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Multimarket Contact Effect on Collusion through Diversification


Lee, Hwa Ryung (2010). Multimarket Contact Effect on Collusion through Diversification. Working paper series / Institute for Empirical Research in Economics No. 501, University of Zurich.

Abstract

This study establishes the potential positive relationship between multimarket contact (MMC) and sustainable collusive profits under demand fluctuations. In particular, I focus on the correlation structure between demand shocks over multiple markets and show how it can lead to a positive link between collusive profit and MMC. Simple theoretical models show that, regardless of whether demand shocks are observable or not, MMC may improve collusive profits through diversification of demand shocks over overlapping markets. If firms meet in multiple markets and link those markets in the sense that deviation in any market will trigger simultaneous retaliations in every market, then a cheating firm will optimally deviate in every market. Demand fluctuation that a firm is facing in its markets in total will be reduced as the number of markets increases, unless demand shocks are perfectly and positively correlated between the markets. The reduction of demand fluctuations can boost collusion (1) by reducing the temptation to deviate in the period of high demand when demand shocks are observable and (2) by reducing the frequency of costly punishment on the equilibrium path when demand shock is unobservable. The conclusion in the case of observable demand shock provides us with a new testable implication that price competition will be muted by MMC in periods of high demand.

Abstract

This study establishes the potential positive relationship between multimarket contact (MMC) and sustainable collusive profits under demand fluctuations. In particular, I focus on the correlation structure between demand shocks over multiple markets and show how it can lead to a positive link between collusive profit and MMC. Simple theoretical models show that, regardless of whether demand shocks are observable or not, MMC may improve collusive profits through diversification of demand shocks over overlapping markets. If firms meet in multiple markets and link those markets in the sense that deviation in any market will trigger simultaneous retaliations in every market, then a cheating firm will optimally deviate in every market. Demand fluctuation that a firm is facing in its markets in total will be reduced as the number of markets increases, unless demand shocks are perfectly and positively correlated between the markets. The reduction of demand fluctuations can boost collusion (1) by reducing the temptation to deviate in the period of high demand when demand shocks are observable and (2) by reducing the frequency of costly punishment on the equilibrium path when demand shock is unobservable. The conclusion in the case of observable demand shock provides us with a new testable implication that price competition will be muted by MMC in periods of high demand.

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Additional indexing

Item Type:Working Paper
Communities & Collections:03 Faculty of Economics > Department of Economics
Working Paper Series > Institute for Empirical Research in Economics (former)
Dewey Decimal Classification:330 Economics
Language:English
Date:September 2010
Deposited On:29 Nov 2011 15:09
Last Modified:12 Aug 2017 12:41
Series Name:Working paper series / Institute for Empirical Research in Economics
ISSN:1424-0459
Official URL:http://www.econ.uzh.ch/wp.html

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