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Persistent markups in bidding markets with financial constraints

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  • Pablo F. Beker

    ()

  • Ángel Hernando-Veciana

    ()

Abstract

This paper studies the impact of financial constraints on the persistency of high markups in a class of markets, including most of public procurement, known by practitioners as bidding markets. We develop an infinite horizon model in which two firms optimally reinvest working capital and bid for a procurement contract each period. Working capital is constrained by the firm’s cash from previous period and some exogenous cash flow, it is costly and it increases the set of acceptable bids. The latter is because the risk of non-compliance means that only bids that have secured financing are acceptable and less profitable bids have access to less external financing. We say that the firm is (severely) financially constrained if its working capital is such that only bids (substantially) above production cost are acceptable. We show that markups are positive (high) if and only if one firm is (severely) financially constrained. Our main result is that markups are persistently high because one firm is severely financially constrained most of the time

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Bibliographic Info

Paper provided by Universidad Carlos III, Departamento de Economía in its series Economics Working Papers with number we1133.

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Date of creation: Oct 2011
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Handle: RePEc:cte:werepe:we1133

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Keywords: Bidding markets; Financial constraints; Markups;

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References

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  1. Susan Athey & Kyle Bagwell & Chris Sanchirico, 1998. "Collusion and Price Rigidity," Working papers 98-23, Massachusetts Institute of Technology (MIT), Department of Economics.
  2. Athey, Susan & Schmutzler, Armin, 2001. "Investment and Market Dominance," RAND Journal of Economics, The RAND Corporation, vol. 32(1), pages 1-26, Spring.
  3. Susan Athey & Kyle Bagwell, 1999. "Optimal Collusion with Private Information," Working papers 99-17, Massachusetts Institute of Technology (MIT), Department of Economics.
  4. Han Hong & Matthew Shum, 2002. "Increasing Competition and the Winner's Curse: Evidence from Procurement," Review of Economic Studies, Oxford University Press, vol. 69(4), pages 871-898.
  5. Todd Kaplan, 2001. "All-Pay Auctions with Variable Rewards," Discussion Papers 0109, Exeter University, Department of Economics.
  6. Mireia Jofre-Bonet & Martin Pesendorfer, 2001. "Estimation of a Dynamic Auction Game," NBER Working Papers 8626, National Bureau of Economic Research, Inc.
  7. Aleix Calveras & Juan J. Ganuza & Esther Hauk, 2001. "Wild bids. Gambling for resurrection in procurement contracts," Economics Working Papers 553, Department of Economics and Business, Universitat Pompeu Fabra, revised Apr 2001.
  8. Baye, M. & Kovenock, D. & Vries, C. de, 1990. "The All-Pay Auction with Complete Information," Discussion Paper 1990-51, Tilburg University, Center for Economic Research.
  9. Luís Cabral, 2007. "Dynamic Price Competition with Network Effects," Working Papers 22, Portuguese Competition Authority.
  10. McAfee, R. Preston & McMillan, John., 1990. "Bidding Rings," Working Papers 726, California Institute of Technology, Division of the Humanities and Social Sciences.
  11. Pitchik, Carolyn & Schotter, Andrew, 1986. "Budget Constrained Sequential Auctions," Working Papers 86-21, C.V. Starr Center for Applied Economics, New York University.
  12. Han Hong, 2000. "Increasing Competition and the Winner's Curse: Evidence from Procurement," Econometric Society World Congress 2000 Contributed Papers 1628, Econometric Society.
  13. Andrzej Skrzypacz & Peter M. DeMarzo & Ilan Kremer, 2004. "Bidding with Securities: Auctions and Security Design," Econometric Society 2004 North American Winter Meetings 641, Econometric Society.
  14. Robert H. Porter & J. Douglas Zona, 1992. "Detection of Bid Rigging in Procurement Auctions," NBER Working Papers 4013, National Bureau of Economic Research, Inc.
  15. Aoyagi, Masaki, 2003. "Bid rotation and collusion in repeated auctions," Journal of Economic Theory, Elsevier, vol. 112(1), pages 79-105, September.
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Cited by:
  1. Beker, Pablo & Hernando-Veciana, Angel, 2013. "Bidding Markets with Financial Constraints," The Warwick Economics Research Paper Series (TWERPS) 1017, University of Warwick, Department of Economics.

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