Excessive Entry and Social Inefficiencies: A Policy Experiment on Dynamic Efficiency Gains

Abstract

This paper evaluates how different lengths of entry protection impact market structure and market performance. We formulate a dynamic oligopoly model in the tradition of Ericson and Pakes (1995) and allow entry costs to vary over time. Firms decide when to enter a market, followed by production and exit decisions. Using a detailed dataset on quarterly firm-level data on the static random access memory industry from 1974 to 2003, we find that entry costs decline by more than 90% within the first three years. We perform a policy experiment in which a social planner can control the protection length of the first entrant. Our policy experiment assesses to what extent ”excessive entry” causes social inefficiencies. We especially focus on dynamic economies of scale, time variant entry costs and dynamic efficiency gains for assessing the impact on consumer and producerwelfare. Our policy experiments provide evidence that the duration of entry protection has a negative impact on consumer surplus. We also find that entry protection increases social welfare if the protection duration is either sufficiently short or sufficiently long. If entry prot ection duration is short, the increase in monopolist’s profits and entry cost saving dominate the reduction in consumer welfare, which affects total welfare positively. If the protection period is long, dynamic efficiency gains, i.e., the delay of subsequent entry and savings on entry costs impact total welfare positively.