Vertical Market Structure Research Articles

Exclusivity and exclusion in sports: an economic appraisal following the judgments in European Superleague and International Skating Union

This article explores the economics behind exclusivity abuses of a dominant market position by sports governing bodies, building upon the International Skating Union and European Superleague judgments by the Court of Justice of the European Union dated 21 December 2023. After outlining the vertical market structure of sports and its network effects, this article sets out the various (economic and non-economic) theories of harm and benefit that come from exclusive dealing in sports. It also discusses how the effects from these theories may be quantified and what degree of freedom sports federations do or should enjoy when adopting and applying rules that could exclude a rival sports competition.

Upstream SOEs in the mixed-ownership reform

This article explores possible options of the upstream mixed-ownership reform with imperfect substitute products in a vertically related market composed of one upstream SOE and two downstream profit-maximising retailers. Its focus is not only on incorporating the issue of privatisation into a vertical market structure, but also on extending the traditional upstream–downstream competition model by allowing the active contribution of retailers to enhance values at different costs. It finds that in a vertically related market where retailers’ effort matters, the socially optimal policy towards the upstream SOE is partial privatisation regardless what product differentiation is involved, but the specific degree of privatisation is negatively correlated to the level of effort costs. By contrast, in a vertically related market without retailers’ effort, the government tends to choose full nationalisation of the firm.

The Heterogeneous Tax Pass-Through Under Different Vertical Relationships

Abstract A large body of literature has examined the impact of the horizontal market structure on the tax incidence on consumers. However, the extent to which the vertical market structure affects the tax pass-through—which might be particularly relevant in the presence of the double marginalisation problem—is an unexplored question. Using a confidential dataset of gas station contracts with a major Spanish refiner, in combination with their retail fuel prices and characteristics, we document that the pass-through of a tax on prices is about 38% higher in vertically integrated gas stations than in independent ones. Our estimates allow us to assess the impact on government revenue and emissions under different counterfactual market scenarios.

Monopolistic third-degree price discrimination, welfare, and vertical market structure

Monopolistic third-degree price discrimination, welfare, and vertical market structure

Vertical relations, pass-through, and market definition: Evidence from grocery retailing

We examine how different pass-through rates from input prices to retail prices and different vertical contracts affect upstream market definition. Simple theoretical considerations suggest that vertical restraints induce higher pass-through rates and thus lead to a larger upstream market definition when compared to linear wholesale pricing, given that contracts with linear pricing are associated with lower pass-through rates under imperfect competition. Data from grocery retailing is used to quantify the empirical implications of our theoretical assertion. We find that resale price maintenance leads to larger upstream market definitions than linear pricing. We therefore advise competition authorities to carefully model vertical market structures, whenever they expect incomplete pass-through to be important.

Social Welfare Analysis of China’s High-Speed Rail Industry: Based on the Perspective of Enterprises’ Entry in Upstream Market

Based on the analysis of the high-speed rail industry chain, first, this paper divides the high-speed rail industry chain into infrastructure construction market and manufacturing market of mobile equipment and, second, this paper uses the empirical method of new experience industry organization to measure the market power premium of the high-speed rail upstream market. The study shows that the market power premium of the high-speed rail upstream market is 0.551, and the scale elasticity is 0.314, indicating that there is no systematic market power in the high-speed rail upstream market and there is significant scale diseconomy. The vertical market structure where “private enterprises dominate the upstream competition market and state-owned enterprises dominate the downstream oligopoly market” is further established. Based on the perspective of enterprises’ entry in upstream markets, the social welfare of the high-speed rail industry market structure is analyzed. It is found in the study that the upstream market of the high-speed rail industry has a tendency of insufficient enterprise entry, and the total social welfare increases with the increase in the number of upstream enterprises entry. What is more, the profit of enterprises in the upstream market of high-speed rail decreases with the increase in the number of enterprises in the upstream. This paper believes that policies such as stimulating upstream high-speed rail enterprises entry, providing subsidies to upstream enterprises, reducing upstream enterprises’ entry barriers, and expanding international markets can effectively improve the overall social welfare of the high-speed railway industry.

A Quantitative Analysis of the Optimal Energy Policy from the Perspective of China’s Supply-Side Reform

How does the capacity removal policy affect China’s economy? To quantify the policy outcomes and costs, a four-sector model with vertical market structures is built. The calibrated model shows that, to achieve the policy goal, 10% of equipment operation in the high energy-consuming sectors must be shut down. This policy leads to an improved energy structure in which total energy consumption drops by 4.75% at the cost of a contraction in economic growth, where the total output declines by 12.31%. The numerical experiments find that the optimal policy is to limit the production scale in both the iron/steel industry and the fossil energy industry, closing 9% and 7% of the production, respectively, since doing so minimizes output loss and improves the energy structure. This paper quantifies the impact of the current capacity removal policy and provides policy alternatives to reach the same policy target with a lower output loss.

Vertical Relations, Pass-Through, and Market Definition: Evidence from Grocery Retailing

We examine how different pass-through rates, from input- to final consumer prices, and different vertical contracts affect upstream market definition. Our theory model predicts that, under reasonable conditions, higher pass-through rates lead to definitions of larger upstream markets. Data from grocery retailing is used to quantify the empirical implications of our theoretical result. We find that resale price maintenance leads to larger upstream market definitions than linear pricing models. The reason is that linear pricing contracts are associated with lower pass-through rates under imperfect competition. We therefore advise competition authorities to carefully model vertical market structures, whenever they expect incomplete pass-through to be important.

Vertical integration and disruptive cross‐market R&D

AbstractWe study how vertical market structure affects the incentives of suppliers and customers to develop a new input that will enable the innovator to replace the incumbent supplier. In a vertical setting with an incumbent monopoly upstream supplier and two downstream firms, we show that vertical integration reduces the R&D incentives of the integrated parties, but increases that of the nonintegrated downstream rival. Strategic vertical integration may occur whereby the upstream incumbent integrates with a downstream firm to discourage or even preempt downstream disruptive R&D. Depending on the R&D costs, vertical integration may lower the social rate of innovation.

Bertrand versus Cournot competition in a downstream mixed oligopoly with foreign ownership

AbstractFocusing on foreign ownership in the private firm, we examine the Cournot‐Bertrand comparison in a mixed oligopolistic market with vertical market structure. We have found that if public and private firms were charged with uniform price for their inputs, then Cournot‐Bertrand ranking in market outcomes confirms those obtained by Ghosh and Mitra (2010). This implies that under uniform pricing in the upstream sector, the vertical market structure does not have substantial influences on Cournot‐Bertrand ranking. However, if discriminatory pricing is adopted, firm's profits, output, and social welfare are often reversed to those obtained from uniform pricing in the upstream sector. Given the closeness of products, if the share of foreign ownership is sufficiently low, social welfare in Cournot competition can exceed that of Bertrand competition, contrasting with the standard welfare ranking that Bertrand welfare is strictly higher than Cournot. This implies that Cournot competition can be more socially desirable than Bertrand in mixed oligopoly with vertical market structure if discriminatory pricing scheme is adopted by foreign upstream monopolists.

Post-Cartesian Antitrust

The Supreme Court’s 2018 opinion in American Express v. Ohio is among the most important – and divisive – antitrust opinions in the modern era of antitrust law. The simplest statement of Justice Thomas’s opinion for the majority is that it saw a 5 Justice majority of the Court fully embrace the relatively new economic understanding of two-sided markets. Supporters of the majority opinion almost uniformly view it as an obviously-correct application of important and generally-accepted recent development in economic theory. Those more amenable to Justice Breyer’s dissenting opinion do not necessarily reject the theory of two-sided markets but instead would treat arguments premised on this theory as a pro-competitive justification (that is, a defense) to what could reasonably be understood as potentially anticompetitive conduct under prevailing antitrust economics. The central argument of this paper is that both perspectives miss the forest for the trees. The Court’s American Express opinion is not narrowly about whether (or how) antitrust law should embrace the theory of two-sided markets. Rather, I argue, this opinion is part of the Court’s ongoing efforts to understand how antitrust law should evaluate markets that are not neatly “horizontal” or “vertical. I call these efforts to understand competition in markets that are not clearly horizontal or vertical “post-Cartesian” antitrust, and describe these markets as “messy markets.” The important antitrust cases today do not fit neatly into the mold of either horizontal or vertical conduct. Simple horizontal or vertical market structures are not often the subject of antitrust litigation today. We see this in cases ranging from Apple v. Pepper (and the earlier Apple e-books litigation), to the AT&T-Time Warner merger litigation, from Leegin to Actavis, and of course in American Express. Indeed, the market structures in these cases are so different from horizontal and vertical markets that the tools developed for analysis of horizontal and vertical markets are as inapposite to them as SCP methodologies are to markets for differentiated products, markets characterized by rapid innovation, entry, or network effect, and high fixed costs.

Vertical Contract and Competition Intensity in Hotelling’s Model

AbstractThis paper explores the impact of intensity of rivalry in downstream market on the equilibrium locations of the downstream firms under a vertical market structure á la Hotelling. We find that: (i) the presence of upstream firms softens the spatial competition in downstream market; (ii) minimum differentiation cannot be achieved as the equilibrium outcome and the equilibrium product differentiation is insufficient relative to socially optimum; (iii) social welfare is higher with a higher weight attached to intensity of rivalry, which is different from the non-monotonic relationship under the horizontal market case; (iv) the equilibrium product differentiation is independent of bargaining power under the two-part tariff contracts, which is different from Brekke and Straume (2004) under linear pricing.

A Welfare Analysis of Location Space Constraints with Vertically Separated Sellers

This paper studies the welfare effects of location space constraints when the duopoly sellers are vertically separated. As the downstream firms respond to higher input prices by locating further away from the center of the market, constraining them to locate within the linear city allows the upstream manufacturers better to exploit the downstream industry. This leads to higher final good prices and lower consumer welfare (despite the savings on transportation). This result – which is robust to the inclusion of R&D decisions – is in sharp contrast to the case in which the sellers are vertically integrated. Also different, the incentive to invest in cost-reducing R&D is always insufficient compared with the social optimum. Our results thus suggest the importance of taking into account the vertical market structure in formulating zoning (product standard) and R&D policies.

Productivity, Impatience and Efficiency in Dynamic Markets

This paper describes a non-cooperative theory of bargaining in stationary markets that provides a generalization of the Nash bargaining solution to coalition formation problems. This generalization prevents outside options from being determined in a circular way and, remarkably, always yields a unique prediction. The equilibrium uncovers an endogenous vertical market structure such that the effects of changes in fundamentals propagate—via outside options—from the top down, but not vice versa. In markets that are vertically differentiated by skill, changes at the bottom do not affect those at the top. Moreover, if there is positive assortative matching, changes at the top affect those at the bottom only if they also affect everyone in between.

The market power requirement in antitrust enforcement and its usefulness

In competition law the concept of “significant existing market power” is often considered as a prerequisite to examining whether a business conduct gives rise to liability and, traditionally, the value of the Lerner index (the proportional price–cost margin) is used to measure the size of market power. In this paper we discuss in detail the role of the size of existing market power as a predictor of the size of the reduction in welfare generated by anticompetitive actions/conducts. We concentrate on monopolization or abuse of dominance conducts in which an exclusionary action by the dominant firm eliminates one of the rival firms. The main point which emerges from our analysis is that the source of market power is very important in understanding how changes in the size of extant market power affect the size of the reduction in welfare. We consider vertical and horizontal product differentiation and market structure as alternative sources of market power. We show that in contrast to Kaplow (Goals of competition law, Edward Elgar, pp 3–26, 2012), a significant extant market power requirement can be justified if either a Total Welfare Standard (TWS) or a Consumer Surplus Standard (CSS) is used and that this will be the case if the market power is the result of horizontal product differentiation or the result of a smaller initial number of competing firms. Further, we show, again in contrast to Kaplow (Goals of competition law, Edward Elgar, pp 3–26, 2012), that such a requirement may not be justified under either a CSS or a TWS—as when the market power is the result of vertical product differentiation. We also examine how extant market power and market share vary with the degree of product differentiation and market structure. We show that market shares vary inversely with the Lerner index as horizontal differentiation increases and directly as vertical differentiation increases and as the number of firms decreases, thus proving the irrelevance in many cases of market share as a predictor of market power.

Tariff Escalation and Vertical Market Structure

AbstractMany empirical studies have shown that most countries in the world reveal a specific form of tariff structure, referred to as tariff escalation, which is defined as tariff rates for final products being higher than those for intermediate goods, and the latter are higher than those for raw materials. However, trade theorists have paid scant attention to the causes of tariff escalation. To fill this gap, we set up a vertically related market model with n stages of successive monopolies. We find that a tariff on an imported good can be used to extract not only the profit of the foreign monopolist supplying this good, but also the rents acquired by all the foreign upstream monopolists through its effects on the prices of the upstream intermediate goods. Thus, as the number of production stages in the foreign country increases, the amount of rent captured by the foreign upstream producers rises and a higher tariff rate is therefore needed to extract the rent. This provides a theoretical explanation to the cause of tariff escalation.

Effects of energy price fluctuations on industries with energy inputs: An application to China

This article captures the effects of energy price fluctuations on the demand and supply of energy. By focusing on the industries that depend on energy inputs, we are able to apply these effects and analyze the Chinese energy industry. Four main sets of results are presented. First, rising energy prices reduce output and social welfare. Second, the energy industry in China has a vertical market structure, which acts as an amplifier of energy price fluctuations that increase with market power of energy firms. Third, environmental objectives can be achieved through energy price regulation, thereby weakening the market power of energy firms. Interestingly, the formula of price regulation needed to achieve the environmental objectives is given. Finally, entry-level regulation can reduce emissions. In summary, this article supports the concept of energy industry regulation by decision-makers.

Vertical Market Structure and Location Space Constraints

In a framework that allows the joint analysis of the pricing, positioning, and R\&D decisions of duopolistic firms, we compare two widely used models of location-price competition, with and without location constraint, and focus on the vertical structure of the supply side. We find that when the sellers are vertically separated, many of the results are reversed including that restrictions on the location space harm consumers. Moreover, R\&D investment is always insufficient compared with the social optimum. Our results suggest that government policies on urban planning and R\&D must take into account the vertical market structure.

The arm's length principle and tacit collusion

The arm's length principle states that the transfer price between two associated enterprises should be the price that would be paid for similar goods in similar circumstances by unrelated parties dealing at arm's length with each other. This paper examines the effect of the arm's length principle on dynamic competition in two alternative models of vertical market structure. It is shown that the arm's length principle renders tacit collusion more stable and can reduce welfare when collusion targets the maximum collusive profit achievable in each environment.

Strategic Vertical Market Structure and Opaque Products

This paper studies the strategic introduction of an opaque channel by incumbent rms. We endow a circular city model with an intermediary that sells lotteries (opaque products) over goods produced by upstream rms. Compared to the benchmark model (Salop, 1979), opaque intermediation creates value (welfare) by increasing the intensity of price competition and expanding industry sales, but the eect on the value captured by the rms is ambiguous. We show that rms can use the opaque intermediary as a