Vertical Mergers with Input Substitution: Double Marginalization, Foreclosure and Welfare

Abstract

We consider differentiated duopolists facing symmetric linear demands and using Cobb-Douglas technologies with two inputs: a monopolized input and a competitively supplied input. Unlike with fixed-proportions technologies, a merger between the input monopolist and either firm can reduce welfare. The merged firm raises the input price to the rival by more—sometimes inducing complete foreclosure—when that input constitutes a lower share of the rival’s input costs. If that share is sufficiently low then welfare declines, while rising elsewhere despite foreclosure. The merger also can reduce welfare under a CES technology with greater input substitutability than Cobb-Douglas, though the foreclosure and welfare effects are no longer monotonic in the monopoly input’s share of downstream costs.