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The Upward Pricing Pressure Test for Merger Analysis: An Empirical Examination

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  • Lydia Cheung

    () (Department of Economics, Faculty of Business and Law, Auckland University of Technology)

Abstract

The Upward Pricing Pressure (UPP) test developed by antitrust economists Joseph Farrell and Carl Shapiro marks a new era in antitrust and provides an alternative to the traditional concentration-based tests in merger analysis. In addition to being free of market de nition, the UPP's appeal lies in its ease of use: one simple formula indicates whether a merging rm has an incentive to increase prices postmerger. This paper rst establishes the theoretical relationship between the UPP and the standard structural merger simulation, namely, that the UPP is a \singleproduct merger simulation" that ignores the re-equilibration of all other endogenous variables except that product's own price. To assess the consequence of this simpli cation, I compute \true" UPP values for a cross-section of airline markets using structurally estimated price elasticities, and confront them with the \gold standard" of a merger simulation. I examine the predictive accuracy of both the sign and magnitude of the UPP. I nd that it gives wrong sign predictions to an average 10% of the observations, and its value has an average correlation of 0:92 with the structurally simulated price changes. However, since this test is meant to bypass a complicated demand estimation, I then use the example of a simple logit demand to illustrate the consequence of using inaccurate demand-side inputs in the UPP: the test will give a wrong sign prediction over a much larger range of cost synergies. Lastly, I discuss the pass-through conditions for Farrell and Shapiro's proposition, demonstrate empirically that they are not innocuous, and show that their violation can lead to false positive results (type I errors) in the UPP.

Suggested Citation

  • Lydia Cheung, 2013. "The Upward Pricing Pressure Test for Merger Analysis: An Empirical Examination," Working Papers 2013-03, Auckland University of Technology, Department of Economics.
  • Handle: RePEc:aut:wpaper:201303
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    References listed on IDEAS

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    1. Farrell, Joseph & Shapiro, Carl, 1990. "Horizontal Mergers: An Equilibrium Analysis," American Economic Review, American Economic Association, vol. 80(1), pages 107-126, March.
    2. Bulow, Jeremy I & Geanakoplos, John D & Klemperer, Paul D, 1985. "Multimarket Oligopoly: Strategic Substitutes and Complements," Journal of Political Economy, University of Chicago Press, vol. 93(3), pages 488-511, June.
    3. Werden, Gregory J, 1996. "A Robust Test for Consumer Welfare Enhancing Mergers among Sellers of Differentiated Products," Journal of Industrial Economics, Wiley Blackwell, vol. 44(4), pages 409-413, December.
    4. Steven Berry & Panle Jia, 2010. "Tracing the Woes: An Empirical Analysis of the Airline Industry," American Economic Journal: Microeconomics, American Economic Association, vol. 2(3), pages 1-43, August.
    5. Sonia Jaffe & E. Glen Weyl, 2013. "The First-Order Approach to Merger Analysis," American Economic Journal: Microeconomics, American Economic Association, vol. 5(4), pages 188-218, November.
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    1. repec:eee:indorg:v:52:y:2017:i:c:p:216-247 is not listed on IDEAS
    2. Miller, Nathan H. & Remer, Marc & Ryan, Conor & Sheu, Gloria, 2017. "Upward pricing pressure as a predictor of merger price effects," International Journal of Industrial Organization, Elsevier, vol. 52(C), pages 216-247.

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    Keywords

    merger; upward pricing pressure;

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