This document is posted to help you gain knowledge. Please leave a comment to let me know what you think about it! Share it to your friends and learn new things together.
• Competition less than jointly max profit firms have incentives to avoid competition
• These incentives are basis for competition policy• Explicit cartels, implicit tacit collusion• How would these show up in reaction fn picture?Detect Cartels and Collusion?• Hard to do w/ econ alone• Lerner Index L = (p - ci)/p = si/e?• If p, si and e known, make inference on p - ci
• Often not practical: p, ci and e not known accurately enough• But with good enough data this can be done• Identical prices?
– Not evidence for cartel– Perfect competition identical prices
• Implicit agreement or understanding not to compete• Eg. firms "agree" on monopoly price and output• Unstable: cheating and undercutting gives even higher
profits than collusion, if rivals adher to agreement• Need mechanism to remove incentives for cheating
• "Stick-and-Carrot" Theory:– Cheating draws punishment and low profits in future– Collusion draws rewards (high profits)– Deters from cheating on promise to fix prices
• Future reward Collude now• Requires that future matter
3. Cartels and Collusion• How to punish?• Price war
– Punishment will also hurt the punisher– Need incentives to punish
Collusion in Bertrand Competition• Read Motta Ch 4• Model: firms interact repeatedly• Assume c = 0, mkt demand q = a - bp• Per period profits now it = pit qit(pit, pjt)• Bertrand equil price for one-shot game = 0• Each period t each firm chooses price pit knowing all previous
prices pit-s, s = 1,2,3,…• No end-game problem: repeat per-period game infinitely
3. Cartels and Collusion• Future matters but less than today: firms discount future
profits with discount factor 0 < < 1
• Owners of firms value mt+1 = mt
• where r is discount (or interest) rate, P probability that game ends after this period and k firm's marginal cost of capital
• Firm goal: max present value of per-period profit streamVi = t ti
t
• Strategy?– Plan ahead how to play entire game– What per-period moves to choose after any history– Think: players desing strategy before game starts and
3. Cartels and Collusion• GS punishes defection forever• Punishment "too hard", lesser punishment suffices• Optimal punishment: shortest number of periods T such that
extra profits gained by defection are vanished– Stay on intended equil path: earn M/2 each period– Temptation: gain M - M/2 - = M/2 - during defection– Punishment: earn zero profits long enough so that profits
(defect + punishment) < profits (collusion)• Minimum length of sufficient punishment depends on
discount factor • Often optimal punishment is minimax strategy of per period
game, ie tougher than one-shot equil behavior• GS easy to use• Point here collusive outcome, not details how one supports
3. Cartels and Collusion• "Folk Therorem": Any outcome that leaves each player more
than one-shot minmax is sustainable as an equil outcome in infinitely repeated game– There are many equilibrium strategies– "Anything" is in equil– No predictive power w/o more assumptions
• Generally collusion is sustainable if temptation to defect is low enough and punisment following the deviation strong enough
• Firm wants to keep colluding if present value of devi-ating is smaller than present value of adhering to collusive agreement
3. Cartels and CollusionFactors that Help Collusion• General idea: stronger, earlier and more certain punishment
increases possibilities to collusion– ”Topsy-Turvy” principle: the more firms have
opportunities for aggressive competition, the less competition there is
• Public prices and other market transparency– Easy to observe deviation
• Size of cartel– N equally sized firms– Each firm receives 1/Nth share of total monopoly profits– Collusion sustainable if one shot defection followed by
punishment leaves less profits that staying on collusive path:
3. Cartels and Collusion– Large firm has a lot more capacity available and can gain
more customers with same price deviation from collusive norm• Large firms tend to have a greater incentive to
deviate from collusive price– Asymmetry in capacities will also have an important
effect on effective punishments• Worst punishment firm can impose on its competitors
is to produce up to full capacity• Small firm that is already producing at almost full
capacity has low possibilities to punish rivals that do not follow collusive norm
• Large firm competing with small firm will have large incentives to deviate from any collusive norm without this being disciplined threat of low prices in future
– Increases in asymmetries in capacities make collusion more difficult
3. Cartels and CollusionCollusion and Antitrust• See Motta Ch 4, Europe Economics report, UPM/Haindl and
Gencor/Lonrho decisions, and browse my ”forest” paper – Joint dominance and coordinated effects in legal jargon ~
collusion in econ jargon• Core of policy problem: Collusion arises as equilibrium
behavior– Hard to prohibit or deal with ex post
• Solution: try to prevent collusion, ban business practices and mergers that help to facilitate collusion – see above
• Analyses of asymmetry in assets and capacity constraints suggest merger guidelines that differ from traditional wisdom– For a given number of firms, Herfindahl and other
concentration tests predict that more symmetric industry is more competitive