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Vertical Integration and Sabotage in Regulated Industries

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  • Alvaro Bustos
  • Alexander Galetovic

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Abstract

An essential facility produces “access,” an essential input used by a competitive downstream industry. The access charge is regulated. The essential facility can vertically integrate into the downstream segment and sabotage rivals increasing their costs. We systematically study the vertical integration decision and the optimal level of sabotage. Contrary to most of the literature, we allow for free entry into the downstream segment, so that prices equal long-run average costs. We find the following: First, sabotage does not pay when diseconomies of scope are large, or the subsidiary’s market share is small. Second, when sabotage pays, and the subsidiary coexists with rivals in equilibrium, optimal sabotage increases with the subsidiary’s market share and scope economies. On the other hand, when the essential facility optimally sabotages to exclude rivals, the intensity of sabotage falls with economies of scope. Third, unless the subsidiary is implausibly more efficient than independent firms, vertical integration never benefits consumers.

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Bibliographic Info

Paper provided by Centro de Economía Aplicada, Universidad de Chile in its series Documentos de Trabajo with number 164.

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Date of creation: 2003
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Handle: RePEc:edj:ceauch:164

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Cited by:
  1. Alexandra Lai & Nikil Chande & Sean O'Connor, 2006. "Credit in a Tiered Payments System," Working Papers 06-36, Bank of Canada.
  2. Karp, Larry & Perloff, Jeffrey, 2011. "The iPhone Goes Downstream: Mandatory Universal Distribution∗," Department of Agricultural & Resource Economics, UC Berkeley, Working Paper Series qt7vc007jh, Department of Agricultural & Resource Economics, UC Berkeley.
  3. David Mandy & David Sappington, 2007. "Incentives for sabotage in vertically related industries," Journal of Regulatory Economics, Springer, vol. 31(3), pages 235-260, June.
  4. David Sappington, 2005. "Regulating Service Quality: A Survey," Journal of Regulatory Economics, Springer, vol. 27(2), pages 123-154, November.
  5. Mattos, César, 2009. "Open access policies, regulated charges and non-price discrimination in telecommunications," Information Economics and Policy, Elsevier, vol. 21(4), pages 253-260, November.
  6. Hervas-Drane, Andres, 2011. "Non-cost-raising discrimination: A rationale for functional separation in broadband open access," IESE Research Papers D/942, IESE Business School.
  7. Alexander Galetovic, 2003. "Integración Vertical en el Sector Eléctrico: Una guía para el usuario (Vertical integration in the electricity sector)," Documentos de Trabajo 158, Centro de Economía Aplicada, Universidad de Chile.
  8. Bruce Owen, 2011. "Antitrust and Vertical Integration in “New Economy” Industries with Application to Broadband Access," Review of Industrial Organization, Springer, vol. 38(4), pages 363-386, June.
  9. Debashis Pal & David Sappington & Ying Tang, 2012. "Sabotaging cost containment," Journal of Regulatory Economics, Springer, vol. 41(3), pages 293-314, June.
  10. David Sappington & Dennis Weisman, 2005. "Self-Sabotage," Journal of Regulatory Economics, Springer, vol. 27(2), pages 155-175, November.
  11. Toshihiro Matsumura & Noriaki Matsushima, 2012. "Regulated Input Price, Vertical Separation, and Leadership in Free Entry Markets," ISER Discussion Paper 0853, Institute of Social and Economic Research, Osaka University.

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