EU Merger Guidelines review: new economic studies inform Commission's approach to dynamic effects

The European Commission has recently published two economic studies on how mergers may impact innovation and future competition. These extensive documents underpin the Commission’s pending review of the Merger Guidelines – expected to be finalised later this year – and the assessment of dynamic effects going forward. The Commission also held two workshops over the past few weeks, where findings were presented and discussed with stakeholders.

A literature review and suggested framework to assess dynamic effects

The Commission’s Economic study on the dynamic effects of mergers, prepared by Oxera, contains a comprehensive review of academic literature, based on which it makes suggestions for an analytical framework to assess dynamic effects in mergers.

Working through more than 450 publications, the authors synthesised theoretical and empirical insights from economic literature. To operationalise this literature into a workable assessment tool, the study proposes an ‘expected consumer welfare’ (ECW) standard and a ‘four-box’ framework to assess mergers:

Box 1 captures anti-competitive dynamic effects of horizontal mergers. The study identifies three distinct channels through which such effects can arise: (i) a loss of price competition in future product markets, which may result in higher prices for future products; (ii) a loss of investment competition, which may reduce innovation incentives where innovation would ‘cannibalise’ expected profits of the other merging party; and (iii) a reduction in price competition which may improve investment incentives where it allows merging firms to better capture the benefits of innovation. Notably, the combined effect of these three channels can cut both ways, increasing or decreasing investment incentives. However, the economic literature suggests that overall mergers tend to decrease investment incentives more often than they increase them.

Box 2 concerns pro-competitive dynamic effects of horizontal mergers. Mergers may improve investment incentives, in particular, through: (i) an internalisation of innovation spillovers, where innovation outcomes are partly non-excludable and would otherwise also benefit a competitor; and (ii) dynamic synergies, e.g., arising from enhanced technology transfer, R&D and production cost efficiencies, or an easing of financial constraints for innovators.

Box 3 covers anti-competitive dynamic effects of non-horizontal mergers, namely in the form of dynamic foreclosure. Such effects may arise, e.g., where rivals are deprived of inputs or complements to prevent them from innovating and competing effectively. The study emphasises that competitive harm under Box 3 is less direct than under Box 1, absent a loss of direct competition.

Box 4 captures pro-competitive dynamic effects of non-horizontal mergers, such as dynamic synergies and the resolution of contractual imperfections.

Separately from the ‘four-box’ framework, the study identifies entrenchment of a dominant position as a potential cause for dynamic concerns – i.e., situations where a firm with a high degree of market power acquires assets, data, or other inputs that may reinforce its market position and thus raise barriers to entry or expansion by rivals.

Where a merger produces both anti-competitive and pro-competitive effects, the study proposes balancing harms and benefits under the ECW standard, taking account of the no-merger counterfactual, It also introduces a sliding-scale approach that allows for probability weighting and appropriate discounting of (future) effects: offsetting more significant and/or immediate harms requires evidence of stronger and more certain benefits.

The overall message from the report is that the Commission appears to remain sceptical of dynamic merger efficiencies and that it will likely remain difficult for merging parties to succeed with an ‘innovation defence’, especially absent clear thresholds to establish the magnitude of a merger’s competitive effects. If this is indeed the emerging direction of travel, this is arguably a missed opportunity if the proposed framework ends up creating a structural bias against dynamic efficiencies.

An empirical ex-post evaluation of prior Commission cases

The Commission’s second Study on the impact of mergers reviewed by the European Commission on innovation and markups contains an empirical ex-post evaluation of mergers reviewed by the Commission between 1990 and 2024.

The study finds that, on average, these mergers were followed by a reduction in innovation among merging firms and third-party competitors. Specifically, while results differ across the metrics and samples examined (e.g., by firm characteristics or technology field), the study suggests that a key innovation measure – the number of patents filed, weighted by citations of those patents in subsequent patent applications to account for their significance – decreased by roughly 18% for merging firms and their competitors, averaged over five years post-transaction. At the same time, mark-ups increased by approximately 4% for merging firms and 3% for rivals. Accounting profits rose by approximately 3-5% of pre-merger sales for merging firms, and somewhat less for rivals.

As a key observation, the authors consider that, while higher mark-ups/profits and lower innovation among merging firms may, as such, be explained by merger-induced efficiency gains, this is less likely where non-merging competitors also experience higher mark-ups/profits and lower innovation. The authors suggest that, on average, their findings are more consistent with the view that the Commission’s enforcement has been too lenient, rather than excessively strict.

Importantly, as the authors highlight, the ex-post evaluation illustrates average effects only and does not assess individual merger cases. Like any empirical study, it is subject to measurement constraints and uses imperfect proxies, such as patent data to measure innovation, whereas not all innovations are patented: consider trade secret protection or other means for innovators to ‘appropriate’ the benefits of an invention and make it accessible to consumers.

What’s next?

These economic studies will inform the Commission’s evolving thinking on dynamic effects and its pursuit of an analytical framework rooted in economic theory and evidence. At the same time, they illustrate the complexity of assessing dynamic effects in practice – which can be pro-competitive, anti-competitive or both.

Seeking to modernise the Commission’s enforcement approach to reflect today's economic realities, the draft Merger Guidelines published in April include, for the first time, detailed accounts of how potential reductions in innovation competition, dynamic foreclosure effects, entrenchment and dynamic efficiencies may be assessed (see our prior blog posts on the draft Merger Guidelines here and here). The Commission currently continues to engage with stakeholders and anticipates finalising its review of the Merger Guidelines later this year. It remains to be seen what changes the Commission will make to the draft guidelines, including with respect to innovation and dynamic effects.

In any event, dealmakers can be sure that innovation and dynamic effects remain an area of interest for the Commission. In order to put themselves in the best position to engage constructively on pro-competitive merger benefits, parties will need to factor these arguments into deal preparation and execution, including by:

• Stress-testing potential transactions in innovative industries against relevant theories of dynamic harm;
• Building out any ‘innovation defence’ early on – with robust data and supporting documents – as any vague claims of dynamic efficiencies will likely be disregarded;
• Considering support by economic experts where needed to articulate and prove dynamic efficiencies; and
• Proactively addressing any dynamic concerns with a legitimate pro-innovation narrative – broader recognition of dynamic harms and benefits means there is a greater need to define the right framework and innovation measures for a specific transaction.