treated as one of the several factors (including the

closeness of competition between the parties and direct evidence resulting from a merger

simulation, lack of countervailing buyer power, high barriers to entry) suggesting that higher

prices were a likely outcome of the merger.62 In Syngenta/Monsanto the fact that the target firm

was a major innovator was considered to be one of several factors suggesting that the operation, if

completed as notified, would eliminate the single most important competitive constraint faced by

the acquiring company.63

Where, conversely, negative effects on innovation are excluded by the Commission where

the static analysis suggests that the competitive constraints faced by the parties will remain strong

after the operation. Precision Castparts/Titanium Metals brought together a supplier and a

manufacturer.64 Some third parties considered that the vertical operation could have detrimental

60 Ibid., paras 1597-1616. 61 At the time of writing, the case was pending before the GC. See Case T-286/09 Intel Corp. v Commission, pending. 62 Unilever/Sara Lee Body Case (COMP/M.5658) Commission Decision of 17 November 2010 [2012] C23/28, in particular paras. 158-198. 63 Syngenta/Monsanto’s Sunflower Seed Business (Case COMP/M.5675) Commission Decision of 17 November 2010, for instance paras 210-267. 64 Precision Castparts/Titanium Metals (Case COMP/M.6755) Commission Decision of 19 December 2012 [2013] C72/1.

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effects on innovation if the upstream division of the merged entity decided to withdraw the supply

of inputs used by downstream rivals in research and development projects. The Commission

noted, however, that to the extent that the merged entity faced rivalry upstream, there was little

reason to presume that such conduct would occur or that, if implemented, that it would have a

significant impact on downstream competition.65 Similar concerns were dismissed in

Google/Motorola Mobility.66 Some mobile device manufacturers expressed concerns about the

impact on innovation of some of the conditions imposed by Google for the licensing of its mobile

operating system. Again, the Commission noted that the upstream market for mobile operating

systems was competitive.67 According to the authority, rivalry was equally intense on the

downstream market for mobile device manufacturers, where there were well-established players

relying on a proprietary operating system.68

EU COMPETITION LAW ANALYSIS AND THE DYNAMIC DIMENSION OF

INNOVATION

The integration of dynamic innovation considerations into static analysis

The section above explored the three main ways in which the static dimension of innovation can

be integrated into the analysis performed by competition authorities. From a static standpoint, the

protection of innovation is understood to be a side-effect of the preservation of the ability and the

incentive of firms to rival one another. What justifies intervention is in any event the impact of

potentially anticompetitive practices on the constraints faced by firms in the marketplace. Simply

put, innovation follows the analysis of market structures. The analysis of innovation is itself static

65 Ibid., para 210. 66 Google/Motorola Mobility (Case COMP/M.6381) Commission Decision of 13 February 2012 [2012] C75/1. 67 Ibid., para 97. 68 Ibid., para 98.

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in nature. Only where innovation is a source of competitive constraints that can be identified at the

time of intervention will it be considered in the analysis.

Moving beyond static considerations to integrate the dynamic dimension of innovation

entails a fundamental change in the way in which the analysis is conducted. It amounts, in

essence, to reversing the relationship between innovation and market structures. In other words,

intervention would be directly driven the perceived effects of a practice on firms’ incentives to

innovate. The resulting market structure would therefore be a consequence of the analysis of

innovation, and not vice versa. Take the examples of Precision Castparts/Titanium Metals or of

Google/Motorola Mobility. If a dynamic dimension is introduced, the competition authority would

no longer consider whether they would have a negative impact on firms’ ability and incentive to

innovate and this, irrespective of whether the operation leads to the exclusion of rivals and thus to

a significant reduction in the competitive constraints faced by the merged entity.

Without being explicit about the question, and without considering the legal implications

of the analytical shift, the Commission has, in some cases, introduced dynamic innovation

considerations to alter or refine the conclusions stemming from the static analysis alone. It would

seem that the Microsoft saga marked the start of a trend that is characterised by a reassessment of

substantive standards in a light that can accommodate dynamic considerations and, more

specifically, presumptions about how particular practices impact on firms’ incentives to innovate.

A fundamental consequence of the observed shift is the relaxation of the legal principles

concerned. In a sense, the introduction of dynamic innovation considerations makes it possible for

the authority to circumvent the limits to administrative action that would logically derive from

static analysis.

The Commission held in its first Microsoft decision that the firm’s refusal to license

interoperability information to rivals amounted to an abuse of a dominant position.69 As

69 Microsoft (Case COMP/C-3/37.792) Commission Decision of 24 March 2004 [2007] L32/3.

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mentioned above, the CJEU held in Magill, and later reiterated in IMS Health, that, where

intellectual property rights are involved, such refusals are only abusive if, inter alia, they prevent

the emergence of a ‘new product’ for which there is potential consumer demand (evidence of

foreclosure alone is insufficient to trigger administrative action). Irrespective of whether the

condition set by the Court is deemed appropriate or practicable beyond the specifics of the case,70

it is clear that the ‘new product’ in Magill could be offered when the contested practice took place.

Therefore analysis in this sense was, as explained above, clearly and uneventfully static in nature.

In its 2004 decision, the Commission did not seek to establish that Microsoft’s behaviour

prevented the emergence of a particular product developed by a rival or a group thereof. Instead,

the authority claimed that the refusal marginalised rivals’ products, thereby limiting access by

consumers to their innovative features.71 Over the long run, the Commission assumed that the

marginalisation of rivals would reduce the scope for innovation on the relevant market, virtually

limiting it to innovations coming from Microsoft itself.72 This decision introduced two main

themes that would be developed subsequently by the authority. The first is the transformation of

the ‘new product’ condition from one based on static considerations to one based on dynamic

ones. The second one is the assumption whereby a competitive level playing field is more

conducive to innovation than a marketplace in which some firms are able to exploit their

competitive advantages.

The transformation of the ‘new product’ condition was enshrined in the Guidance on

exclusionary abuses issued by the Commission in 2008 (hereinafter, the ‘Guidance Paper’).73

Following the GC ruling in Microsoft, in which this aspect of the decision was upheld,74 the

70 For a discussion of the condition, see Mark R. Patterson, ‘The Peculiar “New Product” Requirement in European Refusal to License Cases: A US Perspective’ in Claus-Dieter Ehlermann and Mel Marquis (eds.), European Competition Law Annual 2007: A Reformed Approach to Article 82 EC (Hart 2008). Hart Publishing, 71 Microsoft (Case COMP/C-3/37.792) Commission Decision of 24 March 2004 [2007] L32/3, in particular para 694. 72 Ibid., para 700. 73 Guidance on the Commission’s enforcement priorities in applying Article 82 of the EC Treaty to abusive exclusionary conduct by dominant undertakings OJ (2009), C 45/7. 74 Case T-201/04, Microsoft Corp. v Commission [2007] ECR II-3601.

30

authority now considers that a refusal to deal with a rival may be abusive not only where it

prevents the emergence of an already developed product, but also where it is ‘likely’ to hinder

(‘stifle’) follow-on innovation, that is, the future development of products building on the

innovation for which a license (or another form of access) is requested.75

The idea that certain practices have a negative impact on sequential and cumulative

innovation was introduced in Microsoft together with the relaxation of the legal standards

requiring evidence of anticompetitive foreclosure. As confirmed in IMS Health, one of the

conditions set in Magill required evidence of the elimination of ‘all competition’ from the relevant

market for the refusal to license to be abusive.76 The analysis of the Commission in Microsoft did

not meet such a strict condition. However, the GC was satisfied with the fact that the conduct

under examination was likely to lead to the marginalisation of its rivals.77

In subsequent cases, the mere fact that the division of a dominant firm enjoys (or is

assumed to enjoy) a competitive advantage over its rivals is now seemingly being perceived as a

trigger that is as such sufficient to justify remedial action. Absent clear evidence of foreclosure,

dynamic innovation considerations seem to have been introduced to compensate for the relative

weaknesses of static analysis and thus to justify the adoption of remedies leading to the creation of

a level playing field. The idea that the competitive advantages enjoyed by a firm may be, in and of

themselves, detrimental to innovation was a central aspect in the second Microsoft (Tying)

decision. The Commission expressed concerns in this decision about the ‘artificial distribution

advantage’ enjoyed by Microsoft’s web browser (Internet Explorer) over competing ones, which

resulted from the fact that it was integrated with the firm’s operating system (Windows). It was far

from clear at the time of the decision whether such an advantage had the potential to lead to the

foreclosure of rivals (market evolution following its adoption has, if anything, confirmed this

75 See para 87 of the Guidance. 76 Case C-418/01, IMS Health GmbH & Co. OHG v NDC Health GmbH & Co. KG [2004] ECR I-5039, paras 40-47. 77 Case T-201/04, Microsoft Corp. v Commission [2007] ECR II-3601, para 563, where the GC held that ‘the fact that the competitors of the dominant undertaking retain a marginal presence in certain niches on the market cannot suffice to substantiate the existence of such competition’.

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impression78). The Commission claimed, however, that intervention requiring Microsoft to give

equal treatment to all web browsers would enhance innovation in ‘web development’ (the

development of software and applications tailored to particular web browsers)79 and on the market

for web browsers.80

The Commission displayed a similar bias in Intel/McAfee, decided in January 2011.81

While the FTC did not raise any objections to the merger,82 its European counterpart only cleared

it after Intel agreed to submit remedies levelling the playing field.83 One of the fundamental

concerns expressed by the Commission related to the ability and the incentive on the part of Intel

to discriminate in favour of McAfee and/or against security software developers competing with

the latter.84 It is clear from the Non-Horizontal Merger Guidelines issued by the Commission, and

from the relevant case law, that the fact that an operation places rivals at a disadvantage is as such

insufficient to take remedial action. As the law stands, it is in addition necessary to show that

effective (static) competition would be significantly impeded on the relevant market(s) as a result

of such a disadvantage.85 The Commission acknowledged in the decision that the likely effects on

prices of the discrimination strategies were unclear (if not positive, in part due to the competitive

pressure it would impose on rivals and in part because it would allow for the emergence of a new,

integrated product).86 The likelihood of the exclusion of McAfee’s competitors as a consequence

of these strategies was based on speculations, which in any event did not suggest that it would be

of sufficient entity to raise concerns – the relevant market was relatively unconcentrated, and

78 Some figures and explanation over remedies the economist 79 Microsoft (Tying) (Case COMP/39.530) Commission Decision of 16 December 2009 [2010] C36/7, para 56. Regarding the evolution of the market for web browsers in the years that followed the Commission Decision, see ‘Chrome rules the web’ Economist (London, 10 August 2013), which discusses a study showing that Internet Explorer’s share has declined to 25%, while Google Chrome’s share amounts to 43% of the market. 80 Microsoft (Tying) (Case COMP/39.530) Commission Decision of 16 December 2009 [2010] C36/7, para 104. 81 Intel/McAfee (Case COMP/M.5984) Commission Decision of 26 January 2011 [2011] C98/1. 82 ‘Intel Wins Approval for McAfee Acquisition From FTC’ Bloomberg (New York City, 21 December 2010). 83 This vocabulary is in fact expressly used twice in the decision, see paras 313 and 329. 84 According to the decision, this strategy could be achieved using two complementary devices: interoperability degradation and technical tying. 85 See in particular Case T-5/02, Tetra Laval BV v Commission [2002] ECR II-4381 paras 270-309. 86 Intel/McAfee (Case COMP/M.5984) Commission Decision of 26 January 2011 [2011] C98/1, paras 167 and 214.

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McAfee was not even the market leader.87 By resorting to dynamic claims, however, the

Commission was able to validate its concerns and thus to justify remedial action. Third parties

competing with McAfee explained that reduced revenues (and the likely decrease in prices

brought about by the operation) would reduce their ability to invest in research and development

activities.88 The rise to dominance of the new entity resulting from the merger, on the other hand,

would reduce its incentive to do so.89

Legal implications of the introduction of dynamic innovation considerations

The introduction of dynamic innovation considerations alters the nature of a discipline that is

essentially concerned with the static analysis of market structures. The question arises of whether,

from a legal standpoint, there is scope for such a transformation. Two major obstacles can be

identified in this regard. Perhaps the most immediate reaction that the modification of static

analysis provokes relates to issues of administrative discretion. The dynamic considerations on

which remedial action was based in the cases discussed above did not seem to be any more

plausible than the alternative (and, perhaps more importantly, they were introduced to circumvent

the standard of proof deriving from static analysis). What is more, the Commission did not

provide any evidence to support its claims. The introduction of dynamic considerations would thus

fail to meet the requisite standard of proof to support intervention. From a substantive standpoint,

the mutation of some conditions from static to dynamic (or their relaxation having the same effect)

is problematic insofar as it leads to a form of market fine-tuning that is at odds with the way in

which market structures, and conflicting regimes, are addressed under competition law.

87 Ibid., para 75. At the time of the decision, the market was led by Symantec, with a market share between 30 and 40%., while McAfee’s market share was between 10 and 20%, thus placing it as the second largest player. 88 Ibid., para 214. 89 Ibid., para 217.

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Standard of proof and administrative discretion

The assumptions and forecasts made by the Commission in the decisions examined above are

certainly plausible, but not any less plausible than some alternative scenarios that were not

adequately considered in the analysis. To begin with the assumption that seems to be at the heart

of the rising trend it is difficult to see why, contrary to what the Commission seems to imply, a

level playing field would be invariably more conducive to innovation than a marketplace in which

firms compete with uneven forces. To the extent that a practice does not lead to the foreclosure of

competitors, an asymmetric market may very well enhance innovation insofar as it will force firms

to improve their products to compensate for their competitive disadvantages.

More generally, if claims are made about the likely impact of a given practice on the rate

of innovation, one would assume that it is necessary to consider the possibility that technological

evolution alters the functioning of markets in a way that intervention is no longer justified. It is

indeed not easy to see why innovation considerations are only introduced in the analysis insofar as

they may justify remedial action. There is an inconsistency in assuming that the features of the

relevant market will not change except for the innovation that is expected to arise through

remedial action. At the very least, one would expect from the authority a clarifications of why the

scenario depicted in the decision is more likely than any other in which intervention would not be

justified.

For these reasons, it is submitted that the introduction of dynamic considerations would

fail to meet, by their very nature, the standard of proof sketched by EU courts in the Tetra Laval

saga, the principles of which seem to apply to all areas of competition law.90 If this is the case, it is

difficult to see how they can play a role in competition law analysis. Tetra Laval arose in the

context of a conglomerate merger similar in nature to the one at stake in Intel/McAfee. In order to

90 Case C-12/03 P Tetra Laval BV v Commission [2005] ECR I-987.

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establish the likelihood of foreclosure, the Commission thus had to rely on forecasts about the

evolution of markets. The fact that the Commission had to evaluate in its decision the likely

success of different technologies makes the case even more interesting for the purposes of this

discussion. The CJEU upheld the analysis of the GC, which required the Commission to bring

‘convincing evidence’ in support of its findings. The sort of prospective assessment that is

inherent in merger control, ‘makes it necessary’, held the Court, ‘to envisage various chains of

cause and effect with a view to ascertaining which of them are the most likely’.91 The quality of

the evidence ‘is particularly’ important, the Court continued, ‘the chains of cause and effect are

dimly discernible, uncertain and difficult to establish’.92 This vocabulary seems to exclude

altogether mere speculations about the future evolution of markets. While the analysis of the

Commission in Tetra Laval was based on the already observable features of the market and on

observable trends (and thus remained static in nature), the conclusions drawn therefrom were

deemed to be based on ‘insufficient, incomplete, insignificant and inconsistent’ evidence.93

In view of the above, the problem with the introduction of dynamic considerations in

competition law analysis seems straightforward. It would be difficult to accept for the simple

reason that they would always hold true. If a dominant firm refuses to license its intellectual

property rights, or favours its own activities in some other way (through interoperability, through

technical tying), the competition authority could always claim that the marginalisation of rivals

might prevent the emergence of new products and thus harms consumers. There is indeed no way

in which a firm would be able to disprove the sort of innovation-based arguments made by the

Commission in cases like Microsoft or Intel/McAfee. As mentioned in the introduction, the

question would therefore boil down to a classic theme in administrative law, which is the

unfettered discretion enjoyed by an authority, and one with which courts are naturally called upon

to engage. From this perspective, the GC judgment in Microsoft could be criticised primarily 91 Ibid., para 43. 92 Ibid., para 44. 93 Ibid., para 48.

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because it validated the transformation of the ‘new product condition’ into one that does not

provide an adequate check against the discretion of the Commission.

One should consider, in addition, the fact that the introduction of dynamic considerations

creates an asymmetry in terms of standards of proof. It is for the Commission to establish that an

agreement restricts competition within the meaning of Article 101(1) TFEU; that a dominant firm

has abused its dominant position within the meaning of Article 102 TFEU; or that a merger is

likely to lead to a ‘significant impediment of effective competition’ within the meaning of Article

2 of the Merger Regulation. In each of these cases, the parties may escape the prohibition if they

are able to show that the practice under examination is a source of efficiency gains that can offset

any negative effects on competition and on consumers.94 For these claims to be accepted, the

Commission has consistently held that the parties must substantiate any efficiency gains and that

these must be verifiable ‘so that there can be a sufficient degree of certainty that the efficiencies

have materialised or are likely to materialise’.95 For the reasons exposed above, it is unlikely that

the dynamic claims made by the Commission would fulfil these conditions. If so, it is not easy to

see what would justify imposing on firms a standard of proof that the Commission itself would be

unable to meet.

Dynamic considerations and the limits of intervention under competition law

94 Thus the parties to an agreement may show that it fulfils the conditions set out in Article 101(3) TFEU. Under Article 102 TFEU, it is well-settled case law that a dominant firm may advance an ‘objective justification’ for a practice that is found to be prima facie abusive – for an analysis, see Albertina Albors Llorens, ‘The Role of Objective Justification and Efficiencies in the Application of Article 82 EC’ (2007) 44 Common Market Law Review 1727. In the field of merger control, Regulation 139/2004, makes it clear in para 29 of the Preamble that ‘likely efficiencies put forward by the undertakings concerned and that [i]t is possible that the efficiencies brought about by the concentration counteract the effects on competition, and in particular the potential harm to consumers, that it might otherwise have and that, as a consequence, the concentration would not significantly impede effective competition’. 95 See, in relation to agreements within the meaning of Article 101(3), the Guidelines on the application of Article 81(3) of the Treaty [2004] OJ C101/97, para 56. Virtually identical vocabulary is used by the Commission in other areas, including Article 102 TFEU (see para 30 of the Guidance) and merger control (see para 86 of the Horizontal Merger Guidelines).

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Where conditions based on static conditions are transformed into dynamic ones, as would be the

case if the Commission decided to explore the likely impact of a practice on follow-on innovation

(as opposed to its impact on the emergence of a ‘new product’), or where dynamic considerations

are introduced to compensate for the relaxation of static conditions, the link between the

assessment of market structures and their likely impact on the different parameters of competition

is, as discussed above, reversed. In other words, the evaluation of the impact of a practice on

innovation is no longer inferred from the effects on the market structure that can be verified at the

time of intervention. Such an analytical shift is difficult to reconcile with the logic and nature of

competition law. There is indeed a fundamental difference between protecting market structures

on the assumption that this will benefit consumers and society as a whole, and fine-tuning markets

with a view to promoting such objectives directly.

Competition law was not conceived as a tool to achieve optimal market outcomes. This

important aspect of the discipline is sometimes obscured by the growing use of economic concepts

and terminology. The fact that (typically, static) efficiency is now widely relied upon as an

analytical benchmark against which the lawfulness of business conduct is assessed does not mean

that every intervention that leads to efficiency gains is justified under competition law. The

purpose of competition law is not (and has never been) to alter existing market structures to

enhance efficiency, but to ensure that, as they stand, these structures perform to their potential and

to prevent, in addition, that they are further deteriorated by means of exclusionary conduct or

through industry consolidation. Competition law tolerates inefficiency. Dominant positions (and

thus monopolies) are not prohibited as such under Article 102 TFEU. Similarly, if the strict

conditions set out in Magill are not fulfilled, the refusal by the holder of an intellectual property

right to license it to a third party will not be deemed abusive. The fact that intervention could have

promoted static and/or dynamic competition does not alter this conclusion.

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The use of competition law for market fine-tuning purposes is problematic. As a discipline

based on remarkably malleable provisions, it is not easy to define the outer boundaries of

intervention. It seems nevertheless valid (and one would add, unquestionable) to claim that an

economic system that is based on competition is one in which the market structures and the

parameters of competition are, by and large, not defined (and fine-tuned) by a central-planner but

left to the play of market forces. A look at the evolution of competition law in the past decades –

and in particular at its growing prominence across the globe – shows, more importantly, that the

discipline is only meaningful, and can only really flourish, in such circumstances. It would seem

only logical, accordingly, competition authorities take market structures as a given and as a

constraint on the reach of remedial action. By the same token, attempts to alter market features

merely as a means to achieve certain objectives would be disproportionate by definition.

Dynamic considerations and the interface with other legal disciplines

Because the case for the award of exclusive rights to promote innovation rests on static analysis,

conflicts with intellectual property regimes are inevitable where competition authorities introduces

a dynamic dimension. The transformation of the ‘new product’ condition questions the very

essence of the static case for intellectual property. The effects of the refusal to supply

interoperability information predicted by the Commission in the Microsoft decision

(marginalisation of rivals, inability of rivals to introduce incremental improvements and reduced

choice for consumers) are in fact not occasional, undesirable or unforeseen consequences of the

award of exclusive rights, but the necessary and expected impact of the use of such a legal device.

The question is not whether more competition and more innovation can be introduced ex post (that

is, once the firm has developed the innovation), which by definition is the case, but whether, ex

ante, a firm would have devoted its resources to research and development activities. By taking ex

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post effects as a justification for intervention, the Commission in fact advances a rival policy for

the promotion of innovation. An open-ended test informed by dynamic considerations is indeed

based on the idea that rivalry, as opposed to the award of exclusive rights, may be the best means

to enhance innovation in the long run.

This represents a shift from previous positions. The principle whereby EU competition law

takes market structures as a given and does not question them holds irrespective of whether a

given market structure results from intellectual property protection. As Erauw-Jacquery and

Coditel II show, the economic logic behind the award of exclusive rights to promote creative and

inventive activities is not disputed but acknowledged in the case law of the CJEU, so much so that

substantive standards have been modulated to conform to it. Similarly, the Court has never

attempted to interfere with national regimes in relation to whether a specific invention or creation

is worthy of protection.96 It was, in addition, careful to confine to ‘exceptional circumstances’ the

instances in which a refusal to deal with a rival would be deemed abusive under Article 102

TFEU. The ‘new product’ condition ensured that harm is immediate, verifiable and substantial (as

the Court held in IMS Health, the third party requesting the licence must not ‘limit itself

essentially to duplicating the goods or services already offered on the secondary market by the

owner of the intellectual property right’97).

If one considers issues of proof, intervention based on dynamic considerations has the

potential to undermine intellectual property regimes. It is indeed difficult to see how firms could

disprove innovation-based claims, no less because they are based on a tautology. Limits to the

ability of the Commission to second-guess and interfere with intellectual property would thus not

come from a precise legal standard such as the one set out in Magill, but from the willingness on

the part of the authority to exercise self-restraint and limit remedial action to truly exceptional

96 This is a matter of national law. See Joined Cases 56/64 and 58/64, Établissements Consten S.à.R.L. and Grundig-Verkaufs-GmbH v Commission [1966] ECR 429, which clarifies that the application of EU competition law is limited to the exercise of intellectual property rights and does not in any way question their existence. 97 Case C-418/01, IMS Health GmbH & Co. OHG v NDC Health GmbH & Co. KG [2004] ECR I-5039, para 49.

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circumstances. This is not a desirable situation, but it is far from unusual in EU competition law.

The Guidance Paper itself is essentially a pre-commitment device to limit discretion that was

issued in response to the unclear boundaries to Article 102 TFEU as defined in the case law.

Conclusions

Stripped of the technicalities, the debate about the use of dynamic innovation considerations in

competition law analysis looks like a variation of a scenario that is inevitably bound to arise

whenever administrative action is based on broad and vague provisions. Some authors have

favoured dynamic competition and innovation with the ultimate aim of reducing the overall level

of enforcement. To the extent that there is no clear link between static and dynamic competition,

and to the extent that innovation – and thus the latter – is the key driver of long-term growth and

prosperity, the argument goes, competition authorities should be particularly prudent when

enforcing the law, and particularly so in innovation-intensive industries (to which a very

significant fraction of its limited resources is currently devoted). In turn, competition authorities

may choose to rely on the dynamic dimension of innovation as a means to avoid the constraints

that static analysis would impose on its activity, or to compensate for the relative weaknesses of

an assessment of the impact of a practice on static grounds alone.

One contribution of this piece to debate is to show that competition law is only meaningful

when based on static considerations alone. Pleas in favour of dynamic competition, if taken to

their logical consequences, are ultimately a plea against competition law. The introduction of

dynamic innovation considerations in the analysis, whether it is advocated to favour more relaxed

or tighter enforcement, seems opportunistic and incoherent. It would also be difficult to sustain

from a strictly legal standpoint. This is a dimension of the problem that tends to be ignored in the

literature –at least, its consequences tend not to be fully acknowledged, and represents the second

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contribution of the article. The introduction of speculations about the long-run evolution of

markets in the analysis is difficult to sustain not from an economic standpoint, but in light of the

standards of proof prevailing in the field. It also transforms the nature of the discipline from one

that takes as a given the market structure in which intervention is considered to one that actively

seeks to fine-tune markets and does not hesitate to second-guess legal regimes, such as intellectual

property, specifically devised to promote innovation.

The question of which objectives should guide the (static) enforcement of EU competition

law has generated countless papers and has given rise to heated debates in the past few years. For

some reason, the legal implications of the introduction of dynamic innovation considerations in

competition law analysis have not attracted much attention from scholars or practitioners in

Europe. The Commission, which has devoted considerable efforts to the clarification of its

approach to the static enforcement of the different provisions, has introduced innovation-based

arguments with potentially far-reaching consequences. None of the underlying policy choices

made has been spelled out clearly nor has it been subject to an open consultation process. The

question of whether there is scope for dynamic considerations in EU competition law thus remains

nebulous in EU law, and it is hoped that this paper will contribute to sparking a (much needed)

explicit discussion of the matter.