Product Diversification, Entry Prevention and Limit Pricing

Abstract

This article considers a multiproduct market in which an established firm faces an unlimited number of potential competitors, and all firms have identical cost functions exhibiting scale economies. It is shown that, if von Stackelberg leadership is feasible, the established firm's profit-maximizing strategy will always involve entry deterrence. The characteristics of alternative entry deterring policies are outlined. For a two-good model, it is argued that product diversification is a feature of optimal strategies when substitutability in demand between the goods is relatively low. This will (will not) be coupled with limit pricing when fixed costs are low (high).