OT2012 3 Examples of Vertical Relationship (1) Manufacturer Seller (2) Input Supplier Final Product Supplier (3) Wholesaler Retailer (4) Patent Holder Producer (5) MNO MVNO (6) Airport Airline Company
OT2012 4 Double Marginalization Suppose that both upstream and downstream firms are monopolists. Suppose that upstream firm adopts marginal cost pricing. Downstream firm set monopoly price which maximizing resulting joint profits of two firms. However, profit-maximizing upstream firm set the price higher than the marginal cost. Resulting final product price is higher than the joint- profit-maximizing one.
OT2012 5 How to solve double marginalization problem (1) Vertical Integration (2) Vertical Control (3) Two-Part Tariff Fixed payment + Unit Payment ~ Price Discrimination
OT2012 7 competition between downstream firms Suppose that the upstream firm set the unit part is equal to the marginal cost. The resulting price is lower than the joint-profit maximizing monopoly price. (if downstream firms are symmetric), the upstream firm sets a higher unit price so as to induce the monopoly price.
OT2012 9 Exclusive Territories Firm 1 is not allowed to sell its product for market 2, and firm 2 is not allowed to sell its product for market 1. Restricting downstream competition Reducing supply cost (transport cost) yields lower price and thus increases CS. Matsumura (2003)
OT2012 16 The Model (1)In the first stage, the governments choose whether or not to privatize the airports independently. (2)In the second stage, airports set airport charges, w1 and w2, independently. (3)In the third stage, downstream firms choose prices independently. The cost for each downstream firm is w1+w2. Airport i and airline i belong to the same country, while airport i and airport j belong to the different countries.
OT2012 17 Important property in the second stage Airport charge competitionstrategic substitutes. Lower airport charge of airport 1 increases the demand and so increases the best response of airport 2.
OT2012 18 Important property in the first stage Privatized airport sets a higher airport charge and yields a lower airport charge of the rival. The lower airport charge of the rival is beneficial for both consumers and airline. the government has an incentive for privatization of its airport. The privatization of the rival airport increases the incentive for privatization. ~smaller market, smaller incentive for decreasing the final product price. Strategic complementarity in privatization stage.
OT2012 19 Important property in the first stage Larger country (with larger market) has a stronger incentive for privatization because the public airport in the larger market country sets a lower airport charge when both airports are public, resulting a welfare loss (the larger surplus is obtained by the foreign airline).