Economic Impacts of the Citric Acid Cartel

Abstract

Market forces usually overwhelm any attempts by a firm to deviate from its assigned role in an industry. With a given plant in place, once a seller in a competitive market observes the market price and input costs, it passively sets its output level at the profit-maximizing point. If, as was the case in the global market for citric acid, food-grade product made by alternative sellers was viewed by buyers as perfect substitutes, sellers had few strategic options to try to improve their profitability. Efforts by a firm to distinguish itself on the basis of delivery terms or after-sales service can easily be imitated by rivals. Investing in a lower cost production technology might yield better profits for a few years but carries the danger of operating at inefficiently low levels of utilization or betting on the wrong technology. Price cuts can be quickly matched by other sellers and can lead to a price war that hurts everyone until it is abandoned. Price increases will simply lead to an erosion of a firm's market share and a build up in excess capacity that further squeezes margins.While single-firm actions contrary to market forces are doomed to failure in most commodity markets, joint actions by a group of sellers large enough to dominate supply are another matter. For millennia, sellers have realized that collective action on prices or output levels can raise the profits of all suppliers in a market. The citric acid cartel met these criteria. It chose to raise selling prices simultaneously around the globe. With control of about two-thirds of the world’s supply and a system for detecting and compensating for cheating by its members, the cartel clearly was efficacious in raising prices in North America, South America, and Europe. In this section, the effects of the cartel’s collusive behavior on prices, international trade, profits, and consumer welfare in the U.S. market are detailed as precisely as possible.