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ERC

INDUSTRY DYNAMICS Report Summary

Project ID: 313623
Funded under: FP7-IDEAS-ERC
Country: Germany

Final Report Summary - INDUSTRY DYNAMICS (Dynamic Approaches to Mergers and Industry Structure)

The aim of the project consists in increasing our understanding of mergers, merger control and industry structure and in constructing and analyzing models that explicitly take into account the dynamic nature of the competitive process. In addition to making advances in modeling dynamic competition in oligopolistic markets and shedding light on policy-relevant questions in antitrust and industrial policy, another focus of the project is to make methodological contributions that have applications beyond industrial organization.

While the short-run price effects of mergers are the focus of the academic literature on merger policy, many recent merger cases evolved around the effect of mergers and merger policy on investment (and innovation). To study these long-run effects, I develop a computational, stochastic dynamic industry model in which investment and merger proposals are endogenous. A key feature of the model are scale economies which imply that firms can reduce costs through either internal investment in building capital or through mergers. I find that the optimal dynamic merger approval policy differs substantially from what would be best considering only welfare in the period the merger is proposed. I also find that the ability to commit can lead to a significant welfare improvement.

Because of cross-border demand and supply linkages, merger approval decisions of national antitrust authorities have important effects on other jurisdictions. I develop a two-country international trade model with oligopolistic competition, and study the conditions on market structure and trade costs under which a merger policy designed to benefit domestic consumers is too tough or too lenient from the viewpoint of the foreign country. Calibrating the model to match industry-level data in the U.S. and Canada, I find that at present levels of trade costs merger policy is too tough in the vast majority of sectors. I also quantify the resulting externalities and study the impact of different regimes of coordinating merger policies at varying levels of trade costs.

Further, I develop an aggregative games approach to study oligopolistic price competition with multiproduct firms. I introduce a new class of IIA demand systems, derived from discrete/continuous choice, and nesting CES and logit demands. The associated pricing game with multiproduct firms is aggregative. I prove existence of equilibrium using a nested fixed-point argument and provide conditions for equilibrium uniqueness. In equilibrium, firms may choose not to offer some products. I analyze the pricing distortions and provide monotone comparative statics. Moreover, I extend the model to nonlinear pricing, quantity competition, general equilibrium, and demand systems with a nest structure.

I use the aggregative games approach to analyze horizontal mergers in a model of multiproduct-firm price competition with nested CES or nested logit demands. I show that the Herfindahl index (which is regularly used by antitrust authorities to gauge the extent of market power) provides an adequate measure of the welfare distortions introduced by market power, and that the induced change in the naively-computed Herfindahl index is a good approximation for the market power effect of a merger. I also provide conditions under which a merger raises consumer surplus, and conditions under which a myopic, consumer-surplus-based merger approval policy is dynamically optimal. Moreover, I study the aggregate surplus and external effects of a merger.

Further contributions of the project include studying vertical mergers; providing conditions for the quasi-linear integrability of a demand system; showing that when and how the punishment must “fit the crime” to sustain cooperative behavior in repeated extensive-form games; empirically studying the effects of capital adjustment costs for domestic and export sales dynamics; and empirically studying firms’ responses to real exchange rate shocks.

Reported by

UNIVERSITAET MANNHEIM
Germany
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