A relevant market is a market that is worth monopolising (Bishop and Darcey, 1995). In this sense, the exercise of monopoly power will not be feasible if buyers can easily switch to other products (demand side substitution), or other companies are able to increase production or easily enter the market (supply side substitution).
The notion of substitutability is core to properly understanding and defining the relevant market. On the demand side, a relevant market includes all products and services that consumers see as interchangeable or substitutable due to their characteristics, their prices, their intended use and the location of those firms involved in the supply of those products or services (EU Commission Notice on the Definition of Relevant Market, 1997). Demand side substitution is particularly important in certain jurisdictions including US and Canada, which focus on demand responses to changes in relative prices after the merger. The ability of a firm or group of firms to raise prices without losing sufficient sales to make the price increase unprofitable ultimately depends on buyers’ willingness to pay the higher price (Canada’s Merger Enforcement Guidelines, 2011). On the supply side, the market concerns products and services that could readily be put into the market by other suppliers without significant switching costs or by potential competitors at reasonable cost and within a limited timeframe. In these situations, the increased level of supply may render a rise of prices by the hypothetical monopolist unprofitable, and those suppliers should therefore be included in the analysis of the relevant market.
Concerning the geographic dimension, the relevant market includes the area in which the conditions of competition are sufficiently homogenous and which can be distinguished from neighbouring areas based on the conditions for competition. Cases may define a relevant geographic market as local, national, regional, or global for instance. In addition to importation and transportation costs, evidence may include that buyers have shifted purchases between different geographic locations in response to changes in price, as well as the timing and costs of switching suppliers (U.S. Horizontal Merger Guidelines, 2010).
The SSNIP test, also known as Hypothetical Monopolist Test, is the most common tool to define a relevant market. Briefly, a relevant market is found if a “Small but Significant Non-transitory Increase in Price” above the competitive level is profitable and sustainable when exercised by a hypothetical monopolist. In practice, the exercise usually starts from the narrowest possible market definition and asks if a hypothetical monopolist would be able to profitably raise prices beyond the competitive level by a small but significant amount (i.e. 5-10%). If the answer is negative, the exercise continues with a wider market definition until the answer is positive. From the consumers’ standpoint, they are asked if they would still buy a given product or service in case of a 10% price increase. If the answer is yes, the market is well defined.
The SSNIP test is a quantitative test and generally applied when sufficient data is available. However, when sufficient or reliable data are not available, a qualitative assessment may gather evidence to help to identify the products and services that provide competitive pressures to one another, and then seek approximate results to the SSNIP test. In addition, other economic techniques may be used to define markets depending on the specificities of the case. They include price correlation, shock analysis, historic events, in addition to economic tests such as Gross Upward Pricing Pressure (GUPPI) and Upward Pricing Pressure (UPP). All of them have advantages and inconveniences, so they are often used in a complementary or alternative way to the SSNIP test, adding to a more robust analysis when the results of one technique confirms the other.
Malcolm Coate and Jeffrey Fischer (2007) provide an interesting study based on 116 market definition decisions issued by the U.S. Federal Trade Commission (FTC). They argue that the demand-side analysis was relatively simple in over half of the reviewed cases. In the remaining cases, other techniques were employed to identify the relevant market. The research also shows a variety in data requirements, sophistication and analytical technique. Supply side considerations affected only a few markets and price discrimination supported more focused analysis in about ten cases.
In digital markets, certain techniques may have to be adapted since these markets are often characterized by zero-price services, which limits the application of the traditional SSNIP test. They are also frequently characterized by two-sided markets, which add particular issues in determining the relevant product market. In the Google Shopping case, the European General Court confirmed the Commission’s assessment by reference to consumer demand despite the fact that the services were provided at a price of zero to consumers. The European Commission had concluded that the relevant product markets were the market for online general search services and the market for online comparison shopping services, in which the two-sided business model based on free services was cross-funded by advertising. This approach was replicated by several other jurisdictions concerning this stage of relevant market definition.
The definition of a relevant market allows the calculation of market shares, which can provide a useful initial indication of potential market power. Market share calculation may also serve as safe harbours in certain jurisdictions, below which investigations will not be conducted. Nonetheless, market definition techniques are also subject to critics, for instance when product differentiation is a crucial dimension of competition given that substitution across products might be imperfect. It is also the case when firms compete on other dimensions than price (i.e., quality or innovation).
Finally, it is important to highlight that market definition is not an end in itself but rather a tool to assess market power. As mentioned by Mario Monti, former European Commissioner for Competition: “market definition is a cornerstone of competition policy, but not the entire building” (speech by Commissioner Mario Monti, 2001). Having this main objective in mind helps both enforcers and practitioners to focus on the essential, which is assessing market power and analysing the effects of its exercise. For this reason, the precise relevant market is often left open, namely when it is difficult to establish its precise definition and/or in the context of fast-track merger analysis that require a speedy decision. In these cases, most competition authorities can leave the definition open and indicate alternative plausible market definitions (except to certain jurisdictions including Mexico, where the legal framework requires a precise definition of the relevant market in all analysis).