Capacity constraint and spatial competition in agricultural markets

We adopt a game theoretic framework to model key features of agricultural procurement markets in order to explore the interaction between capacity constraints and spatial competition and the implications for input pricing by processing plants. A key finding is that the Lofgren’s (1986) equivalence between uniform delivery and FOB pricing for profit-maximizing firms extends to a capacity-constrained monopsonist. Our results also show that the relative dominance of alternative pricing strategies and the efficacy of capacity constraints as a collusion mechanism is not impervious to market structure asymmetries. When plants can procure inputs from areas with different market structures, capacity constraints greatly influence the optimal pricing strategy, the total surplus, and the fraction of such surplus appropriated by processing firms. In particular, when operating under binding constraints, firms “escape” competition by procuring more inputs from less competitive areas, while still benefiting from the “collusion-like” benefits of fixed output. Therefore binding constraints and asymmetric market structures reinforce each other to increase the fraction of total surplus appropriated by processing firms.