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Strategic Trade and Delegated Competition

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  • Miller, Nolan

    (Harvard U)

  • Pazgal, Amit

    (Washington U, St Louis)

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    Abstract

    Strategic trade theory has been criticized on the grounds that its predictions are overly sensitive to modeling assumptions. For example, Eaton and Grossman (1986) show that Brander and Spencer's (1985) seminal result – i.e., when firms compete by setting quantities the optimal policy involves governments subsidizing their domestic industries – is reversed if the firms compete by setting prices. Applying recent results in duopoly theory, this paper considers three-stage games in which governments choose subsidies, firms' owners choose incentive schemes for their managers, and then the managers compete in the product market. We show that if firms' owners have sufficient control over their managers' behavior, then the optimal strategic trade policy does not depend on whether firms compete by setting prices or quantities. In a linear-demand model in which managers are compensated based on a linear combination of their own firm's profit plus a (possibly negative) multiple of the rival firm's profit, the optimal policy is to subsidize if goods are substitutes and tax if the goods are complements.

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    File URL: http://ksgnotes1.harvard.edu/Research/wpaper.nsf/rwp/RWP02-042/$File/rwp02_042_miller.pdf
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    Bibliographic Info

    Paper provided by Harvard University, John F. Kennedy School of Government in its series Working Paper Series with number rwp02-042.

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    Date of creation: Oct 2002
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    Handle: RePEc:ecl:harjfk:rwp02-042

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    1. Chaim Fershtman & Kenneth L Judd, 1984. "Equilibrium Incentives in Oligopoly," Discussion Papers 642, Northwestern University, Center for Mathematical Studies in Economics and Management Science.
    2. Steven D. Sklivas, 1987. "The Strategic Choice of Managerial Incentives," RAND Journal of Economics, The RAND Corporation, vol. 18(3), pages 452-458, Autumn.
    3. Orlando I. Balboa & Andrew F. Daughety & Jennifer F. Reinganum, 2004. "Market Structure and the Demand for Free Trade," Journal of Economics & Management Strategy, Wiley Blackwell, vol. 13(1), pages 125-150, 03.
    4. James A. Brander, 1995. "Strategic Trade Policy," NBER Working Papers 5020, National Bureau of Economic Research, Inc.
    5. Miller, Nolan H & Pazgal, Amit I, 2001. "The Equivalence of Price and Quantity Competition with Delegation," RAND Journal of Economics, The RAND Corporation, vol. 32(2), pages 284-301, Summer.
    6. Paul Klemperer & Margaret Meyer, 1986. "Price Competition vs. Quantity Competition: The Role of Uncertainty," RAND Journal of Economics, The RAND Corporation, vol. 17(4), pages 618-638, Winter.
    7. Nirvikar Singh & Xavier Vives, 1984. "Price and Quantity Competition in a Differentiated Duopoly," RAND Journal of Economics, The RAND Corporation, vol. 15(4), pages 546-554, Winter.
    8. Brander, James A. & Spencer, Barbara J., 1985. "Export subsidies and international market share rivalry," Journal of International Economics, Elsevier, vol. 18(1-2), pages 83-100, February.
    9. Krugman, Paul R, 1993. "The Narrow and Broad Arguments for Free Trade," American Economic Review, American Economic Association, vol. 83(2), pages 362-66, May.
    10. Paul Krugman, 1986. "Industrial Organization and International Trade," NBER Working Papers 1957, National Bureau of Economic Research, Inc.
    11. Neary, J. Peter, 1994. "Cost asymmetries in international subsidy games: Should governments help winners or losers?," Journal of International Economics, Elsevier, vol. 37(3-4), pages 197-218, November.
    12. Leonard Cheng, 1985. "Comparing Bertrand and Cournot Equilibria: A Geometric Approach," RAND Journal of Economics, The RAND Corporation, vol. 16(1), pages 146-152, Spring.
    13. Eaton, Jonathan & Grossman, Gene M, 1986. "Optimal Trade and Industrial Policy under Oligopoly," The Quarterly Journal of Economics, MIT Press, vol. 101(2), pages 383-406, May.
    14. Nolan Miller & Amit Pazgal, 2002. "Relative performance as a strategic commitment mechanism," Managerial and Decision Economics, John Wiley & Sons, Ltd., vol. 23(2), pages 51-68.
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