Legal uncertainty, competition law enforcement procedures and optimal penalties

Abstract

In this paper we make three contributions to the literature on optimal competition law enforcement procedures. A first contribution, of more general interest, is to clarify the concept of “legal uncertainty”, relying on ideas in the literature on Law and Economics, but formalising it by associating legal uncertainty with the information structure of what firms know about the process by which potentially harmful actions are treated by competition authorities. What firms know is clearly distinct, though influenced, from the decision errors made by authorities. We use this framework to show that information structures with legal uncertainty need not imply lower welfare than information structures with legal certainty—a result echoing a similar finding obtained in a completely different context and under different assumptions in earlier Law and Economics literature (Kaplow and Shavell in J Law Econ Organ 8:306–320, 1995). Our second contribution is to revisit and significantly generalise the analysis in our previous paper, Katsoulacos and Ulph (J Ind Econ LVII(3), 2009), involving a welfare comparison of Per Se and Effects-Based legal standards. In that analysis we considered just a single information structure under an Effects-Based standard and also penalties were exogenously fixed. Here we allow (a) for different information structures under an Effects-Based standard and (b) for endogenous penalties. We obtain two main results. Under all information structures (including complete legal uncertainty) an Effects-Based standard dominates a Per Se standard. Moreover, optimal penalties may be higher when there is legal uncertainty than when there is no legal uncertainty. These conclusions run counter to a number of prescriptions by legal scholars in the recent literature.