Endogenous Market Structures and Antitrust Policy

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Endogenous Market Structures and Antitrust Policy

• by Federico Etro
• Dept. of Economics, University of Milan, Bicocca
  and Intertic
• Intertic Conference, Milan, September 16, 2009

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Introduction

• Endogenous market structures (EMSs)
• strategic interactions
• and endogenous entry
• (not free entry with perfect competition, but
  endogenous number of firms due to rational entry
  in imperfectly competitive markets)
• wider research on EMSs in
• industrial organization (Sutton, 1991, 1998,
  etc),
• macroeconomics, trade, innovation growth
• industrial and trade policy, macroeconomic
  policy,
• look at my two books..

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EMSs and antitrust

• post-Chicago approach is mainly focused on games
  with an incumbent and an entrant or a fixed
  number of firms (exogenous market structures)
• Ex. predatory pricing, tying, vertical
  restraints, mergers
• endogenizing entry some results change or need a
  different interpretation
• on a general approach Etro (2006, Rand, 2008,
  EJ)
• on mergers Davidson-Mukherjee (2007, IJIO),
  Erkal-Piccinin (2008)
• on predatory pricing Kovac-Vinogradov-Zigic
  (2009)
• on technology transfers Creane-Konishi (2009,
  IJIO)
• on tying and vertical restraints today
• entry conditions become crucial

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Tying and endogenous market structures

• The Chicago approach (single monopoly profit
  theorem) associates tying with efficiency reasons
  
• The post-Chicago approach to tying starts with
  Whinston (1990, AER)
• shows that tying can be anti-competitive under
  certain conditions
• most models focus on duopolies in the secondary
  market

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A famous case to keep in mind Windows-IE

• The primary market (OSs) is led by Windows
• the secondary market (browsers) is characterized
  by
• product differentiation (IE, Firefox, Opera,
  Chrome,..)
• multihoming (multiple browsers can be tried and
  used at the same time)
• endogenous entry (dynamic competitive process
  with entry of new browsers and expansion of
  competitors)
• demand for Windows is close to the demand for
  the bundle Windowsbrowser (few want PCs without
  browser)

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A famous case Windows-IESource Net
Applications Data
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Tying Generalizing the Whinston (1990) model

• Monopolist M in the primary market
• Total demand S
• Willingness to pay per unit v
• Zero cost
• Monopolistic price v
• Monopolistic profits Sv
• Secondary market price competition

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Demand in the secondary market for firm i
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• Production costs the secondary market
• constant marginal cost c
• Fixed cost of production F
• Profits for the monopolist and the firm i
• (no-tying)

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The Whinston case a duopoly in the secondary
market

• No-tying
• Optimal pricing (two firms only)
• Strategic complementarity an increase in one
  price increases the other one

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Tying

• Bundle price sum of the willingness to pay for
  the primary good and the implicit price of the
  secondary good
• Profits (with demand of the bundle constrained
  by the secondary good)

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Tying

• Optimal pricing conditions
• tying reduces prices and
• tying reduces profits in both primary and
  secondary market it is not optimal
• The only reason for adopting tying is entry
  deterrence

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Is this true when the number of firms in the
secondary market is endogenous?
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No-tying

• Price competition with endogenous entry in the
  secondary market. Optimal pricing and endogenous
  entry conditions
• Equilibrium price, price aggregator, number of
  firms

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No-tying - Example

• Endogenous market structures with Dixit-Stiglitz
  demand
• Profits

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Tying

• With the bundle price
• profits are

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Tying

• Price competition with endogenous entry in the
  secondary market
• Optimal pricing and endogenous entry conditions

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Tying

• Equilibrium price, price aggregator, number of
  firms
• but the bundle price is low again!

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Tying vs Non-tying

• Tying is profitable if
• gains in the secondary market gt losses in the
  primary market

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Tying vs Non-tying - Example

• With Dixit-Stiglitz demand
• Tying is profitable if
• which is always satisifed for S small enough

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Tying vs Non-tying

• Tying to strengthen competition (reduce prices)
  is profitable
• when there is product differentiation in the
  secondary market
• when multiple secondary goods can be bought at
  the same time
• when entry in the secondary market is endogenous
• when demand for the primary good is close to
  demand for the bundle
• total welfare increases and consumer surplus is
  unchanged (with Dixit-Stiglitz demand)

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VERTICAL RESTRAINTSBonanno and Vickers (1988)

• Vertical separation with contracts to downstream
  firms can be used to soften price competition
  against a rival
• through wholesale prices above marginal cost (w
  gt c)
• increasing final prices hurting consumers
• but not when entry is endogenous (w lt c)!

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VERTICAL RESTRAINTSBonanno and Vickers (1988)
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VERTICAL RESTRAINTS
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VERTICAL RESTRAINTS

• There is not a case for anti-competitive
  vertical restraints
• when there is product differentiation in the
  downstream market
• when entry in the downstream market is
  endogenous
• prices are reduced on average
• total welfare increases (with Dixit-Stiglitz
  demand)
• consumer surplus is unchanged

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Conclusions

• Endogenous number of firms overturn some results
  of the post-Chicago approach
• Entry conditions are crucial to verify an
  abusive strategy
• For instance, tying is a normal competitive
  (price-reducing) equilibrium strategy when the
  secondary market is characterized by endogenous
  entry

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