CASE STUDY : How Price Discrimination Protects a Duopoly and Keeps Prices

High for Consumers.

One of the important principles behind Anti-Price Discrimination Laws such as the
Robinson-Patman Act in the USA and the Competition Act in the UK, is to
ensure that competing purchases are fighting it out on a level playing field, and
to ensure a large retailer – a “power buyer” is not able to extract unearned
discounts over and above any discount for volume, that is unavailable to their
smaller competitors. When this occurs, the smaller competitors are artificially
handicapped having to pay higher prices, and the ‘power buyer’ is able to shield
themselves from the full competitive forces of the market.

Where this type of Price Discrimination occurs, resources are used inefficiently, small
business has to cross subsidize large business, the level of competition in the
market is reduced, the power buyer increases his profits, and market share, and
the consumer pays higher prices.

However, in recent years the detrimental effects of Price Discrimination to society, and
its harm to both competition and the consumer, have been disputed by a group
of theoretical economists with little real world experience and also surprising by
some competition regulators. They have argued that these laws serve no
purpose, and may even harm competition.

However a classic example of the importance and necessity of laws such as the Robinson
Patman Act and how Anti-Price Discrimination laws work to protect both
competition and consumers, and how erroneous the speculations of the
theoretical economists where, recently occurred in Australia (the only country in
the developed world without Price Discrimination Laws) over Nescafe Coffee.

Australian Grocery Market.

For years the Australian market had been a cosy duopoly between Woolworths and Coles
controlling up to 80% of the dry grocery market, the highest level of market
concentration anywhere in world history. Profit margins in grocery retailing in
Australia were two to three times higher than the international industry average
for grocery retailers. The result was that Australian consumers were paying over
$1.2 Billion more annually than would occur in a fully competitive market.

Attracted by the extremely high profit margins in grocery retailing in

Australia, the Aldi chain (with supermarkets in 15 countries
and worldwide sales of US$37 Billion) recently commenced
operations in Australia looking to get a spare of theses inflated
profits.

Nescafe Coffee

Nescafe Coffee is the leading coffee brand in Australia.

When Aldi entered the market in Australia, one of the lines

that they wanted to stock was the popular Nescafe
Southern Sydney Retailers Association Inc. – Case Study 1
 Blend 43, - however it appears that Nestle had a policy of discriminatory pricing
whereby Coles/Woolworths enjoyed one price, but all other competitors in the
market were forced to pay a much higher price.

As a result, for Aldi to even match the shelf price that Woolworths/Coles were selling
Nescafe 43, Aldi were forced to sell it at a loss.

It also appears that the higher price that Aldi was forced to pay, was not because of any
additional costs that Nestle had in supplying Aldi, but the higher price was just
pure price discrimination, whereby the market power of Woolworths/Coles
forced a higher price on Aldi.

Such a pricing policy would have been outlawed in the USA under the Robinson-Patman
Act , but with the repeal of the equivalent law (although much weaker law) in
Australia (Section 49 of the Trade Practices Act) by the Keating government in
1995, there was nothing to prevent Nestle for adopting these Discriminatory
pricing practices in Australia.

The Australian competition regulator - the ACCC seemed completely blind to the anti-
competitive effects of such price discrimination and all previous complaints and
evidence of price discrimination by small business were just brushed off.

Forcing Higher Prices on Consumers.

Studies have shown the where previously Woolworths and Coles had existed side by side
claiming that they were in “vigorous competition” with each other, when an
Aldi store opened close by, with the extra competition, Woolworths and Coles
were able to both drop prices by 5% - but in all other stores, not affected the by
the extra competition their prices remained higher.

However Nestle’s policy of price discriminatory, forcing Aldi to pay high prices,
prevented Aldi from bringing any long overdue competitive pressure into the
market, and with the duopoly of Woolworths/Coles shielded from any additional
competition, coffee drinkers continued to pay high prices, and
Woolworths/Coles both continued to make record profits, and handful of
executives pocketed multi-million dollar salaries.

What would have happened with Price Discrimination Laws ?

Those that support Price Discrimination Laws believe that if Australia had the same as
exist in the USA, Nestle would not have been able to charge a higher price to
Aldi.

First Nestle could only charge higher prices, if they actually had higher costs of
supplying Aldi.

Secondly any price breaks for volume could not be set at quantities so high, that they
would result in just a few firms in the market being able to take advantage of the
discount. Therefore Aldi and many other independent retailers would have been
able to purchase at the equivalent price to Woolworths/Coles. Whatever special
Southern Sydney Retailers Association Inc. – Case Study 2
 terms and conditions Woolworths/Coles were able to get from Nestle, Nestle
would have had to give the same deal to Aldi and others.

Therefore Aldi and other independent retailers, not artificially handicapped with higher
prices would have been able to bring more competitive pressures to the market,
which in theory could only result in reduced the price to consumers.

Woolworths and Coles would continue to push for lower prices, but they would be acting
as a proxy for all buyers, therefore any lowering of costs from Nestle, would
flow through to all competitors, and then market forces would see the full cost
saving passed on to consumers.

However if the reduced price was only granted to Woolworths/Coles, only a fraction of
the reduced price would be passed onto consumers, with a substantial proportion
of the reduced price being absorbed by Woolworths and Coles in higher profits,
inefficiencies and higher executive salaries.

Likewise if there was an increase in the price of coffee from Nestle with a wide range of
competitors all paying the equivalent price from the Nestle, with more
competition in the market, consumers could be sheltered from the full impact of
the increase.

But this was all only a theory by the supporters of Price Discrimination laws – and this
theory was rejected by the government or the ACCC.

The ACCC ‘s Position – “There is no Price Discrimination in Australia”

In 1997 during the government enquiry into the retailing sector, the ACCC’s submission
stated, which left many observers shaking their heads in bewilderment;

“…….complaints about price discrimination often are not about price discrimination
but about price differences. In that sense they are pro-competitive and are beneficial
to the consumers because in a competitive market the discounted prices are passed
on to consumers”1

Then in 2002, to the amazement of those close to the industry, the ACCC, again informed
the Australian consumers that there was no evidence of anti-competitive
discrimination occurring the grocery market.

The ACCC released its Report to the Australian Senate in Sept 2002 on Prices Paid to
Suppliers by Retailers in the Australian Grocery Industry 2 and concluded

“... price differences in the sale of groceries by suppliers to the major chains and to
independent wholesalers do not appear to exhibit anti-competitive conduct ...”

However despite the methods used to reach this conclusion being totally flawed, The
Dawson Committee, then cited this study and used it as an excuse not to re-
introduce Anti-Price Discrimination Laws in Australia.

At the time the ACCC released its report to the Australian Senate, it was considered a
complete farce by those with knowledge of the industry, and many suggested
1
Finding A Balance : Towards fair trading in Australia - ACCC submission No. 62.2
2
http://www.accc.gov.au/content/index.phtml/itemId/307369
Southern Sydney Retailers Association Inc. – Case Study 3
 that like almost everything else in Australia from poker machines to petrol
stations, that Woolworths & Coles had also taken over the ACCC.

The Government’s Position – “No Need for Price Discrimination Laws”

Australia’s price discrimination laws were repealed in 1995 by the Hilmer Committee,
they concluded;

“price discrimination generally enhances economic efficiency, except in cases which

may be dealt with by s.45 (anti-competitive agreements) or s.46 (misuse of market
power)……..”3

Several years later a government Committee studying the repeal stated that,

“until 1995, section 49 of the Trade Practices Act contained similar provisions to the
Robinson-Patman Act. However, pursuant to reforms introduced in the Competition
Policy Reform Act 1995, section 49 was repealed. It was reasoned that anti-
competitive price discrimination could be adequately dealt with through other
sections of the Trade Practices Act”.

Therefore in Australia, on one hand Small Business were claiming that anti-competitive
Price Discrimination was going on everyday, and that is was destroying
competition, and forcing consumers to pay higher prices – while on the other
hand the ACCC was advising that Price Discrimination did not exist, and
therefore the Government believed there was no need for the re-introduction of
Price Discrimination laws – it was a stalemate situation, just one theory against
another.

The existence of, and the effects of Price Discrimination were just the speculations and
economic theory of one group v. the speculations and economic theory of
another.

The Theory Gets Put to the Test.

However Aldi gave the world a unique opportunity to put these opposing theories to the
test to see who was right and who was deluded.

Aldi weren’t going to charge their customers higher prices, and they weren’t going to sell
at a loss for ever, and they weren’t going to let the cosy duopoly of
Woolworths/Coles remain sheltered from competition in Nescafe Coffee.

Therefore Aldi, with their massive international operations began sourcing Nescafe
instant coffee from Nestle distributors in Singapore (a country with Price Discrimination
Laws), rather than through Nestle in Australia, were through Price Discrimination Aldi
were forced to pay higher prices than Woolworths/Coles.

Obtaining supplies from a country where Price Discrimination did not exist, Aldi were
now able to compete on a level playing field against Woolworths/Coles, an opportunity
denied to them by Nestle in Australia through Price Discrimination.

3
National Competition Policy : Report of the Independent Committee of Inquiry pp.79-80
Southern Sydney Retailers Association Inc. – Case Study 4
What Happened to Prices on a Level Playing Field ??

Finally Woolworths/Coles now had a real competitor, not handicapped having to pay
higher prices through Price Discrimination. So what was the result – was the
Australian grocery market vigorously competitive, with the worlds lowest
prices, as the ACCC and the government had claimed, or was it a cosy duopoly,
protected and featherbedded through Price Discrimination, overcharging the
Australian consumer billions as claimed by small business ???

Here is the answer –

Previously where Woolworths and Coles were selling a 150 gram jar of Nestle Blend 43
for around $6.99 ($4.66 per 100 grams), without suffering from Price
Discrimination Aldi were able to sell a larger 200 gram of Nescafe at just $4.99
($2.50 per 100 grams)

With competitive pressures back in the market, Coles

reduced the price of 150 grams jar of Nescafe
coffee to $4.99 ($3.32 p/100grams) down from the
previous price of $6.99.

Then on 14th Sept Coles advertised a 500 gram tin for

$11.90 ($2.38 per 100 grams).4 This time
undercutting Aldi’s price.

The claims of the Australian Government and the ACCC,

were finally exposed as complete erroneous – and
small business that for decades that had been
complaining about effects of Price Discrimination
harming consumers were proved correct.

Finally the market was finally working like it should – without Woolworths/Coles
protected by Price Discrimination the normal Daily Telegraph 14 Sept 2006 p.16
th

competitive forces of the market were working
to the benefit of consumers.
However the win for consumers may be short-lived. In
“Here’s Proof alright” - No longer
shielded from competitive market forces,
by having competitors paying higher
prices through Price Discrimination,
Coles were able to lower prices to
consumers.

their attempt to retain the status quo of the “existing retail hierarchy” and return
to previous market distorting policies of Price Discrimination to protect the
Woolworths/Cole duopoly – the resulting in higher prices for consumers,
Nestle’s Australia executives last November asked colleagues at Nestle
Singapore to find out where Aldi was buying the coffee.

A month later the distributor supplying Aldi had been located and cut off completely by
Nestle Singapore, according to an internal Nestle email.

The ACCC said Nestle Australia's attempts to shut down Aldi’s supply from Singapore
shows Nestle were not simply concerned about customer welfare 5 but with the
competitive effect of the imported coffee.
4
The Daily Telegraph, 14th Sept 2006 p.16
Southern Sydney Retailers Association Inc. – Case Study 5
Gullibility of Australian Government Exposed

Nestlé’s Price Discrimination, its anti-competitive effects, and harm to consumers clearly
illustrate the gullibility of the Australian Government and the completely
erroneous arguments that have been used for the last decade.

The Nescafe Coffee situation also shows the flawed the reasoning of the individuals that
repealed this law Australia’s prohibition of Price Discrimination.

“Other sections of the Trade Practices Act” are completely useless to deal with Nestle
Price Discrimination that has forced consumers to pay higher prices for coffee.
Nestle can and have and will continue to use Price Discrimination resulting in
harm to the consumer, and the current Australian Trade Practices Act is
completely unable to do anything to prevent this activity.

The Gullibility of the ACCC exposed

The information that have been disclosed by Aldi, and that fact that even Aldi was forced
to pay higher prices from Nestle, thereby shielding Woolworths and Coles from
competitive market pressures and resulting in higher prices to consumers shows
how hopelessly out of touch that the ACCC have been for the last decade, and
how the ACCC simply fail to understand the anti-competitive affects of price
discrimination.

At least the ACCC now appears to have admitted that they had it completely wrong over
the last decade, their chairman Mr Graham Samuels is reported as saying;

“The ACCC believes that part of Nestles Australia’s anti-competitive purposes was to
remove the stimulus to other Australian grocery retailers, who might have responded to
Aldi’s [lower prices] by discounting Nescafe Blend 43……….”6

The ACCC is clearly restricted in what it can do with the existing laws, section 45 and
section 46, despite the previously claims of government are completely unless to prevent
Nestles Price Discrimination.

5
The giant mutli-national Nestle appear to be gaining a reputation of being unconcerned with “consumer
welfare”. Nestle is earns a substantial proportion of its profits from baby milk formula.

The World Health Organisation (WHO) estimates that 1.5 million infants die around the world every year because they
are not breastfed. Where water is unsafe a bottle-fed child is up to 25 times more likely to die as a result of diarrhoea
than a breastfed child. A marketing code was introduced in 1981 to regulate the marketing of breast milk substitutes.
However consumer groups are now boycotting Nestle’s because of an alleged refusal to stick to World Health
Organisation guidelines on the marketing of powdered baby milk on the third world.

To look at the activities of Nestle see http://babymilk.8k.com/ and

http://www.babymilkaction.org/pdfs/nestlerussia04.pd where in developing countries they are actually
telling children eat Nestle chocolates instead of a sandwich. Anyone that reads these websites may never
buy another Nestle product again.

6
The Australian, “Nestle loses bid to stop Aldi Selling imported coffee” 10th August 2006
Southern Sydney Retailers Association Inc. – Case Study 6
The situation with Nescafe, and the harm of Price discrimination causes to consumers,
shows clearly how foolish Australia was to repeal its Price Discrimination Laws, and how
out of touch those were that supported this repeal – and why these laws urgently need to
be re-introduced, and strengthened to include services as well – and then they need to be
vigorously enforced by an ACCC that appreciates the mistakes that it made in the past.

How Many Other Products are Consumers Paying Prices for due to Price
Discrimination ??

Nescafe 43 is just one of Nestle products. Nestle are one of the largest supplier’s of food
to the grocery market in Australia, their brands include Nescafe coffee,
International Roast, Andronicus Coffee, Milo, Peters Ice Cream, Lean Cuisine,
Maggi, KitKat, Allen’s Lollies, Minties, Smarties, LifeSavers, Milk Bar, etc.

The question that has to be asked - is their policy of price discrimination restricted to
Nescafe 43 only, or do they use Price Discrimination across their entire product
range in Australia ???

Southern Sydney Retailers Association Inc. – Case Study 7