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Privatized Regulation and Antitrust

Fourth Circuit Holds That North Carolina Dentistsí Board Should Be Treated the Same as Private Parties for Purposes of Antitrust Immunity

Alexander Volokh
July 1, 2013

Federal antitrust law enshrines a public-private dichotomy: unlike the private sector, state governments are completely immune from antitrust suits under the doctrine of Parker v. Brown (1943). Thus, a state legislature could restrict entry into an industry and fix product prices at monopoly levels with impunity; for the sake of federalism, courts would defer to its choice, at least for purposes of federal antitrust law. Municipalities, on the other hand—unlike states themselves—aren’t sovereign. They aren’t immune from antitrust law unless they can show that they’re following the state’s clearly articulated policy (see this previous post for a discussion of the clear articulation requirement). Private parties, understandably enough, get even less deference: they need to additionally show that they’re actively supervised by the state. If a municipality can’t show a clearly articulated state policy, or if a private party can’t show that plus active state supervision, it can be sued for antitrust violations and held liable for triple damages.

Even though municipalities can be thought of as an unusual type of state agency, the Supreme Court has never authoritatively decided how to treat state agencies generally under antitrust law. Are they more public, like municipalities, or more like private bodies? At first glance, it seems obvious that they should be considered governmental and thus more like municipalities, but in reality there’s a large gray area, depending on how the state agencies are constituted. A previous post has discussed the fuzziness of the public-private distinction—how private contractors can come to be treated like government agencies for some purposes, or how apparently public bodies can be treated like private corporations.

A recent Federal Trade Commission (FTC) ruling shows how that fuzziness plays out in the antitrust context. A state board of dental examiners, charged with regulating the practice of dentistry in North Carolina, was labeled as public under state law, but it was composed predominantly of practicing dentists, elected by no one but other practicing dentists. The FTC held that such a board, while nominally governmental, was in fact substantially private, making its oversight of the dentistry business an exercise in privatized regulation; and thus the board was fully subject to federal antitrust law unless it could show active state supervision. On May 31, the Fourth Circuit upheld the FTC’s ruling, in North Carolina State Board of Dental Examiners v. FTC. This case could potentially have interesting implications for the legality of privatized regulation in other areas, though it turns out that the result may be different in different federal circuits.

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The recent case involves the provision of teeth-whitening services in North Carolina. Dentists can whiten your teeth, and so can a wide variety of (cheaper) non-dentist providers. But performing this service counts as “practicing dentistry,” which is illegal in North Carolina without a license from the North Carolina Board of Dental Examiners. The Board “issued at least 47 cease-and-desist letters to 29 non-dentist teeth-whitening providers,” with the result that it “successfully expelled non-dentist providers from the North Carolina teeth-whitening market.” The FTC, which plays a role in enforcing antitrust laws, sued the Board, charging that its conduct was anti-competitive and that it constituted a “combination . . . in restraint of trade” in violation of § 1 of the Sherman Antitrust Act.

But wait a minute: isn’t the Board a state agency? After all, according to statute: “The North Carolina State Board of Dental Examiners shall be and is hereby vested, as an agency of the State, with full power and authority to enact rules and regulations governing the practice of dentistry within the State . . .” (emphasis added). On its face, it seems as though the Board is a state regulatory agency just like the North Carolina Department of Revenue or Public Safety or Environment and Natural Resources. And on that basis, the Board claimed state action immunity on the same terms that apply to municipalities, that is, merely on a showing that it was following a clearly articulated state policy.

The FTC disagreed, holding that the Board had to also show active state supervision, just as if it were a private organization. The FTC’s position was that state action immunity requires active supervision “in circumstances where the state agency’s decisions are not sufficiently independent from the entities that the agency regulates.” This includes cases where the agency has a “financial interest in the restraint that [it] seeks to enforce” and is “controlled by private market participants” “who [stand] to benefit from the regulatory action.” The Board qualifies as such an agency: “Because North Carolina law requires that six of the eight Board members be North Carolina licensed dentists, the Board is controlled by North Carolina licensed dentists.” Therefore, “Board actions in this area could be self interested.”

According to the FTC, the need for active state supervision is especially acute when the agency “is not accountable to the public but rather to the very industry it purports to regulate.” This political unaccountability concern was also present here: the Board is only accountable to dentists, since “the six dentist members of the Board are elected directly by their professional colleagues, the other licensed dentists in North Carolina.”

The FTC’s position is thus that any organization dominated by private dentists must, like a private actor, have active state supervision if it wants to be immune from antitrust law—and all the more so if it’s not accountable to political actors. Because the Board couldn’t show that it was actively supervised by the state, it wasn’t immune from federal antitrust law. The Fourth Circuit agreed with the FTC that active state supervision is necessary, at least when both of the FTC’s factors are present—domination by and accountability to market participants.

Once the FTC (and the Fourth Circuit) found that state action immunity was absent, it was a simple matter to conclude that the Board had violated antitrust law. On its face, the Board’s action was designed to drive lower-priced non-dentist providers out of the market; and this was indeed its effect. While this is of course not the end of the analysis, the FTC itself conducted such an analysis, under both the “quick look” and the “rule of reason” standard, holding that the procompetitive justifications were insubstantial.

The FTC also rejected the Board’s argument that, as a unitary entity, it was incapable of a “combination in restraint of trade,” which requires concerted, not independent action. Under current antitrust doctrine, even a single organization can engage in concerted action if it’s composed of independent actors with their own separate economic interests; the test is functional, not formalistic. “[C]ompetitors cannot simply get around antitrust liability by acting through a third-party intermediary or joint venture.” Applying this framework, the FTC held that the Board’s members, most of which are currently practicing dentists, remain “‘separate economic actors’ with a separate financial interest in the practice of teeth whitening.”

The end result was that the FTC issued (and the Fourth Circuit upheld) an order prohibiting the Board from continuing with its practice of hounding non-dentists out of the teeth-whitening business. The FTC directed the Board to stop ordering non-dentists to cease providing teeth-whitening services, stop communicating to non-dentists that their practice violates the law, and the like. But the FTC’s order also preserves the Board’s authority to investigate and sue non-dentists for suspected statutory violations, as well as to tell them of its “belief or opinion” regarding whether a teeth-whitening method violates the law. The order even preserves the Board’s ability to give the non-dentists “notice of its bona fide intention” to sue, provided it includes a disclaimer clarifying, for instance, that “[o]nly a court may determine” whether there’s been a violation.

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The FTC’s and the Fourth Circuit’s opinions are funny, and not in a ha-ha way. If the Board can sue non-dentist providers on the grounds that their teeth-whitening violates the law—which is a sound legal theory—surely it should be able to tell them that a lawsuit is coming, so that these non-dentists can settle and perhaps leave the business voluntarily. Not only does this save judicial resources, but such behavior is also immune from antitrust law under a quasi-constitutional rule called the Noerr-Pennington doctrine. If private parties lobby the legislature to restrict competition, this activity might be anti-competitive under traditional antitrust analysis, and yet it also looks a lot like protected First Amendment activity, not just traditional freedom of speech but also its little-noticed brother, the freedom to “petition the Government for redress of grievances.” The same applies if people petition the executive branch (say administrative agencies) to restrict competition; and the same applies if people petition the judicial branch. Of course, petitioning a court for redress of grievances, that is, asking the judicial branch to right a supposed wrong, goes by the more usual name of filing a lawsuit. The antitrust laws have been interpreted, in light of First Amendment Petition Clause values, to not apply to lobbying and litigating behavior, at least unless the litigation is so frivolous as to be a “sham” (which this litigation certainly isn’t—teeth-whitening by non-dentists really does appear to be against the law in North Carolina).

And indeed, such behavior is protected by the terms of the FTC’s order: the Board can continue to tell non-dentists of its belief that their activities violate the law and inform them of their bona fide intent to sue. But isn’t that what a cease-and-desist letter is all about? What, then, was the Board doing wrong in the first place? The FTC seems to have been complaining about the tone of the letters more than anything else: rather than merely informing the non-dentists that they were breaking the law and could expect a lawsuit, the Board was demanding that they cease providing the illegal services. The requirement that the Board include a disclaimer in future letters suggests that some non-dentist providers may have been confused about the extent of the Board’s authority, not understanding that its authority was only to investigate and to bring ordinary lawsuits in court. But the substance of the old letters seemed mostly unobjectionable, reciting the statute and stating that the non-dentists were engaged in the illegal practice of dentistry. The difference between an illegal “cease now” letter and a legal “expect a lawsuit” letter is quite fine, perhaps even too fine; and in any event, the Board can simply rewrite its letters and continue doing what it was doing, probably with little to no change in effect.

But it’s important not to let oneself be mired in the suspicious details of one particular case. Those problems affect the merits: was this really an antitrust violation? Perhaps not; perhaps the FTC and the Fourth Circuit were wrong about that. But none of that affects the interesting and valid holding on when an apparently governmental agency isn’t as governmental as it seems.

Is this really “privatized government”? There are two ways of characterizing what’s going on here. One way is to treat the Board as clearly a governmental agency; this way has the advantage of being consistent with North Carolina law which, as quoted above, creates the Board “as an agency of the state.” Under this approach, the question is merely “When are governmental agencies self-interested enough and beholden enough to market participants that it makes sense to give them the same treatment we give private bodies?” Another way is to take as given that a governmental agency is always more like a municipality than it is like a private party, but deny that the Board is really a governmental agency. This approach conflicts with the text of the state law, but North Carolina law doesn’t need to be dispositive either on federal antitrust questions or on questions of reality; surely North Carolina can’t relieve private parties of the active supervision requirement by a mere act of legislative labeling. The influential Areeda-Hovenkamp antitrust treatise takes essentially this approach; looked at this way, North Carolina really has privatized some of its governmental functions, in the particularly obnoxious way of giving incumbents the right to decide who their competitors will be.

But in the end, how we characterize the question isn’t terribly important. Whether we call the Board “truly private” or “suitable for being treated the same as if it were private,” the important question is the bottom-line doctrinal issue of whether, given the goals of antitrust law, active state supervision is required for state action immunity to apply.

On this question, there are at least three approaches. The first approach is to take the state labeling as dispositive, and treat agencies as governmental if they’re classified as such. The Second Circuit follows this approach, and some other circuits (the Fifth and the Tenth) have come to similar results without a lot of analysis; under this approach, the Board would be treated like a municipality merely because North Carolina law labels it as a state agency.

The second approach is to analyze a number of factors—the agency’s labeling, its composition by profession, its openness to public inspection and state audits, its bonding authority, its tax-exempt status, and the like. The First, Ninth, and Eleventh Circuits follow this approach. It’s hard to say what the result would be under this test; with so many factors to consider, a judge could potentially rule however he likes. But what’s clear is that North Carolina’s labeling, while relevant, wouldn’t be dispositive.

The third approach, advocated by the FTC and the Areeda-Hovenkamp treatise, treats as private any organization where most of the members are market participants, regardless of labeling. The Fourth Circuit seems to have adopted at least a modified form of this test, where it also looks to whether these market participants are politically accountable. Clearly the FTC/Areeda-Hovenkamp/Fourth Circuit approach is the most stringent, and the most hostile to states’ attempts to subject industries to what is in substance a scheme of privatized regulation, where incumbents regulate their would-be competitors without meaningful political oversight. So far the Supreme Court has apparently shown no interest in resolving this circuit split, which means the future of privatized regulation remains fairly uncertain.

Alexander "Sasha" Volokh is an associate professor of law at Emory Law School. An archive of his previous Reason.org articles is available here.


Alexander Volokh is Associate Professor of Law


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