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Efficient Exclusion

Author

Listed:
  • Moen, Espen R
  • Riis, Christian

Abstract

In an important paper, Aghion and Bolton (1987) argue that a buyer and a seller may agree on high liquidation damages in order to extract rents from future suppliers. As this may distort future trade, it may be socially wasteful. We argue that Aghion and Bolton's analysis is incomplete in some respects, as they do not model the entry of new suppliers. We construct a model where entry is costly, so that entering suppliers have to earn a quasi-rent in order to recoup the entry cost. Reducing an entrant's profits by the help of a breach penalty then reduces the probability of entry in the first place, thus making a breach penalty less attractive for the contracting parties. We show that the initial buyer and seller only have incentives to include a breach penalty if there is excessive entry without it. Forcing the initial buyer and seller to eliminate the breach penalty reduces welfare.

Suggested Citation

  • Moen, Espen R & Riis, Christian, 2005. "Efficient Exclusion," CEPR Discussion Papers 5257, C.E.P.R. Discussion Papers.
  • Handle: RePEc:cpr:ceprdp:5257
    as

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    References listed on IDEAS

    as
    1. B. Douglas Bernheim & Michael D. Whinston, 1998. "Exclusive Dealing," Journal of Political Economy, University of Chicago Press, vol. 106(1), pages 64-103, February.
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    More about this item

    Keywords

    breach penalties; efficiency; entry; exclusive contracts;
    All these keywords.

    JEL classification:

    • L42 - Industrial Organization - - Antitrust Issues and Policies - - - Vertical Restraints; Resale Price Maintenance; Quantity Discounts

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