Companies succumb to the temptation of collusion to maximize profits. However, various regulatory measures, including the leniency program, can prevent this.
Among the countless economic news and updates, there are those that resurface just when you’re about to forget them, making their presence known to busy modern people and causing nothing but frustration. Among these, collusion stands out as one of the most representative economic crimes. Collusion frequently occurs in oligopolistic markets, where a few large corporations dominate the majority of the market. Unlike other market structures, firms in oligopolistic markets determine their strategies through game-like interactions. In these interactions, firms recognize that a small number of competitors control the market and that price wars among themselves yield little profit. They formulate strategies by anticipating the attitudes and reactions of rival firms to their actions.
At this point, firms within an oligopoly market feel a strong temptation to avoid fierce price competition by colluding to set prices and quantities. Consequently, they face a significant risk of succumbing to the temptation of ‘collusion’—an act where they conspire with other businesses through contracts or agreements to fix prices or restrict trading partners, thereby limiting effective competition in that sector and reaping unfair gains. This clearly disrupts market order and secures unfair profits, which is why many people feel indignant upon hearing news of corporate collusion. The Korean government has also explicitly prohibited collusion and stipulated penalties for it by law.
So, what methods exist to eliminate collusion? Before presenting solutions, let’s examine an interesting case. Two individuals, A and B, committed a crime and were arrested as suspects. They were interrogated separately in different rooms. They cannot communicate with each other and must each choose one of two strategies: confess or remain silent. The police then propose the following: if both confess, they will each receive a 5-year sentence; if both remain silent, they will each receive a 1-year sentence; and if one confesses and the other remains silent, the confessor will be released, while the silent party will receive a 9-year sentence.
This scenario, devised by Princeton University professor Albert Tucker, is a game theory problem commonly known as the ‘Prisoner’s Dilemma’. The solution to this problem can be easily analyzed through common sense reasoning rather than complex theoretical approaches. Returning to the scenario, let’s consider it from A’s perspective. While A cannot easily predict what strategy B will adopt, A’s own strategy is clear. Assuming B confesses, if A remains silent, A will be sentenced to 9 years while B is released. If A confesses, both A and B will be sentenced to 5 years. Furthermore, even assuming B remains silent, A would prefer to confess and be released rather than remain silent and receive a 1-year sentence. That is, regardless of B’s choice, A will choose the strategy of confessing, which is more advantageous for them. Similarly, we can infer that B will ultimately adopt the strategy of confessing as well. Consequently, even knowing that the best strategy for both A and B is for both to remain silent, they confess to gain their own advantage. This leads each to receive a 5-year sentence, totaling 10 years – the worst possible outcome among all choices.
This fascinating ‘prisoner’s dilemma’ phenomenon, when applied to reality, particularly draws attention to the ‘leniency program’ created to break the collusion between companies discussed above. The Leniency Program is a system implemented to encourage voluntary reporting by companies engaged in collusive practices harmful to the market economy. It exempts or reduces penalties like fines for the first company to voluntarily report collusion among businesses. This cleverly targets the weak point of collusion, which is often difficult to detect, and may even lead to reporting rival companies, thereby reducing attempts at collusion itself. The Korean government introduced this system in 1997 and actively promoted it starting in 2005. The benefits for voluntary reporting include a 100% exemption from fines for the first company to report and a 50% reduction for the second. This situation perfectly illustrates the ‘prisoner’s dilemma’.
Analyzing the situation reveals that both Companies A and B would find voluntary reporting to be their optimal choice. By offering the strong incentive of penalty exemption, the system encourages colluding companies to betray their partners. However, like most systems, the leniency program has a significant flaw. Specifically, large corporations with superior information capabilities abuse the leniency program. They consistently secure immunity as the first to report, even when participating in collusion, or habitually repeat collusive behavior based on this advantage. Furthermore, when submitting decisive evidence during voluntary reporting, the company that led the collusion holds a favorable position. Since companies with high market share typically lead such collusion, fundamental issues with this system have been raised. In response to criticism, the government announced a revised bill that denies immunity for repeated cartels within a certain period and removes benefits for second-place whistleblowers. Prosecutors have established a policy to investigate companies using the leniency program if the severity of their illegal acts is significant.
We have examined real-world applications of game theory and the leniency program. Game theory originated from the desire to mathematically explain individual behavior in strategic situations. However, modern game theory possesses immense potential, analyzing human behavior through a mathematically integrated framework across all social domains, and applicable to decision-making and the formulation and execution of all types of strategies. It is time for greater interest and effort in game theory, as it provides tools enabling insight and rational judgment for us today, who live in uncertainty and constantly wonder about the future.
