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Jesus G Lopez Lozano Professor Houghton

Jgl679 Research Project


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Analysis of Anticompetitive Claims by The FTC on the Intel Corporation

The Intel Corporation has been one of the most controversial companies that the
Federal Trade Commission (FTC) and the Department of Justice (DOJ) have dealt with,
given the high volume of investigations and trials that they have had. This economic
paper will analyze the FTC complaint filed against anticompetitive practices and vertical
restraints by Intel in December 16, 2009 from both standpoints and bring in analysis from
external scholarly work from Joshua Wright (2010), Luca Mazzone and Alberto Mingardi
(2011), Joshua Gans (2010), Patrick DeGraba and John Simpson (2010), and Ronald
Goettler and Brett Gordon (2010). The FTCs ruling against Intel was inaccurate given
the way Intels practices were analyzed and framed, and how their effects were
overstated. The FTC wrongly analyzed the company in its exclusive contracts with
OEMs as it took into account complaints that were heavily based on assumptions and
lacked the proper analysis of Intels counterparts (AMD, Via, NVIDIA, etc)
opportunities and abilities to do what Intel is capable of. Further, the FTC claimed that
Intel had effectively disrupted competition by designing and manufacturing software that
undermined competitors software and hardware and that because of this activity they
influenced the benchmarking organizations, which sets standards for different CPUs
capabilities, but the fact is that Intels competitors stock prices and revenues did not fall
as one would predict they would if such practices had effectively affected them. In some
cases revenue even increased. High technology marketplaces are a very unique type of
sector given innovation, entrepreneurship and the rate at which these are constantly
changing. Using the Intel case as an example, end goal of this economic paper is to
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demonstrate that antitrust laws and FTC rules should not be applied evenly throughout
the different sectors in the economy and that differentiations in certain areas such as
technology markets should be implemented.

Background
The relevant market involves that of computer processing unit (CPU) manufacturers and
developers, specifically that of x86 microprocessors for desktops, servers, notebooks and
related products. CPUs are integrated circuits that serve as the brains of a computer.
Manufacturers of CPU units sell primarily to original equipment manufacturers (OEM)
such as Dell, HP and IBM, which in turn use them as components of their computing
systems to sell to the general public. OEMs take into consideration performance, price,
design and manufacturing capabilities of CPUs offered by different manufacturers such
as Intel, NVIDIA, AMD and others in order to make a purchase. A suppliers reputation
for reliably supplying high-quality CPUs and its ability to meet product demand by
OEMs are other important aspects that are taken into account by CPU buyers.

Table-1 shows that Intel held roughly an average of 85% of market share at throughout
the time interval in question. Their manufacturing capability, reliability of supply, and the
fact that they held the x86 patent, which was the most powerful integrated circuit until
mid-2003, caused a large share of consumers and OEMs to have a strong preference for
Intel products.


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Worldwide Intel-AMD Market Shares in x86 PCs
(Table 1 Source: DeGraba and Simpson)
Unit Share Revenue Share
Year Intel % AMD % Intel % AMD %
2002 83% 17% 87% 13%
2003 85% 15% 88% 12%
2004 86% 14% 89% 11%
2005 84% 16% 88% 12%
2006 79% 21% 84% 16%




Intels monopoly position in these markets was partially protected by significant barriers
of entry, including reputation, scale economies, intellectual property rights, costs
associated with building and operating large manufacturing facilities and research and
development costs.

The FTC filed a complaint in late 2009 regarding Intels anticompetitive practices in the
microprocessor market. They believed that Intel had overstepped their boundaries and
stifled competition as they had engaged in exclusive dealing with OEMs, created
software that was incompatible with adversaries products and indirectly affected
benchmarking results in their favor.

In general the FTC claimed that Intels behavior had harmed consumers, which resulted
in higher prices, less innovation and less consumer choice in the relevant markets.
Consumers were also harmed by Intels deceptive disclosures related to its compliers
which violated both competition and consumer protection principles. A compiler is a tool
used by software developers to write software. The compiler translates the source code
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written in high-level computer languages into 0s and 1s that can be run as software on
consumers computers. Intels compilers
compete with Microsofts compilers, open-
source compilers, and others. Intel believed that
these allegations presented by the FTCs were
excessive because the CPU market had been in
fact the one that had produced the greater
consumer benefits in the economy as the price
for CPU had declined at a pace of 42% annually
during this period and the quality-adjusted price
of personal computers declined at an annual rate of 23% as it can be seen in Figure 1.
Furthermore, Intel presented information that proved that the period taken into account
by the complaint was characterized by rapid innovation that had increased functionality
and performance of microprocessors and the platforms into which they were
incorporated.

Analysis
Although the FTC claimed that that Intels behavior in engaging in rebates in discounts
harmed competition because they believed it foreclosed the market, it is precisely this
price-cutting attitude that forms an integral part of the marketplace. Further, it is a
prominent feature of the most basic and unsophisticated markets. As Mingardi and
Mazzone argue, the discount is, in a way, inherent to the very process of negotiation,
which leads to the establishment of a price. Using Figure-2 below, the Average Unit
Figure 1
Source: Goettler and Gordon

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Production Costs show that Intels costs in the CPU market was lower starting in the mid-
1999s and continues to be apparent
through 2005, with a brief moment of
competition from AMD between 2002-
2003. This sheds light on the fact that
Intel had the upper hand in
manufacturing capacity during the years
the FTCs complaint found Intel to be
engaging in anticompetitive practices.
This argument favors the idea that that
price discounts and offers are things that
make a market competitive as each firm strives to maintain its product on shelf or on use
with the hope that people would adopt it and keep buying it. Yet it was not because Intel
threatened OEMs that they engaged in these deals, rather it is the ability to produce at a
low cost that gave them the ability to provide them and having the upper hand in
manufacturing capabilities should not be regarded as anticompetitive, because it is what
competition is about; proving to have a better product and to produce it at a lower cost
than competition. In their article, DeGraba and Simpson argue that Intel used exclusive
contracts to monopolize markets as AMD became a threat to Intel when it designed its
own x86 microprocessor in mid-2002, which substantially outperformed existing Intel
server CPUs in many respects. Yet the fact remains that Intels discounts were not a
reaction to AMDs innovation and had been happening before that. AMDs innovation
prompted Intel to improve products, and thus benefited consumers by providing them
Figure 2
Source: Goettler and Gordon
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with better products and lower costs as argued above. Finally, at the time the FTC
complaints of Intels anticompetitive practices, AMD appears to have experienced
significant gains from 2001-2002 to 2006. If Intels distribution contracts with OEMs
were likely to produce competitive harm by depriving AMD of market share and
allowing Intel to increase theirs, one would expect to see a dramatic decline in AMD/s
share price with an equally dramatic increase in Intels. Data analyzed by Wright shows
no support for the FTCs claims.

On the other hand, Intels competitors couldve engaged in the same rebate and discount
practices as Intel did, except they had neither the manufacturing ability or the product
recognition power to do so, which in turn does not constitute monopolistic practices only
domination in product which is one of the pinnacles in consumer goods; if you are good
in producing a high quality product that can meet demand, you will sell more than those
that cannot do the same. DeGraba and Simpson argue that Intels market share in the
CPU markets could only be taken away if its competitors could capture a substantial
share of Intels share short-term, because of the high network effects Intel gained over the
years. Yet, they found that although possible it was highly unlikely because they lacked
the capacity to do so, and they even sometimes had trouble meeting demand for their own
products, which in turn made buyers of commercial CPUs to view them as inferior to
Intel for meeting their needs. Finally, as DeGraba and Simpson argue, OEMs who
produce commercial desktops and commercial notebooks highly value the reliably supply
of all of the components for a platform over an extended period of time. Of all the
suppliers of microprocessor components, Intel was better able to offer such reliability of
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supply, which directly translates to OEMs seeing other suppliers as inferior to them. As
a consequence, a large share of corporate consumers had a strong preference for Intel
products.

The FTC also claimed that Intel had engaged in producing compliers or software that was
incompatible with adversaries hardware and software and that this had directly damaged
competition and undermined its competitors. Furthermore, by indirectly affecting the
benchmarking results, which serve as a gauge of quality and performance, Intel directly
affected the performance results of competitors, which undermined their products in the
eyes of the OEMs and of consumers, and made Intels products the best in quality,
performance and compatibility. The compiler manipulation behavior by Intel was indeed
anticompetitive and the FTC was in all of this right to make such claims as it stifled
competition and produced bias results. Yet, by analyzing the anticompetitive behavior
absent the damaging practices, it becomes clear that Intels adversaries would not have
increased their market share, mainly because of capacity constraints, and Intels
reputation as a reliably supplier. Furthermore, as Wright argues, if Intels adversaries
were deprived from market share as the FTC claimed, one would expect to see a decline
in AMDs share price with an equal increase in Intels price, but the opposite was found.
Looking at cumulative abnormal returns for Intel for the years in question, if the FTCs
claims are correct, Intel would accumulate significant abnormal returns over the decade
long era of anticompetitive conduct. Through Wrights analysis of the returns, no
observable upward trend in Intels abnormal return can be seen, rather a slightly
downward trend over the time period in question. What Intel did with the compiler
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software is indeed anticompetitive, but the effects that it brought were minor and the FTC
exaggerated their effects.


One can use the arguments above to say that, although the FTC/DOJ claims that the high-
tech industry is not treated the same as other sectors; there is still some room for
improvement and amendments. In a marketplace where innovation, trends and the threat
of new inventions are the everyday competitors to all firms in the sector, firms must use
all of their tools at their disposal in order to strive in the market, which is every single
firms objective. Innovation is rapid, with new products being released nearly every
quarter and CPU performance doubling roughly every 7 quarters, which prompts
companies such as AMD and Intel to invest substantially in R&D, who respectively
invest 20 and 11 percent of revenues. To maintain a competitive edge firms are required
to engage in techniques such as price discounting, license agreements, and strategic
partnerships. In a highly volatile market it is also necessary to take into account that
established firms that have been working in the sector of innovation can prove to have
high market shares because of the outstanding work they have done for decades, and this
alone should not be a red flag or anticompetitive marker that prompts the FTC or the DOJ
to put mentioned firm under the microscope. By doing so and by being so strict in their
ruling towards big firms, it is they who are preventing innovation and product
improvement, as they become a liability or a distraction for a firm that could be operating
at full capacity to develop new ideas instead of having to deal with FTC and DOJs
hearings, proceedings, and paperwork. Wright argues that innovation is critical to
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economic growth and antitrust enforcement efforts have the potential to chill innovative
activity warrant special scrutiny. He states that antitrust policy must take into account
the complex and dynamic markets within which these markets work. Further, that there
are only speculative claims concerning the potential future impact of todays business
conduct on tomorrows market structure and prices. There is, no consensus on how to
evaluate monopolization enforcement efforts in high-tech industries. Furthermore,
Mazzone and Mingardi argue that, in spite of the limited number of players, the
microprocessor market showed the distinctive marks of dynamic competition; ever-lower
prices and ever-growing innovation. Short-term exclusionary deals and discounts like
those in the Intel case serve as the best example to depict that these practices are not
harmful, rather procompetitive. When Intel offers OEMs lower prices, these are passed
on to consumers in the retail market. Furthermore, when OEMs offer full or partial
exclusivity to competing microprocessor manufacturers, the battle between Intel and
competition for access to consumers intensifies, as each tries to get this exclusivity,
eventually leading to even greater discounts and larger gains for consumers.

Conclusion
Through the analysis of the Intel case it is shown that even after the FTC claimed that the
firm was engaging in anticompetitive practices, the data presented found that a higher
market share by the opposition was possible to attain, but it was their own supplying
practices that constrained them to do so. Furthermore the claim that presented exclusive
dealing as anti competitive and harmful to innovation, pricing, consumers and output is
inconsistent with the data presented as it was found that competitors revenues had in fact
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risen and that innovation had increased at a pace of 42% annually. Additionally, the data
showed that even after the Intel supposedly negatively affected the benchmarking results,
which would generate a great impact in the value and belief of a company, AMDs stock
price remained unaffected through this phase. The evidence suggests that high-tech
markets should not be treated equally as other sectors, because of the volatility in this
market, which warrant for certain use of activities, that although are not illegal, might
incentivize the FTC or the DOJ to look with closer scrutiny at the marketplace, ultimately
faltering innovation, creativity and competitiveness. The quote from F.A. Hayek 50 years
ago included in Mazzone and Mingardis economic analysis is important to bear in mind.
He thought about antitrust and noted current policy fails to recognize that it is not
monopoly as such, or bigness, but only obstacles to entry into an industry or trade and
certain other monopolistic practices that are harmful. Finally, DeGraba and Simpson
agree to the fact that over vigorous prosecution of predatory pricing would chill
procompetitive price-cutting would seem to apply with even greater force when
analyzing predatory pricing in contestable sales, which are precisely those that Intel
engaged in. A company that is striving to maintain their competitive position in the high
tech market will have to engage in certain behaviors that at times requires them to sell
below costs and this should not be taken by the FTC or the DOJ as anticompetitive and
harmful to consumers, rather as procompetitive and advantageous to consumers as it will
lower prices for them.




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Jgl679 Research Project
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Bibliography:
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th
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Goettler, Ronald L. and Gordon, Brett R., Does AMD spur Intel to Innovate More?
(December 16, 2011). Journal of Political Economy, Vol. 119 No. 6, 2011
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