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Forward induction and the excess capacity puzzle: An experimental investigation

  • Jordi Brandts
  • Antonio Cabrales
  • Gary Charness

While the theoretical industrial organization literature has long argued that excess capacity can be used to deter entry into markets, there is little empirical evidence that incumbent firms effectively behave in this way. Bagwell and Ramey (1996) propose a game with a specific sequence of moves and partially-recoverable capacity costs in which forward induction provides a theoretical rationalization for firm behavior in the field. We conduct an experiment with a game inspired by their work. In our data the incumbent tends to keep the market, in contrast to what the forward induction argument of Bagwell and Ramey would suggest. The results indicate that players perceive that the first mover has an advantage without having to pre-commit capacity. In our game, evolution and learning do not drive out this perception. We back these claims with data analysis, a theoretical framework for dynamics, and simulation results.

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Paper provided by UCLA Department of Economics in its series Levine's Bibliography with number 666156000000000253.

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Date of creation: 03 Oct 2003
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Handle: RePEc:cla:levrem:666156000000000253
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  19. Fudenberg, Drew & Levine, David, 1998. "Learning in games," European Economic Review, Elsevier, vol. 42(3-5), pages 631-639, May.
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