The Unseen Cost of Pricing Algorithms

May 16, 2024

U.S. antitrust enforcers are now turning their attention to an overlooked business practice: the use of algorithms. The Federal Trade Commission (FTC) and Department of Justice (DOJ) released new guidelines earlier this month outlining the role of algorithms in determining prices for businesses. The message was clear: price-fixing through an algorithm is, in fact, still price-fixing.

This announcement came in the wake of several lawsuits in the hospitality and real estate industries. A pending case against Caesars Entertainment, a Nevada-based casino hotel, along with other hotel chains alleges that the establishments inflated room prices through the use of software that incorporates a pricing algorithm. The DOJ has also previously gone after owners of multifamily apartment buildings that use algorithmic software to set rental rates for housing units. Even meat processing plants have been accused of collusion.

In the legislative branch, Klobuchar introduced the Preventing Algorithmic Collusion Act of 2024 to restrict this particular type of anticompetitive conduct.

computer with code
Source: Unsplash, James Harrison

Past and present lawsuits allege that the use of a common pricing algorithm violates Section 1 of the Sherman Act, which prohibits conspiring to restrain trade, or illegal price-fixing. Many of these companies use the same software as their so-called competitors, which combines all of the competitors’ data into a single platform and produces suggested price points. Access to nonpublic pricing data from competitors artificially inflates prices since individual companies no longer need to cut prices to attract consumers but can instead rely on information about competitors’ supply.

These anti-competitive risks become even more apparent when a small number of companies control a majority market share. The Las Vegas hotel lawsuit, for example, alleges that the defendants using the same platform possess a market share of over 70%. That leaves only a small portion of hotels for which consumers can actually window shop to find a good deal.

The software itself is typically written by third-party companies (for example, Rainmaker and RealPage), which take into consideration variables such as supply and demand and competitor pricing. The use of artificial intelligence and machine learning, however, means these programs are shifting in real-time without human oversight.

Since it’s illegal for competitors to use a shared human agent to fix prices, it should follow suit that an algorithm would be under the same scrutiny. The FTC has addressed this by saying that simply using a shared algorithm is a tacit agreement to collusion. Beyond that, even if there are deviations from the price suggested by the software, just using an algorithm to set initial starting prices is illegal.

In other words, algorithmic software should be treated the same as any other human consultant would when it comes to antitrust compliance.

In the first half of 2024 alone, companies across all industries have settled for nearly three-quarters of a billion dollars for allegations of price-fixing—not even including the new focus on price-setting algorithms.

As technology continues to transform business operations, antitrust regulators and enforcers must be diligent about holding the users of pricing software to account. Businesses should also be proactive about performing regular audits of the software, training employees on the responsible use of these tools, and creating safeguards to protect commercially sensitive data.

While the use of algorithms can greatly benefit businesses and consumers, it must also promote competition to keep a balanced economy and reduce the growing monopoly power of certain industries.