The prohibition of agreements in “restraint of trade” form the core of both federal and state antitrust laws. Understanding the concept of restraint of trade is critical to understanding the antitrust laws. In a sense, any contract between companies restrains trade in the sense that by agreeing to purchase a good or service from one firm, the parties necessary agree not to purchase from another. The antitrust statutes have thus been interpreted to prohibit only unreasonable restraints of trade.
Most agreements are assessed for reasonableness under what is known as the antitrust Rule of Reason. This rule is intended to determine whether the contract is unreasonable because it works to the disadvantage of those who purchase the product or service in question by raising the price, lowering the quality, or retarding innovation. In general, the courts have held that an agreement is unreasonable only if the defendant(s) have market power, that is the ability to raise price or exclude competition. Small companies generally do not have market power, and with the exceptions discussed below, their agreements are unlikely to violate the antitrust laws. A firm becomes more likely to have market power depending on its share of the relevant product and geographic market. A share of more than 20% is generally required before a firm will be found to have market power, and often a much larger share is necessary, depending on the nature of competition in the market.
Defining the relevant product and geographic markets is a factually and legally complex exercise. In a nutshell, however, two competitors are in the same relevant market if a significant number of consumers would switch from one firm’s products to the other in response to a 5% price increase. For example, gasoline retailers A and B would be in the same geographic market if a significant number of customers would switch from A to B if both began charging $4 per gallon, and A raised its price to $4.20 per gallon. Similarly, two types of material for wrapping and storing food would be in the same produce market if consumers would switch from one to the other if the price of one increased by 5%.
Once a court determines that a firm has market power, it must then examine the effect of the agreement in question to determine whether it raises price, reduces quality, or retards innovation. This determination is highly dependent on economic analysis of the specifics of particular markets and the nature of competition in them.
A limited group of agreements have been deemed per se illegal, meaning that such an agreement is always unreasonable and therefore unlawful. This group includes price fixing and bid rigging as well as agreements to divide markets, territory, or customers.
Importantly, however, this sort of agreement is per se illegal only when the parties to the agreement are horizontal competitors. Horizontal competitors are companies that sell the same product or service within the same geographic area. Vertical agreements between a supplier and a dealer are never per se illegal, even if they fix prices or allocate markets, territory, or customers.