Threat Of Entry Research Articles

Interbank Competition with Costly Screening

We analyse credit market equilibrium when banks screen loan applicants. When banks have a convex cost function of screening, a pure strategy equilibrium exists where banks optimally set interest rates at the same level as their competitors. This result complements Broecker's (1990) analysis, where he demonstrates that no pure strategy equilibrium exists when banks have zero screening costs. In our set up we show that interest rate on loans are largely independent of marginal costs, a feature consistent with the extant empirical evidence. In equilibrium, banks make positive profits in our model in spite of the threat of entry by inactive banks. Moreover, an increase in the number of active banks increases credit risk and so does not improve credit market efficiency: this point has important regulatory implications. Finally, we extend our analysis to the case where banks have differing screening abilities.

Interbank Competition with Costly Screening

We analyse credit market equilibrium when banks screen loan applicants. When banks have a convex cost function of screening, a pure strategy equilibrium exists where banks optimally set interest rates at the same level as their competitors. This result complements Broecker’s (1990) analysis, where he demonstrates that no pure strategy equilibrium exists when banks have zero screening costs. In our set up we show that interest rate on loans are largely independent of marginal costs, a feature consistent with the extant empirical evidence. In equilibrium, banks make positive profits in our model in spite of the threat of entry by inactive banks. Moreover, an increase in the number of active banks increases credit risk and so does not improve credit market efficiency: this point has important regulatory implications. Finally, we extend our analysis to the case where banks have differing screening abilities.

Competition Law as a Constraint on Monopolistic Exploitation by Sports Leagues and Clubs

The sports industry is characterized by dominant leagues and clubs exercising economic power unconstrained by rivals or the threat of entry, often featuring market-division schemes. Leagues and clubs can raise price, lower output, and lower quality to fans, create an artificial scarcity of top-tier teams resulting in publicly subsidized stadiums, and impose labour-market restraints that significantly harm consumers by misallocating players, most obviously by inhibiting low-quality teams' quick improvement. Business decisions made by club-run leagues feature significant transaction costs, resulting in even greater inefficiency than would occur if leagues were controlled by a single entity. Many countries have employed settled principles of competition law, originating in the common law of restraint of trade, as a useful and meaningful constraint on the abuses of economic power in sports. Courts have prohibited agreements between clubs or leagues that distort prices or output, or render output unresponsive to consumer demand, unless the agreement is shown to be demonstrably necessary to achieve a pro-competitive goal. In this paper, I argue that consumers and sports fans will benefit from a more ambitious enforcement of these established principles of competition law. Copyright 2003, Oxford University Press.

Dueling or the battle royale? The impact of task complexity on the evaluation of entry threat

AbstractCurrent marketing research on response to entry assumes that an incumbent decision maker faces potential rivals one at a time as in a series of duels. In many circumstances, however, an incumbent decision maker faces a large number of entrants simultaneously (a “battle royale”). An experiment using experienced managers shows that the increased complexity produced by multiple entrants had a significant effect on the managers' decision processes and their decision outcomes. Specifically, when faced with multiple entrants, the managers adopted more noncompensatory decision processes, and were more likely to misidentify the most threatening entrant as defined by their self‐explicated weights or conjoint part‐worths. These results provide insight into an unexplained gap between the extant normative and empirical research on response to entry. © 2003 Wiley Periodicals, Inc.

The Electricity Contract and Contestable Spot Market

The threat of entry by competitive generators in contestable electricity market limits the average price that can be sustained and encourages incumbents to contract and bid to maximise profits without inducing excess entry.

Monopoly, competition and information acquisition

An incumbent monopolist is uncertain about its linear demand, but can acquire public information at a cost. We determine how an entry threat affects the firm's information acquisition. If returns to scale are constant and the state-contingent demands become more dispersed as output increases, then entry reduces information acquisition. If, however, either the incumbent or entrant has increasing returns; or if the state-contingent demands are nonlinear or fail increasing dispersion, then entry can increase information. Finally, entry can hurt consumers. Although entry always increases output, it can decrease information. Consumers sometimes prefer a better informed monopoly to a duopoly.

On the impotence of imputation

A regulatory policy known as imputation has been recommended and applied in situations where a regulated firm with monopoly power over an essential input faces the threat of entry in one or more of its downstream markets. This policy generally imposes a price floor on the regulated firm's downstream output equal to the price it charges for the input plus the incremental cost of transforming a unit of that input into a unit of the final output. Such a floor is intended to prevent the regulated company from implementing predatory and/or preemptive pricing strategies against its downstream rivals. In this paper, the authors demonstrate the need for an imputation-type policy to safeguard downstream entrants from exclusionary pricing strategies by the vertically integrated incumbent. At the same time, however, the paper also illustrates several strategies available to the vertically integrated firm that can render imputation ineffective against such exclusionary conduct. It concludes, therefore, that imputation is unlikely to (effectively) protect new entrants that attempt to compete at the downstream stage.

Network Effects, Nonlinear Pricing and Entry Deterrence

A number of products that display positive network effects are used in variable quantities by heterogeneous customers. Examples include corporate operating systems, infrastructure software, web services and networking equipment. In many of these contexts, the magnitude of network effects are influ- enced by gross consumption, rather than simply by user base. Moreover, the value an individual customer derives on account of these network effects may be related to the extent of their individual consumption, and therefore, the network effects may be heterogeneous across customers. This paper presents a model of nonlinear pricing in the presence of such network effects, under incomplete information, and with the threat of competitive entry. Both homogeneous and heterogeneous network effects are modeled. Conditions under which a fulfilled-expectations contract exists and is unique are established. While network effects generally raise prices, it is shown that accompanying changes in consumption depend on the nature of the network effects — in some cases, it is optimal for the monopolist to induce no changes in usage across customers, while in others cases, network effects raise the usage of all market participants. Optimal pricing is shown to include quantity discounts that increase with usage, and may also involve a nonlinear two-part tariff. These results highlight the impact of network effects on the standard trade-off between price discrimination and value creation, and have important implications for pricing policy. The threat of entry generally lowers profits for the monopolist, and increases customer surplus. When network effects are homogeneous across customers, the resulting entry-deterring monopoly contract is a fixed fee and results in the socially optimal outcome. However, when the magnitude of heterogeneous network effects is relatively high, there are no changes in total surplus induced by the entry threat, and the price changes merely cause a transfer of value from the seller to its customers. The presence of network effects, and of a credible entry threat, are also shown to increase distributional efficiency by reducing the disparity in relative value captured by different customer types. Regulatory and policy implications of these results are discussed.

Financial intermediation and entry-deterrence

Summary. In this paper, we analyze the interaction between an incumbent's financial contract with a bank and its product market decisions in the face of a threat of entry, in a dynamic model with asymmetric information. The main results of the paper are: there exists a separating equilibrium with no limit pricing; the low-cost incumbent repays more to the bank in the first period due to the threat of entry; and there are parameter values for which the bank makes more profits with the threat of entry than without.

Human Capital Creates Insider Power

This paper demonstrates that insiders can erect barriers to entry and skim rents by sinking costs in human capital when labour markets are otherwise perfectly contestable. The sunk costs nature of human capital investments may result from the need to satisfy ever increasing specialised skill requirements in our society. When outsiders can not threat with market entry, insiders invest inefficiently in human capital such that their rent share is maximized. This inefficiency results from the hold-up problem that arises since workers are not residual claimants of the human capital rents. On the other hand, since insiders' investments are negatively correlated with the number of workers, this may lead to higher than efficient investments nevertheless. When outsiders have an effective entry threat, insiders are forced to accept higher employment of outsiders and share the reduced rents with them. However, full employment is not necessarily reached and in any case investments are higher and social rent is lower than optimal.

The Independent Invention Defence in Intellectual Property

Patents differ from other forms of intellectual property in that independent invention is not a defence to infringement. We argue that the patent rule is inferior in any industry where the cost of independently inventing a product is not too much less than (no less than half) the inventor’s cost. First, the threat of entry by independent invention would induce patent holders to license the technology, lowering the market price. Second, a defence of independent invention would reduce the wasteful duplication of R&D effort that occurs in patent races. In either case, the threat of independent invention creates a mechanism that limits patent‐holders’ profits to levels commensurate with their costs of R&D.

Relative Performance, Risk and Entry in the Mutual Fund Industry

This paper constitutes a first attempt to analyse the impact of the emergence of new funds on portfolio decisions of mutual fund managers who are evaluated on the basis of relative performance. Recent theoretical literature has pointed at the inefficiencies in portfolio selection caused by relative performance evaluation of fund managers. We find that the on-going process of creation of new funds, by posing an entry threat to the incumbent fund managers, greatly alleviates these inefficiencies. Hence the transitory market structure that characterises the mutual fund industry could explain why relative performance evaluation is widely in use.

Managing for High Performance? People Management Practices in Flight Centre

The travel industry is characterised by fierce rivalry, high threat of entry by would-be competitors, high supplier and consumer power and a developing threat of substitutes (especially online). However, despite this, Flight Centre, an Australian travel agency, has managed to achieve an exceptional performance record in terms of profitability and share price. In this paper we focus on the people management practices in Flight Centre in the context of the argument that there is a direct relationship between a company’s financial performance and its utilisation of specific practices. The results of the research show that Flight Centre is representative of most of the advocated practices, but its parallel strategies in marketing and operations/logistics raise questions about the appropriateness of people management practices being given priority over other areas of management practice in the determination of performance outcomes.

Competitive forces and strategic choice decisions: an experimental investigation in the United States and Japan

AbstractManagers operate in a complex, uncertain environment and tend to form simplified models in order to cope with this environment and make competitive strategic decisions (i.e., cost‐leadership, differentiation, or focus). In this study, we use an experimental design to examine the strategic choice decision‐making process in firms located in the United States and Japan. We develop several main‐effect propositions regarding managerial selection of competitive strategies, depending on the competitive forces (buyer power, threat of substitutes, threat of new firm entry, and high intensity of rivalry) they are facing. We propose a main effect due to country of origin: Japanese managers prefer a cost‐leadership strategy more than American managers do. We also propose several interaction effects regarding cross‐national differences in strategy selection between Japanese and U.S. managers. To test our propositions, we collected experimental data from 316 U.S. executives and 459 Japanese executives. We assessed relative impacts of the competitive forces on strategic decision‐making using a multilevel regression analysis. The research findings indicated that high buyer power and high substitution threat were associated with a preference for cost‐leadership strategies, and Japanese managers were significantly more likely to prefer a cost‐leadership strategy than U.S. managers. We also found that, under conditions of high buyer power, U.S. managers were less likely than Japanese managers to enter a market with a differentiation or focus strategy. We found little support for other interaction hypotheses, suggesting points of similarity between U.S. and Japanese managers. We conclude with a discussion of theoretical and managerial implications of our results. Copyright © 2002 John Wiley & Sons, Ltd.

Paragons of virtue? Competitor entry and the strategies of incumbents in the U.S. local telecommunications industry

We investigate whether the presence of new competitors has influenced the behaviour of U.S. incumbent local exchange carriers (ILECs) with respect to pricing, advertising and the extent of diversification that they engage in. This issue is explored empirically, using data for the major local exchange carriers for the years 1994 to 1998. The period straddles periods of both absence and presence of competition in the industry, since the Telecommunications Act of 1996 has opened hitherto closed markets to competitive local exchange carriers (CLECs). While a recent Federal Communications Commission (FCC) report on local competition documents vigorous entry during the past years, the market share of the entrants is insubstantial. Our results indicate that the threat provided by market entrants has notably influenced the strategic behaviour of ILECs. The findings show that the incumbent U.S. local operators, particularly the larger ILECs, aggressively protect their profit streams from traditional business. The evidence demonstrates that the ILECs have responded to the Telecommunications Act 1996, and to the threat of market entry it has created, through entry deterrence. This strategic behaviour has been successful in providing ILECs with protection of their monopolistic markets so far.

Transmission capacity and market power: the effect on a dominant generation firm

We examine the effect of transmission on a firm's market power by analyzing the optimal dispatch for a dominant firm in a short-run regional electricity generation market. Application of our research to Colorado shows that the dominant firm can strategically congest transmission into the region to receive a maximum price 54.9% of the time. When it does not get the maximum price, the dominant firm can receive an 11.6% average markup over the competitive price. We show how the threat of entry across an enhanced transmission grid can increase competition and limit market power in Colorado.

Market presence, contestability, and the terms-of-trade effects of regional integration

This paper examines the impact of market presence and contestability on the price behavior of US exporters in Brazil’s market when MERCOSUR and MFN trade liberalization take place. Using detailed panel data on trade and tariff rates, we find that both the preferred supplier’s market presence and threat of entry lower ( raise) the US price reaction to MFN (preferential) trade liberalization, with similar quantitative effects. Thus, presence in, or threat of entry into, partners’ markets implies lower optimal MFN tariffs, and regional agreements can have pro-competitive effects in contestable markets. We also examine the ‘symmetry’ hypothesis between the effect of tariffs and exchange rates.

Negotiated Access to Essential Facilities

In some industries, monopoly is natural. One provider can serve the relevant demand cheaper than two or more firms. If the monopoly is not contestable, i.e. not controlled by a credible threat of entry, regulation is necessary. The facilities doctrine is one such regulatory tool. It makes sense, if the following additional conditions are met: upstream or downstream markets are not themselves natural monopolies. The holder of the monopoly is also himself active on one of these markets. The opposite market side is unwilling to buy the components separately. The law can try to safeguard competition on the upstream and downstream markets by giving outside providers a legal right to access the essential facility. Implementing such a legal right is a thorny endeavour, however. Regulatory agencies or the courts must determine a whole, complex long-term relationship. They must regulate price, quality, terms and conditions, implementation, adaptation to changed circumstances, coordination of competing demands of access. Under the conditions of the rule of law, this is highly ambitious. The paper demonstrates, how such an approach could perhaps become effective, nonetheless. And it compares the approach to alternative interventions: replacing the courts by arbitrators; ex ante altering negotiation power; corporatist solutions; structural separation; ex ante in stead of ex post regulation. The corporatist solution has the best performance, but it comes at a high price: rule of law and democratic control are almost completely abolished. Policy makers might in particular prefer to alter ex post legal intervention so that it becomes quicker, more reliable and better informed. This also entails costs in terms of rule of law and democracy, but they are much more modest.

Product innovation, sell-off, and entry deterrence

The paper shows that there may be greater or lesser incentive to develop a substitute when faced with the threat of entry. The fear that product innovation may lead to entry, which can only be forestalled by sell-off, may make an incumbent less likely to innovate. On the other hand, the incumbent may have more incentive to engage in product innovation and sell-off in order to deter entry if the entrant expects its entry to force the incumbent to develop a substitute and exit from the current product market.

Strategic Preemption in a Common Property Resource: A Continuous Time Approach

The threat of future entry affects the exploitation of common property resources in important ways. An incumbent has a strategic incentive to manipulate the resource stock to deter entry or to harvest more stock prior to entry rather than share the resource with the entrant. It is possible that the threat of potential entry can lead to the extinction of the resource even though actual competition would result in a steady state with a positive stock level.