Skip to content
BY 4.0 license Open Access Published by De Gruyter Open Access July 16, 2009

On the Effects of Selective Below-Cost Pricing in a Vertical Differentiation Model

  • Stefano Colombo EMAIL logo
From the journal Economics

Abstract

We analyse the effects of predation in a vertical differentiation model, where the high-quality incumbent is able to price discriminate while the low-quality entrant sets a uniform price. The incumbent may act as a predator, that is, it may price below its marginal costs on a subset of consumers to induce the rival’s exit. We show that the entrant may adopt an aggressive attitude to make predation unprofitable for the incumbent. In this case predation does not occur and the equilibrium prices are lower than the equilibrium prices which would emerge in a contest of explicitly forbidden predation. Moreover, we show that when the incumbent may choose whether to price discriminate or not before the game starts, if the quality cost function is sufficiently convex, there always exists a parameter space on which the incumbent prefers to commit not to price discriminate.

JEL Classification: D43; L12; L41

References

Areeda, P., and D. Turner (1975). Predatory Pricing and Related Practices under Section 2 of the Sherman Act. Harvard Law Review 88(4): 637–733.Search in Google Scholar

Armstrong, M. (2006). Recent Developments in the Economics of Price Discrimination. In R. Blundell, W. Newey, and T. Persson (eds.), Advances in Economics and Econometrics: Theory and Applications: Ninth World Congress of the Econometrics: Theory and Applications: Ninth World Congress of the Econometric Society. Vol. 2. Cambridge: Cambridge University Press.Search in Google Scholar

Armstrong, M. (2008). Price Discrimination. In P. Buccirossi (ed.), Handbook of Antitrust Economics. Cambridge, MA: MIT Press.Search in Google Scholar

Baumol, W. (1996). Predation and the Logic of the Average Variable Cost Test. Journal of Law and Economics 39(1): 49–72.Search in Google Scholar

Bolton, P., Brodley, J., and M. Riordan (2000). Predatory Pricing: Strategic Theory and Legal Policy. Georgetown Law Journal 88(8): 2239–2330.Search in Google Scholar

Bonanno, G. (1986). Vertical Differentiation with Cournot Competition. Economic Notes 15(2): 68–91.Search in Google Scholar

Choudary, V., Ghose, A., Mukhopadhyay, T., and U. Rayan (2005). Personalized Pricing and Quality Differentiation. Management Science 51(7): 1120–1130.Search in Google Scholar

Corts, K. (1998). Third-Degree Price Discrimination in Oligopoly: All-Out Competition and Strategic Commitment. The RAND Journal of Economics 29(2): 306–323.Search in Google Scholar

Crampes, C., and A. Hollander (1995). Duopoly and Quality Standards. European Economic Review 39(1): 71–82.Search in Google Scholar

De Fraja, G., and G. Norman (1993). Product Differentiation, Pricing Policy and Equilibrium. Journal of Regional Science 33(4): 343–363.Search in Google Scholar

Eber, N. (1997). A Note on the Strategic Choice of Spatial Price Discrimination. Economics Letters 55(3): 419–423.Search in Google Scholar

Encaoua, D., and A. Hollander (2007). First-Degree Discrimination by a Duopoly: Pricing and Quality Choice. The B.E. Journal of Theoretical Economics 7 (1): 1–19.Search in Google Scholar

Gal-Or, E. (1983). Quality and Quantity Competition. Bell Journal of Economics 14(2): 590–600.Search in Google Scholar

Joskow, P., and A. Klevorick (1979). A Framework for Analysing Predatory Pricing Policy. Yale Law Journal 89(2): 213–270.Search in Google Scholar

Karlinger, L., and M. Motta (2007). Exclusionary Prices and Rebates when Scale Matters. CEPR Discussion Paper 6258. Centre of European Policy Research, London.Search in Google Scholar

Lambertini L., and P. Tedeschi (2007). On the Social Desirability of Patents for Sequential Innovation in a Vertically Differentiated Market. Journal of Economics 90(2): 193–214.Search in Google Scholar

Lehmann-Grube, U. (1997). Strategic Choice of Quality when Quality is Costly: The Persistence of the High-Quality Advantage. The RAND Journal of Economics 28(2): 372–384.Search in Google Scholar

Liao, P-C. (2008). A Note on Market Coverage in Vertical Differentiation Models with Fixed Costs. Bulletin of Economic Research 60(1): 27–44.Search in Google Scholar

Liu, Q., and K. Serfes (2004). Quality of Information and Oligopolistic Price Discrimination. Journal of Economics and Management Strategy 13(4): 671–702.Search in Google Scholar

Liu, Q., and K. Serfes (2005). Imperfect Price Discrimination in a Vertical Differentiation Model. International Journal of Industrial Organization 23(5–6): 341–354.Search in Google Scholar

Lutz, S., Lyon T.P., and J.W. Maxwell (2000). Quality Leadership when Regulatory Standards are Forthcoming. The Journal of Industrial Economics 48(3): 331–348.Search in Google Scholar

McGee, J. (1958). Predatory Price Cutting: the Standard Oil Case. Journal of Law and Economics 1: 137–169.Search in Google Scholar

Motta, M. (1993). Endogenous Quality Choice: Price vs Quantity Competition. The Journal of Industrial Economics 41 (2): 113–131.Search in Google Scholar

Motta, M. (2004). Competition Policy: Theory and Practice. Cambridge: Cambridge University Press.10.1017/CBO9780511804038Search in Google Scholar

Spector, D. (2005). The Strategic Uses of Price Discrimination. In Swedish Competition Authority (ed.), The Pros and Cons of Price Discrimination. Stockholm: Swedish Competition Authority.Search in Google Scholar

Stole, L. (2007). Price Discrimination and Competition. In M. Armstrong and R. Porter (eds.), Handbook of Industrial Economics. Vol.III. Amsterdam: North-Holland.Search in Google Scholar

Tabuchi, T. (1999). Pricing Policy in Spatial Competition. Regional Science and Urban Economics 29 (15): 617–631.Search in Google Scholar

Thisse, J. F., and X. Vives (1988). On the Strategic Choice of Spatial Price Policy. American Economic Review 78 (1): 122–137.Search in Google Scholar

Tirole, J. (1988). The Theory of Industrial Organization. Cambridge, MA: MIT Press.Search in Google Scholar

Vickers, J. (2005). Abuse of Market Power. Economic Journal 115 (504): F244–F261.Search in Google Scholar

Published Online: 2009-07-16
Published in Print: 2009-12-01

© 2009 Stefano Colombo, published by Sciendo

This work is licensed under the Creative Commons Attribution 4.0 International License.

Downloaded on 19.3.2024 from https://www.degruyter.com/document/doi/10.5018/economics-ejournal.ja.2009-33/html
Scroll to top button