Chinese Milk Powder Case: How Should We Interpret a Price Cut on the Announcement of an Antitrust Investigation?

(by Andreas Stephan) Earlier this month, China’s National Development and Reform Commission (NDRC) announced an investigation into foreign manufacturers of infant milk formula. The very next day, two of the firms in question did something that would be unthinkable in Europe or the US – they announced they would lower their prices and other firms have since followed. Is this the behaviour of remorseful cartelists?  Or is antitrust being used by the Chinese government in the pursuit of non-competition goals?  

On the face of it, the present investigation has the traits of a normal cartel case. CNN reported an NDRC official stating, “Based on the evidence obtained, these companies are involved in price control with distributors and retailers, aimed at excluding fair market competition”. However, on the 5 July, Nestle and Danone said they would cut prices (by as much as 20%) for some of their infant milk products sold in China. Nestle stated that it had decided to “improve certain sales and marketing practices”.

This behaviour and language is perplexing to foreign antitrust observers. Announcing price cuts as a response to a cartel investigation would seem rather unwise in most of the world. Acknowledging that prices are too high, not only helps the competition authority build a successful case and makes it more likely a fine will be imposed, it also risks exposing the firms to costly private actions for damages. Even where firms admit guilt and cooperate with competition authorities, they generally maintain that the infringement had no actual effect on prices. This means that any prospective claimants must establish both causation and actual harm in the shape of an over-charge.

My main concern, however, is that the rising price of foreign milk formula in China appears to be the result of a huge spike in demand and may not be due to a cartel of foreign infant milk producers. In 2008, China was hit by a food safety scandal involving milk and infant formula produced domestically. These products were found to contain dangerously high levels of an industrial chemical called melamine, resulting in at least six infant deaths and some 300,000 victims suffering mainly from kidney damage. The case destroyed confidence in Chinese produced infant formula, to the benefit of foreign brands. The resulting surge in demand for foreign infant formula has resulted in worldwide shortages of the product. Supermarkets as far away as Britain have had to impose quantity restrictions on their customers to make it harder for traders to buy up the product for sale in China.

Some observers have suggested that China is using antitrust enforcement in this case to pursue a protectionist agenda. They allege the foreign firms are being pushed into lowering their prices. If true, this will compound shortages in supply and may be followed by other measures to restrict the sale of foreign milk formula, in order to force Chinese consumers to switch back to domestic brands. The allegation of bias has been raised in the past, most notably in merger control, where Coca Cola’s attempted acquisition of domestic soft drink producer Huiyuan was blocked in 2009. Earlier this year, China’s first fine on an international cartel (LCD Panels) also raised concerns that the NDRC were targeting foreign firms. The allegation is therefore that competition policy is being used to protect domestic firms and restrict entry and growth by foreign firms.

The firms’ price cutting behaviour may have been solicited by the NDRC. It is notable that they have described the price cutting as ‘proposals’ that form part of their ongoing cooperation with the regulator. They appear to have come before any proper finding of guilt and without any opportunity for the firms to defend themselves. However, even as a genuinely voluntary gesture, the strategy can be seen as a logical attempt to appease the NDRC. The authority demonstrated its willingness to impose significant fines in the LCD Panels case, giving its enforcement actions real bite for the first time. Although ex post appeals are possible in Chinese Competition Law, firms are very unlikely to exercise this right because of fears of upsetting their ongoing relationship with the Chinese authorities. Their only real opportunity to limit their exposure comes during the investigation itself. The absence of effective private enforcement means this is not a concern. The firms’ primary motivation is to hold on to a market presence in China. The sheer size of the market makes this a huge priority for international firms.

It is too early to judge China’s antitrust enforcement regime, but If future NDRC investigations are also tarred with a protectionist brush, this will make it very difficult for China to realise the benefits of effective competition policy and may spark retaliatory protectionist measures in other countries.