Thursday, February 20, 2014

Predatory Pricing and the German Cartel

In a time long long ago, the world supply of bromine was controlled by Bromkonvention, a German cartel backed by the German government composed of 30 separate entities. This powerful monopoly sold bromine at a fixed price of 49 cents per pound throughout the world.
In 1889 Dow received his first patent after inventing
a more cost-effective and streamlined process for bromine extraction. His associates were impressed with his work and in 1890 helped him to found the Midland Chemical Company in Midland, Michigan. Dow continued his work extracting bromine and by early 1891 he had invented the Dow process, a method of bromine extraction using electrolysis to oxidize bromide to bromine which was more efficient than the existing processes of the world. With his new company and new technology, Dow was able to produce bromine very cheaply, and began selling it in the United States for 36 cents per pound. The German cartel had made it clear that they would flood the American market with cheap bromine if Dow attempted to sell the element abroad. In 1904, Dow defied the cartel by beginning to export his bromine at its cheaper price to England. A few months later, an angry Bromkonvention representative visited Dow in his office and reminded him to cease exporting his bromine.

Predatory pricing-: 
In business and economics, predatory pricing is the practice of selling a product or service at a very low price, intending to drive competitors out of the market, or create barriers to entry for potential new competitors. If competitors or potential competitors cannot sustain equal or lower prices without losing money, they go out of business or choose not to enter the business. The predatory merchant then has
fewer competitors or is even a de facto monopoly.

Why is it relevant?
One of the most popular views is that the government needs to protect us from predatory price-cutting. Large corporations, according to this argument, have big advantages in the marketplace. They can cut prices, drive out their competitors, then raise prices later and gouge consumers. Antitrust laws are needed, so the argument continues, to protect small businesses and consumers from those corporations with large market shares in their industries.
The story of Herbert Dow, founder of Dow Chemical Company, is an excellent case study for those who think predatory price-cutting is a real threat to society. Dow, a small producer of bromine in the early 1900s, fought a price-cutting cartel from Germany. He not only lived to tell about it; he also prospered from it. Like David fighting Goliath, he actually believed he could throw stones at the large German chemical monopolies and topple them from world dominance.

The Battle
Dow started the battle in 1904, selling bromine in England and undercutting the cartel at the same price he was selling it in the US.
In early 1905, Bromkonvention followed through on its threat, cutting the price of potassium bromide in half in the US from 30 cents/lb, to 15 cents/lb, while holding the price at 40 cents/lb in Europe. Other bromide prices were also halved.
Another visit was paid by Jacobsohn (the representative of Bromkonvention), who threatened a price war to run Dow out of business if he did not desist. The cartel was backed by the German government and had ample financial resources to win, he argued. Herbert Dow would have none of it, and dismissed the astonished Jacobsohn, who said: "You don't know what you are doing."

The Master Plan
The imaginative Dow worked out a daring strategy. He had his agent in New York discreetly buy hundreds of thousands of pounds of German bromine at the cartel’s 15 cent price. Then Dow repackaged the German product and sold it in Europe—including Germany!—at 27 cents a pound, again, lower than the cartel's rates at Germany. "When this 15-cent price was made over here," Dow said, "instead of meeting it, we pulled out of the American market altogether and used all our production to supply the foreign demand. This, as we afterward learned, was not what they anticipated we would do."

The Aftermath
Antitrust laws are needed to protect small businesses and consumers from those corporations with large market shares in their industries.
Indeed, the Germans were befuddled. They expected to run Dow out of business; and this they thought they were doing. But the U. S. demand for bromine kept growing higher and higher! And where was this flow of cheap bromine into Europe coming from? Was one of the Bromkonvention members cheating and selling bromine in Europe below the fixed price? Powerful tensions surfaced from within the Bromkonvention. According to Dow, "The German producers got into trouble among themselves as to who was to supply the goods for the American market . . . ." The confused Germans kept cutting U. S. prices—first to 12 cents and then to 10.5 cents a pound. Dow meanwhile kept buying the stuff and reselling it in Europe for 27 cents. Even when the Bromkonvention finally
caught on to what Dow was doing, it wasn’t sure how to respond. As Dow said, We are absolute dictators of the situation." He also wrote, "One result of this fight has been to give us a standing all over the world . . . . We are in a much stronger position than we ever were . . . ."
The bromine war lasted four years (1904–08), when finally the Bromkonvention invited Dow to come to Germany and work out an agreement. Since they couldn’t crush Dow, they decided to at least work out some deal so they could make money again. The terms were as follows: the Germans agreed to quit selling bromine in the United States; Dow agreed to quit selling in Germany; and the rest of the world was open to free competition. The bromine war was over, but low-priced bromine was now a fact of life.

Arnab Saha
Class of 2015

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