Degree Of Product Substitutability Research Articles

On the Stability of Multimarket Collusion in Price-Setting Supergames

In this paper we examine how trade liberalization affects collusive stability in the context of multimarket interactions. The model we consider is a segmented-markets duopoly in which price-setting firms pool their incentive constraints across markets to sustain their most collusive outcome. We find that, when goods are very close substitutes and trade costs are sufficiently high, trade liberalization facilitates collusion. Exactly the opposite is true if, for any given degree of product substitutability, trade costs are sufficiently low. We also study the dependence of multimarket collusion on product differentiation.

Optimal capacity for substitutable products under operational postponement

We consider a monopolist producing two substitutable products with one flexible (shared) capacity. The demand of each product is a linear function of the prices of both products, and is subject to an additive shock. We study the impact of two key drivers, namely the degree of substitution between the products and the level of operational postponement, on the optimal capacity and the resulting expected profit. We show that the relationship between the optimal capacity and the degree of product substitution is not impacted by the different postponement strategies the firm can utilize or by the different settings (forced clearance versus holdback) considered in the previous literature. On the other hand, how capacity is affected by postponement critically depends on how closely substitutable the products are. In particular, we show that the well-known result that operational postponement and capacity are strategic complements in a single-product setting ( Van Mieghem and Dada, 1999) no longer holds in our setting, because the two substitutable products are now linked through consumer-driven substitution, which the firm can influence through pricing. In particular, capacity and operational postponement (in the form of quantity postponement) can be either strategic substitutes or strategic complements, and this depends on both the firm’s cost structure and the degree of substitution between the products. We also study the impact of forced clearance on the firm’s expected profit and find that clearance deteriorates the firm’s earnings more when the products it offers are highly differentiated.

SPATIAL DISCRIMINATION, PRODUCT SUBSTITUTABILITY AND WELFARE

The paper examines a quantity–location duopoly game in a spatial discrimination model in which the delivered goods are assumed to be imperfect substitutes or complements. By extending the range of the unit transportation cost analysed in the existing literature, it is shown that a dispersed equilibrium arises in which the choice of the optimal locations is affected by the degree of product substitutability. The interaction between the latter and the size of the transportation cost is also discussed in order to verify its welfare implications. In particular, it is shown that in this spatial framework imperfect substitutability may increase welfare.

Effects of distribution channel structure in markets with vertically differentiated products

This study examines how the structure of distribution channels may influence firms’ quality and price strategies and how they may in turn affect consumer welfare. It treats product quality as a decision variable so that the degree of product substitution becomes endogenous rather than exogenous as in previous studies. We find that, with vertically differentiated firms, the changes in channel structure have asymmetric effects depending on whether they occur in the high-quality channel or in the low-quality channel. The product quality of the high-quality channel decreases when it decentralizes unilaterally. However, product quality of the low-quality channel would increase when it decentralizes. The high-quality manufacturer and its channel suffer more from decentralization in comparison with their low-quality counterparts, and the low-quality manufacturer actually receives greater profits when both channels are decentralized. An important driver behind these asymmetries is the interaction between firms’ pricing incentives in integrated versus decentralized channels and what consumer segments they serve. Our analysis indicates that decentralization may reduce consumer welfare, but decentralization in the high-quality channel hurts consumers more than that in the low-quality channel. Therefore in a competitive environment where firms make both quality and price decisions, channel integration would have significant welfare enhancement effects through the elimination of double marginalization, especially if it happens in the high-quality channel. Moreover, we demonstrate that once quality is endogenized, integration is the only equilibrium of channel structure choices. This suggests that the private incentives of firms may actually benefit consumers but do not have to be in line with the general preference of industry regulation for decentralization.

Maximum-revenue tariff under Bertrand duopoly with unknown costs

This paper considers an international trade under Bertrand model with differentiated products and with unknown production costs. The home government imposes a specific import tariff per unit of imports from the foreign firm. We prove that this tariff is decreasing in the expected production costs of the foreign firm and increasing in the production costs of the home firm. Furthermore, it is increasing in the degree of product substitutability. We also show that an increase in the tariff results in both firms increasing their prices, an increase in both expected sales and expected profits for the home firm, and a decrease in both expected sales and expected profits for the foreign firm.

On Competition and the Strategic Management of Intellectual Property in Oligopoly

An innovative firm chooses strategically whether to patent its process innovation or rely on secrecy. By doing so, the firm manages its rival’s beliefs about the size of the innovation, and affects the incentives in the product market. Different measures of competitive pressure in the product market have different effects on the equilibrium patenting choices of an innovative firm with unknown costs and probabilistic patent validity. Increasing the number of firms (degree of product substitutability) gives a smaller (greater) patenting incentive. Switching from Bertrand to Cournot competition gives a smaller (greater) patenting incentive if patent protection is weak (strong).

Maximum‐revenue versus Optimum‐welfare Export Taxes: a Delegation Game*

AbstractIn the Eaton and Grossman (1986) Bertrand duopoly model of strategic export taxes, both countries may be better off if they both delegate to policymakers who maximize tax revenue rather than welfare. However, both countries delegating to policymakers who maximize tax revenue is not a Nash equilibrium unless the degree of product substitutability is sufficiently high. For a wide range of values for the degree of product substitutability, the game is a prisoner's dilemma where both countries are better off delegating to policymakers who maximize tax revenue but both will delegate to policymakers who maximize welfare in the Nash equilibrium.

Evaluation of hierarchical forecasting for substitutable products

This paper addresses hierarchical forecasting in a production planning environment. Specifically, we examine the relative effectiveness of Top-Down (TD) and Bottom-Up (BU) strategies for forecasting the demand for a substitutable product (which belongs to a family) as well as the demand for the product family under different types of family demand processes. Through a simulation study, it is revealed that the TD strategy consistently outperforms the BU strategy for forecasting product family demand. The relative superiority of the TD strategy further improves by as much as 52% as the product demand variability increases and the degree of substitutability between the products decreases. This phenomenon, however, is not always true for forecasting the demand for the products within the family. In this case, it is found that there are a few situations wherein the BU strategy marginally outperforms the TD strategy, especially when the product demand variability is high and the degree of product substitutability is low.

Standard-Creating Coalitions in Oligopoly with Differentiated Products and Variable Network Density

This paper considers the problem of standard-creating coalition formation in an oligopoly. Cooperative R&D investments with the aim to improve product quality are explicitly taken into account. We obtain the following results. If both the strength of network effects and the degree of product substitutability are weak, no stable standard coalition is feasible and it is also socially optimal not to create a standard. However, with strong network effects and product substitutability the grand coalition is the stable equilibrium, which is also socially optimal. In between these limits a multiple-standards coalition structure can be a stable equilibrium, although from a welfare perspective it would be best to create one common standard. If a stable equilibrium contains multiple standards, the firms invest more in R&D than in the case of the grand coalition. It is shown that competition among standards stimulates quality improving innovation.

COST-SAVING PRODUCTION TECHNOLOGIES AND STRATEGIC DELEGATION*

This work analyses a managerial delegation model in which firms choose between two production technologies: a low marginal cost technology and a high marginal cost technology. For the former to be adopted more investment is needed than for the later. By giving managers of firms an incentive scheme based on a linear combination of profit and sales revenue, we find that Bertrand competition provides a stronger incentive to adopt the cost-saving technology than the strict profit maximisation case. However, the results may be reversed under Cournot competition. If the degree of product substitutability is sufficiently low (high), the incentive to adopt the cost-saving technology is larger under strict profit maximisation (strategic delegation).

The endogenous national minimum wage institution

This paper offers reasoning for the endogenous sustainability of the National Minimum Wage Institution (NMWI). In an economy with asymmetries in productivity among unionized firms, high-tech firms may often opt for minimum wage agreements covering all unionized workers, in order to raise the relative costs of their rival low-tech firms. Their workers’ unions as well as the unions of workers in low-tech firms share this interest, provided that the degree of product substitutability is not too low and the wage agreement is not too high. Hence, since economy-wide minimum wage agreements prove to be compatible with the interest of all unions and high-tech firms, the NMWI can be sustained in equilibrium under politically convenient circumstances.

Product Innovation and Product Innovation Marketing: Theory and Microeconometric Evidence

This paper derives a three stage Cournot?oligopoly game for product innovation, expenditure on introducing the product and competition on the product market. Product innovation is assumed to increase consumer utility but is effective only if the innovating firm invests in marketing, so that consumers become aware of the newly developed product. Firms first decide whether or not to conduct product innovation and then determine their expenditure for bringing the new product to the market. In the final stage of the game, they are involved in competition on the product market. Key findings of the theoretical model are that both the marketing of a product innovation and a firm?s propensity to introduce an innovation decrease with an increase in the number of competitors and the degree of product substitutability. An increase in market demand has a positive effect on product innovation and marketing effort. These findings are tested empirically using survey data from 519 German service sector firms which mainly produce consumer goods. A simultaneous sequential Tobit model is applied in the empirical part of this paper. It turns out that the predictions of the theoretical model are supported by the empirical findings.

Product Innovation and Product Innovation Marketing: Theory and Microeconomic Evidence

This paper derives a three stage Cournot-oligopoly game for prod- uct innovation, expenditure on introducing the product and competition on the product market. Product innovation is assumed to increase consumer utility but is eective only if the innovating firm invests in marketing, so that consumers become aware of the newly developed product. Firms first decide whether or not to conduct product innovation and then determine their expenditure for bringing the new product to the market. In the final stage of the game, they are involved in competition on the product market . Key findings of the theoretical model are that both the marketing of a product innovation and a firm's propensity to introduce an innovation decrease with an increase in the number of competitors and the degree of product substitutability. An increase in market demand has a positive eect on product innovation and marketing eort. These findings are tested empirically using survey data from 519 German service sector firms which mainly produce consumer goods. A simultaneous sequential Tobit model is applied in the empirical part of this paper. It turns out that the

A generalised wage rigidity result

This paper provides an alternative explanation of the empirically observed wage rigidity in industrialized economies. We provide sufficient conditions under which the negotiated wage in unionized imperfectly competitive industries is independent of a number of product market features, as well as of the bargaining institution (Right-to-Manage or Efficient Bargains), as long as negotiations are centralised at the industry level. The wage rate turns out to be the same independently of e.g. the number of firms, the degree of product substitutability, or the intensity of market competition, and this result is shown to hold in a broad class of industry specifications widely used in the literature.

The incentives for cost reduction in a differentiated industry

This paper investigates how the incentives for cost reduction in a differentiated industry depend upon the degree of product substitutability. When goods are imperfect substitutes, both Cournot and Bertrand competition result in underinvestment in the sense that a social planner would be willing to pay more for a given cost reduction than a profit-maximizing firm. Overinvestment may occur when the goods are sufficiently close substitutes. Similarly, Cournot competition provides a stronger incentive to innovate than Bertrand competition if the degree of substitutability is low, and a weaker incentive if this degree is high.

New Product Development and the Optimal Duration of Patents

Economists and policy makers have always argued that the patent system is necessary for a growing economy despite the fact that temporary monopoly rights to innovators imply a distortion of the price system. However, economists have not yet come up with a unified theory to determine the optimal duration of patents. In this paper, we develop a simple dynamic model which identifies two important welfare effects of the patent system, the effect on the incentive to innovate and that of the price distortion caused by the monopoly rights of patent holders. Using this framework, we analyze the factors which determine the optimal duration of patents awarded to new product developers. We argue that the possibility of a finite optimal patent life does not arise in the literature on product development since it considers only a constant returns to scale technology for developing new products. We first confirm the optimality of an infinite patent life for this technology and then show that if the cost of developing new products is increasing with the rate of instantaneous product development then the optimal patent life for economies with a population growth rate less than the interest rate is finite. In addition, we show that for economies with population growth rate exceeding the interest rate, the optimal patent life may also be finite provided that the degree of product substitution is sufficiently high. The patent system can be viewed as a method of assigning property rights to innovators in order to encourage research and development. Theoretically, the optimal R&D level can be tackled using a standard public goods analysis (such as the problem of financing a new bridge) yielding a result that optimal allocations can be achieved at the cost of a significant amount of government intervention. Perhaps for this reason most decentralized societies have chosen a different way to motivate people to engage in R&D, and this is done by assigning temporary monopoly rights to innovators.