Major Acts of Congress | Sherman Antitrust Act (1890)

Herbert Hovenkamp

In 1890 public hostility toward the monopoly actions of large corporations was at a feverish pitch. The Sherman Antitrust Act (26 Stat 209) was designed to limit monopolistic and other anticompetitive practices by large American corporations such as Standard Oil Company. The act, immensely popular when it was passed, was named after Senator John Sherman of Ohio, one of the senators who originally proposed such a law. Congress's main concern was that individual states were unable to deal effectively with large multistate corporations because state courts could control actions only within their own state. The control of corporations that did business in many states required a federal statute because federal power could reach across the entire United States.

The theory of the Sherman Act is grounded in the basic capitalist idea that prices are lowest when multiple firms in a market are forced to compete with each other. Further, such competition is believed to produce the most innovation and to maximize the quality and variety of goods and services. Although the Sherman Act was not controversial when it was passed, there have always been disputes about its meaning. Its explicit goal was to protect the public from monopolies, but many critics have charged that more often it ended up protecting small, inefficient businesses from larger and more efficient firms. That debate has never fully been resolved.

The Sherman Act contains two main provisions. The act makes it unlawful (1) for a group of firms to enter into contracts or conspiracies "in restraint of trade" and (2) for a single firm to "monopolize" a particular market.

AGREEMENTS IN RESTRAINT OF TRADE

As section 1 of the act puts it, "Every contract, combination, ... or conspiracy in restraint of trade or commerce among the several States, or with foreign nations, is hereby declared to be illegal." The term "restraint of trade" is a very old one that had been used by British courts since before the seventeenth century. Today it describes actions that are unreasonably anticompetitive. The words "contract," "combination," and "conspiracy" all refer to types of agreements involving two or more persons or firms. A firm acting by itself cannot violate section 1 of the Sherman Act.

Horizontal Agreements Unlawful agreements in restraint of trade can be roughly grouped into two classifications, horizontal and vertical. An agreement is said to be horizontal if it involves two or more firms in competition with each other. The most common horizontal agreement in restraint of trade is price fixing, which occurs when two or more firms stop competing on price and agree that they will charge a specific price. In United States v. Trans-Missouri Freight Association (1897), the Supreme Court first held that price fixing was automatically unlawful under section 1 of the Sherman Act and a criminal violation. Price fixers could be sent to prison and also be fined.

The other horizontal agreements most frequently condemned as unreasonably anticompetitive are market division agreements and boycotts. A market division agreement occurs when competing firms "divide" the market by agreeing they will not sell in the same territory or to the same customers, or that they will not make products that can compete with each other. For example, two makers of a highly desired commercial cleanser might agree that one will sell only to retailers while the other will sell only to hospitals and professional offices. As a result, the two firms will not compete with each other for the same sales, and each can charge monopoly prices.

A boycott, or concerted refusal to deal, occurs when two or more actors agree with each other to keep some other set of actors out of the market. A common rationale for boycotts is exclusion of firms that might charge lower prices or offer more innovative products. A group of firms that are fixing prices might pressure a supplier to stop selling to a competitor who is charging lower prices. Many claimed boycotts resulted from activities such as efforts within a profession to set standards. Courts must then decide whether the exclusion is reasonable under the circumstances or unreasonably anticompetitive. For example, in Wilk v. American Medical Association (1990), a federal court concluded that it was anticompetitive for the AMA to pass an "accreditation rule" that forced hospitals to exclude chiropractors from access to medical facilities. The AMA claimed the exclusion was necessary because the chiropractors were not using proven methods of health care. However, the court decided that this choice should be made by consumers themselves and not through coerced exclusion of chiropractors from the market.

Vertical Agreements. A vertical agreement is one between a seller and a buyer. For example, if Goodyear sells tires to Ford, the tire-selling agreement between them would be described as vertical. Nearly all vertical agreements are lawful under the antitrust laws, but there are two exceptions. First, "resale price maintenance," or "vertical price fixing," occurs when a seller forces a buyer to charge a certain retail price. For example, Colgate might sell toothpaste to Osco Drugs with a contract requiring Osco to retail the toothpaste for $2.00 per tube. Such a practice is unlawful. Second, vertical "nonprice" restraints are agreements under which a manufacturer limits the locations or territories in which a retailer may sell or some other significant aspect of the retailer's business. In Continental TV v. GTE Sylvania (1977), however, the Supreme Court held that very few agreements of this nature are competitively harmful. Since then, almost none have been declared illegal.

MONOPOLIZATION

Section 2 of the Sherman Act provides that "every person who shall monopolize, or attempt to monopolize ... any part of the trade or commerce among the several States, or with foreign nations shall be deemed guilty...." This section of the Sherman Act reaches "unilateral" practices by "dominant" firms—in other words, anticompetitive conduct by monopolists that increases their power. Typically a firm must control at least 70 percent of the market in which it operates to be considered a monopoly. Even then, the firm is not behaving unlawfully. To be considered guilty of monopolization, the firm must also engage in one or more "exclusionary practices."

An exclusionary practice is something that is "unreasonably anticompetitive," which generally means it causes more harm to rivals than by ordinary competitive processes. Monopolists generally use such practices to strengthen or prolong their monopoly positions, because a monopoly is usually very profitable. In United States v. Standard Oil Co. (1911), the Supreme Court held that Standard violated section 2 by using "predatory pricing" to drive rivals out of business. Standard allegedly charged very low prices in a town until competitors were forced to declare bankruptcy or to sell their plants to Standard at very low prices.

Other exclusionary practices involve misuse of patents or other intellectual property rights. For example, in Walker Process Equip. v. Food Machinery Corp. (1965), the Supreme Court held that it was unlawful for a monopoly firm to obtain a patent fraudulently (by lying on its patent application) and then use the patent to exclude other firms from making its product.

In United States v. Microsoft Corp. (2002), a federal court in Washington, D.C., held that it was unlawful for Microsoft to engage in a number of practices that tended to prolong Microsoft's monopoly of personal computer operating systems. The practices generally limited the ability of rivals to produce competing operating systems that would have forced Microsoft to cut its prices. For example, the Netscape Internet browser and the Java programming language threatened to create an avenue through which computer users could run their programs on several different operating systems. Microsoft responded to the threat by "bundling" its own browser, Internet Explorer, into its Windows program and by developing an alternative version of Java that was incompatible with other operating systems. The result made it much more difficult for users of programs running on Windows to run them on other operating systems as well.

See also: CLAYTON ACT OF 1914; FEDERAL TRADE COMMISSION ACT.