New Economics Papers
on Industrial Organization
Issue of 2014‒06‒02
twenty-one papers chosen by

  1. Can competition reduce quality? By Brekke, Kurt Richard; Siciliani, Luigi; Straume, Odd Rune
  2. Monopoly Profit Maximization: Success and Economic Principles By Korbinian von Blanckenburg; Milena Neubert
  3. Complexity, Efficiency, and Fairness of Multi-Product Monopoly Pricing By Miravete, Eugenio J; Seim, Katja; Thurk, Jeff
  4. Interpersonal Bundling By Chen, Yongmin; Zhang, Tianle
  5. Going beyond Duopoly: Connectivity Breakdowns under Receiving Party Pays By Steffen Hoernig
  6. Dynamic Oligopoly Pricing: Evidence from the Airline Industry By Siegert, Caspar; Ulbricht, Robert
  7. Patents as quality signals? The implications for financing constraints on R&D By Hottenrott H.; Czarnitzki D.; Hall B.H.
  8. Profiting from Innovation: Firm Level Evidence on Markups By Cassiman, Bruno; Vanormelingen, Stijn
  9. Mergers between regulated firms with unknown efficiency gains By Fiocco, Raffaele; Guo, Gongyu
  10. Institutional Authority and Collusion By Axel Sonntag; Daniel John Zizzo
  11. Fight Cartels or Control Mergers? On the Optimal Allocation of enforcement Efforts within Competition Policy By Andreea Cosnita; Jean-Philippe Tropeano
  12. Reputation and Entry in Procurement By Butler, Jeff; Carbone, Enrica; Conzo, Pierluigi; Spagnolo, Giancarlo
  13. Public Procurement in Times of Crisis: The Bundling Decision Reconsidered By Schmitz, Patrick W
  14. Cartel Size and Collusive Stability with Non-Capitalistic Players By F. Delbono; L. Lambertini
  15. Should drug policy be aimed at cartel leaders? Breaking down a peaceful equilibrium By Juan Camilo Castillo
  16. Net Neutrality with Competing Internet Platforms By Bourreau, Marc; Kourandi, Frago; Valletti, Tommaso
  17. Pricing Internet Traffic: Exclusion, Signalling and Screening By Jullien, Bruno; Sand-Zantman, Wilfried
  18. Financial Constraints and Moral Hazard: The Case of Franchising By Fan, Ying; Kühn, Kai-Uwe; Lafontaine, Francine
  19. Optimal Price-Setting in Pay for Performance Schemes in Health Care By Rud Kristensen, Søren; Siciliani, Luigi; Sutton, Matt
  20. Tecnical efficeincy in the European TLC sector By Alessandro Manello; Clementina Bruno
  21. Monopoly Insurance with Endogenous Information By Lagerlöf, Johan N. M.; Schottmüller, Christoph

  1. By: Brekke, Kurt Richard; Siciliani, Luigi; Straume, Odd Rune
    Abstract: In a spatial competition setting there is usually a non-negative relationship between competition and quality. In this paper we offer a novel mechanism whereby competition leads to lower quality. This mechanism relies on two key assumptions, namely that the providers are motivated and risk-averse. We show that the negative relationship between competition and quality is robust to any given number of fims in the market and whether quality and price decisions are simultaneous or sequential. We also show that competition may improve social welfare despite the adverse effect on quality. Our proposed mechanism can help explain empirical findings of a negative effect of competition on quality in markets such as health care, long-term care, and higher education.
    Keywords: Motivated providers; Quality and price competition; Risk-averse providers
    JEL: D21 D43 L13 L30
    Date: 2014–02
  2. By: Korbinian von Blanckenburg (Hochschule Ostwestfalen-Lippe, Germany); Milena Neubert (Johannes Gutenberg-Universitaet Mainz, Germany)
    Abstract: This paper presents a classroom experiment on pricing strategies available to monopolists. Each student makes production decisions as a monopolist during the experiment; learning from his/her own experiences what it means to be a price searcher. Full information is provided on cost conditions, while the demand function remains unknown to the participants. Given a sufficient number of periods, students will be able to maximise their profits only by applying a trial-and-error strategy. However, one of the objectives of the experiment is to demonstrate to students that search strategies based on economic principles are more efficient.
    JEL: A20 A23 L12
    Date: 2014–05–16
  3. By: Miravete, Eugenio J; Seim, Katja; Thurk, Jeff
    Abstract: The Pennsylvania Liquor Control Board administers the purchase and sale of wine and spirits across the state and is legally mandated to charge a uniform 30% markup on all products. We use an estimated discrete choice model of demand for spirits, together with information on wholesale prices, to assess the welfare and redistribution implications of the chosen uniform markup rule. We find that it reduces welfare significantly, but mimics the optimal behavior of a multi-product monopolist. Relative to product-specific prices, the uniform prices do not exploit the observed heterogeneity of consumption across products and demographic groups reflected in relative spirit demand elasticities. They implicitly tax high-income and educated households by overpricing their favored spirit varieties. Our estimated returns to very sophisticated pricing strategies are small indicating the use of more complex pricing mechanisms as being neither socially desirable nor privately profitable.
    Keywords: Complex Pricing; Multi-Product Price Discrimination; Taxation by Regulation
    JEL: L12 L21 L32
    Date: 2013–09
  4. By: Chen, Yongmin; Zhang, Tianle
    Abstract: This paper studies a model of interpersonal bundling, in which a monopolist offers a good for sale under a regular price and a group purchase discount if the number of consumers in a group---the bundle size---belongs to some menu of intervals. We find that this is often a profitable selling strategy in response to demand uncertainty, and it can achieve the highest profit among all possible selling mechanisms. We explain how the profitability of interpersonal bundling with a minimum or maximum group size may depend on the nature of uncertainty and on parameters of the market environment, and discuss strategic issues related to the optimal design and implementation of these bundling schemes. Our analysis sheds light on popular marketing practices such as group purchase discounts, and offers insights on potential new marketing innovation.
    Keywords: Interpersonal bundling, bundling, group purchase, group discount, demand uncertainty
    JEL: D4 L1 M3
    Date: 2014–05–23
  5. By: Steffen Hoernig
    Abstract: We show that the prediction of strategic connectivity breakdowns under a receiving-party-pays system and discrimination between on and off-net prices does not hold up once more than two mobile networks are considered. Indeed, if there are at least three competing networks and enough utility is obtained from receiving calls, only equilibria with finite call prices and receiving prices exist. Private negotiations over access charges then achieve the efficient outcome. Bill & keep (zero access charges) and free outgoing and incoming calls are efficient if and only marginal costs of calls are zero. JEL codes: L13, L51
    Keywords: Mobile network competition, Receiving party pays, Connectivity breakdown, Termination rates
    Date: 2014
  6. By: Siegert, Caspar; Ulbricht, Robert
    Abstract: We explore how pricing dynamics in the European airline industry vary with the competitive environment. Our results highlight substantial variations in pricing dynamics that are consistent with a theory of intertemporal price discrimination. First, the rate at which prices increase towards the scheduled travel date is decreasing in competition, supporting the idea that competition restrains the ability of airlines to price-discriminate. Second, the sensitivity to competition is substantially increasing in the heterogeneity of the customer base, reflecting further that restraints on price discrimination are only relevant if there is initial scope for price discrimination. These patterns are quantitatively important, explaining about 83 percent of the total within-flight price dispersion, and explaining 17 percent of the observed cross-market variation of pricing dynamics.
    Keywords: Airline industry; capacity constraints; dynamic oligopoly pricing; intertemporal price dispersion; price discrimination
    JEL: D43 D92 L11 L93
    Date: 2014–03–23
  7. By: Hottenrott H.; Czarnitzki D.; Hall B.H. (UNU-MERIT)
    Abstract: Information about the success of a new technology is usually held asymmetrically between the research and development RD-performing firm and potential lenders and investors. This raises the cost of capital for financing RD externally, resulting in financing constraints on RD especially for firms with limited internal resources. Previous literature provided evidence for start-up firms on the role of patents as signals to investors, in particular to Venture Capitalists. This study adds to previous insights by studying the effects of firms patenting activity on the degree of financing constraints on RD for a panel of established firms. The results show that patents do indeed attenuate financing constraints for small firms where information asymmetries may be particularly high and collateral value is low. Larger firms are not only less subject to financing constraints, but also do not seem to benefit from a patent quality signal. Keywords Patents, Quality Signal, Research and Development, Financial Constraints, Innovation Policy
    Keywords: Innovation and Invention: Processes and Incentives; Management of Technological Innovation and R&D; Technological Change: Government Policy;
    JEL: O31 O32 O38
    Date: 2014
  8. By: Cassiman, Bruno; Vanormelingen, Stijn
    Abstract: While innovation is argued to create value, private incentives of firms to innovate are driven by what part of the value created firms can appropriate. In this paper we explore the relation between innovation and the markups a firm is able to extract after innovating. We estimate firm-specific price-cost margins from production data and find that both product and process innovations are positively related to these markups. Product innovations increase markups on average by 5.1% points by shifting out demand and increasing prices. Process innovation increases markups by 3.8% points due to incomplete pass-through of the cost reductions associated with process innovation. The ability of the firm to appropriate returns from innovation through higher markups is affected by the actual type of product and process innovation, the firm's patenting and promotion behavior, the age of the firm and the competition it faces. Moreover, we show that sustained product innovation has a cumulative effect on the firm's markup.
    Keywords: markup; process innovation; product innovation; productivity
    JEL: D24 L11 O31
    Date: 2013–10
  9. By: Fiocco, Raffaele; Guo, Gongyu
    Abstract: In an industry where regulated firms interact with unregulated suppliers, we investigate the welfare effects of a merger between regulated firms when cost synergies are uncertain before the merger and their realization becomes private information of the merged firm. The optimal merger policy trades off potential cost savings against regulatory distortions from informational problems. We show that, as a consequence of this trade-off, more intense competition in unregulated segments of the market induces a more lenient merger policy. The regulated firms' diversification into a competitive segment of the market can lead to a softer merger policy when competition is weaker.
    Keywords: asymmetric information; competition; efficiency gains; mergers; regulation.
    JEL: D82 L43 L51
    Date: 2014
  10. By: Axel Sonntag (University of East Anglia); Daniel John Zizzo (University of East Anglia)
    Abstract: A `collusion puzzle' exists by which, even though increasing the number of firms reduces the ability to tacitly collude, and leads to a collapse in collusion in experimental markets with four or more firms, in natural markets there are such numbers of firms colluding successfully. We present an experiment showing that, if managers are deferential towards an authority, firms can induce more collusion by delegating production decisions to middle managers and providing suitable informal nudges. This holds not only with two but also with four firms. We are also able to distinguish compliance effects from coordination effects from the nudges.
    Date: 2014
  11. By: Andreea Cosnita (EconomiX - CNRS : UMR7166 - Université Paris X - Paris Ouest Nanterre La Défense); Jean-Philippe Tropeano (CES - Centre d'économie de la Sorbonne - CNRS : UMR8174 - Université Paris I - Panthéon-Sorbonne, EEP-PSE - Ecole d'Économie de Paris - Paris School of Economics - Ecole d'Économie de Paris)
    Abstract: This paper deals with the optimal enforcement of competition law between merger and anti-cartel policies. We examine the interaction between these two branches of antitrust, given the budget constraint of the public agency, and taking into account the ensuing incentives for firms in terms of choice between cartels and mergers. To the extent that a tougher anti-cartel action triggers more mergers and vice-versa, we show that the two antitrust branches are complementary. However, if the merger's coordinated effect is taken into account, then for a sufficiently large such effect the agency may optimally have to refrain from controlling mergers and instead spend all resources on fighting cartels.
    Date: 2013–06–01
  12. By: Butler, Jeff; Carbone, Enrica; Conzo, Pierluigi; Spagnolo, Giancarlo
    Abstract: There is widespread concern that favoring suppliers with good past performance, a standard practice in private procurement, may hinder entry by new firms in public procurement markets. In this paper we report results from a laboratory experiment exploring the relationship between reputation and entry in procurement. We implement a repeated procurement game with reputational incentives for quality and the possibility of entry. We allow also the entrant to start off with a positive reputational score. Our results suggest that while some past-performance based reputational mechanisms do reduce the frequency of entry, appropriately designed mechanisms can significantly increase it. Moreover, the reputational mechanism we investigate typically increases quality but not prices, suggesting that well designed mechanisms may generate very large gains for buyers and taxpayers.
    Keywords: bid preferences; entry; feedback mechanisms; outsourcing; past performance; procurement; quality assurance; reputation; vendor rating
    JEL: H57 L14 L15
    Date: 2013–09
  13. By: Schmitz, Patrick W
    Abstract: The government wants two tasks to be performed. In each task, unobservable effort can be exerted by a wealth-constrained private contractor. If the government faces no binding budget constraints, it is optimal to bundle the tasks. The contractor in charge of both tasks then gets a bonus payment if and only if both tasks are successful. Yet, if the government has only a limited budget, it may be optimal to separate the tasks, so that there are two contractors each in charge of one task. In this case, high efforts in both tasks can be implemented with smaller bonus payments.
    Keywords: bundling; limited liability; moral hazard; procurement contracts; public goods provision
    JEL: D86 H12 H57 L24 L33
    Date: 2013–10
  14. By: F. Delbono; L. Lambertini
    Abstract: A well established belief both in the game-theoretic IO and in policy debates is that market concentration facilitates collusion. We show that this piece of conventional wisdom relies upon the assumption of profit-seeking behaviour, for it may be reversed when firms pursue other plausible goals. To illustrate our intuition, we investigate the incentives to tacit collusion in an industry formed by Labor-Managed (LM) enterprises. We characterize the perfect equilibrium of a supergame in which LM firms play an infinitely repeated Cournot game. We show that the critical threshold of the discount factor above which collusion is stable (i) is lower in the LM industry than in the capitalistic one; (ii) monotonically decreases with the number of firms.
    JEL: L1 L3 C7
    Date: 2014–05
  15. By: Juan Camilo Castillo
    Abstract: Experience from the last decade in Colombia and Mexico suggests that violence increases when governments achieve their objective of beheading and fragmenting drug trafficking organizations (DTOs). In this paper I provide a theoretical framework to understand this behavior. Drawing elements from industrial organization, I model DTOs as firms that collude by not attacking each other in order to increase their profits. DTOs always collude when they interact repeatedly; thus, previous analyses focusing on a static Nash equilibrium miss an important part of the dynamics between DTOs. I show that a peaceful equilibrium arises if there are only a few DTOs that care enough about the future. Policies resulting either in a larger number of DTOs or in more impatient leaders increase violence between DTOs without reducing supply. On the other hand, policies that reduce the productivity of DTOs, without directly attacking their leaders and fragmenting them, are more desirable since they can curb supply, although this comes at the cost of increased violence if the elasticity of demand is below a certain threshold. I calculate this threshold, which is a refinement of the value suggested by Becker et al. (2006) for consumer markets.
    Keywords: War on Drugs, Illegal Drug Markets, Violence, Supply Reduction
    JEL: D74 K42
    Date: 2013–08–27
  16. By: Bourreau, Marc; Kourandi, Frago; Valletti, Tommaso
    Abstract: We propose a two-sided model with two competing Internet platforms, and a continuum of Content Providers (CPs). We study the effect of a net neutrality regulation on capacity investments in the market for Internet access, and on innovation in the market for content. Under the alternative discriminatory regime, platforms charge a priority fee to those CPs which are willing to deliver their content on a fast lane. We find that under discrimination investments in broadband capacity and content innovation are both higher than under net neutrality. Total welfare increases, though the discriminatory regime is not always beneficial to the platforms as it can intensify competition for subscribers. As platforms have a unilateral incentive to switch to the discriminatory regime, a prisoner's dilemma can arise. We also consider the possibility of sabotage, and show that it can only emerge, with adverse welfare effects, under discrimination.
    Keywords: Innovation; Investment; Net neutrality; Platform competition; Two-sided markets
    JEL: L13 L51 L52 L96
    Date: 2014–02
  17. By: Jullien, Bruno; Sand-Zantman, Wilfried
    Abstract: We consider a network that intermediates traffic between free content providers and consumers. While consumers do not know the traffic cost when deciding on consumption, a content provider knows his cost but may not control the consumption. We study how pricing consumers' and content providers' sides allows both profit extraction from the network and efficient information transmission. In the case of uniform tariff, we argue that a positive price-cap on the charge to content is optimal (with no constrain on the consumer side). Proposing menus helps signaling useful information to consumers and therefore adjusting consumption to traffic cost. In the case of menus, we show that optimal mechanisms consist in letting the content producers choose between different categories associated with different prices for content and consumers. Our results are robust to competition between ISPs and to competition between contents. We also show that when (competitive) content providers choose at small cost between a pay and a free business model, a price-cap at cost on the price for content improves efficiency.
    Keywords: information; intranet; net neutrality; traffic management
    JEL: D4 L1 L86 L96
    Date: 2014–03
  18. By: Fan, Ying; Kühn, Kai-Uwe; Lafontaine, Francine
    Abstract: Financial constraints are an important impediment to the growth of small businesses. We study theoretically and empirically how the financial constraints of agents affect their decisions to exert effort, and, hence the organizational decisions and growth of principals, in the context of franchising. We find that a 30 percent decrease in average collateralizable housing wealth in a region delays chains' entry into franchising by 0.28 years on average, 9 percent of the average waiting time, and slows their growth by around 10 percent, leading to a 10 percent reduction in franchised chain employment.
    Keywords: collateralizable housing wealth; Contracting; empirical; entry; financial constraints; growth; incentives; principal-agent
    JEL: D22 D82 L14 L22 L8
    Date: 2013–11
  19. By: Rud Kristensen, Søren; Siciliani, Luigi; Sutton, Matt
    Abstract: The increased availability of process measures implies that quality of care is in some areas de facto verifiable. Optimal price-setting for verifiable quality is well-described in the incentive-design literature. We seek to narrow the large gap between actual price-setting behaviour in Pay-For-Performance schemes and the incentive literature. We present a model for setting prices for process measures of quality and show that optimal prices should reflect the marginal benefit of health gains, providers’ altruism and the opportunity cost of public funds. We derive optimal prices for processes incentivised in the Best Practice Tariffs for emergency stroke care in the English National Health Service. Based on published estimates, we compare these to the prices set by the English Department of Health. We find that actual tariffs were lower than optimal, relied on an implausibly high level of altruism, or implied a lower social value of health gains than previously used.
    Keywords: optimal price-setting; Pay for Performance; provider behaviour
    JEL: D82 I11 I18 L51
    Date: 2014–03
  20. By: Alessandro Manello (Ceris - Institute for Economic Research on Firms and Growth,Turin, Italy); Clementina Bruno (Università del Piemonte Orientale "Amedeo Avogadro" & HERMES Research Centre)
    Abstract: This paper proposes an efficiency analysis of the major European incumbent firms in the fixed telecommunications sector. The non-parametric approach, that has been adopted here, expresses the efficiency according to a directional distance measure, allowing to consider the different nature of outputs categories, according to their technological content. Efficiency measures are analysed in relation to some indicators that capture the effect of recent reforms in the direction of liberalization, privatization and vertical separation. The results show that while private ownership and market concentration do not significantly affect the operational efficiency, the vertical separation has a positive effect on performances. This suggest that any losses of vertical scope economies, are more than balanced by performance improvements generated by the expectation of an increase in competition in the medium to long term.
    Keywords: Efficiency, Directional Distance Function, Telecommunications sector
    JEL: D24 L22 L25 L43
    Date: 2013–06
  21. By: Lagerlöf, Johan N. M.; Schottmüller, Christoph
    Abstract: We study a monopoly insurance model with endogenous information acquisition. Through a continuous effort choice, consumers can determine the precision of a privately observed signal that is informative about their accident risk. The equilibrium effort is, depending on parameter values, either zero (implying symmetric information) or positive (implying privately informed consumers). Regardless of the nature of the equilibrium, all offered contracts, also at the top, involve underinsurance. The reason is that underinsurance at the top discourages information gathering. We identify a sorting effect that explains why the insurer wants to discourage information acquisition. Moreover, a public policy that decreases the information gathering costs can hurt both parties. Lower information gathering costs can harm consumers because the insurer adjusts the optimal contract menu in an unfavorable manner.
    Keywords: adverse selection; asymmetric information; information acquisition; insurance; screening
    JEL: D82 I13
    Date: 2013–12

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