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Loss Leading as an Exploitative Practice

  • Zhijun Chen

    (Department of Economics, Ecole Polytechnique - CNRS : UMR7176 - Polytechnique - X, Department of Computer Science [Auckland] - The University of Auckland)

  • Patrick Rey

    (Toulouse School of Economics - Toulouse School of Economics)

Large retailers, enjoying substantial market power in some local markets, often compete with smaller retailers who carry a narrower range of products in a more efficient way. We find that these large retailers can exercise their market power by adopting a loss-leading pricing strategy, which consists of pricing below cost some of the products also offered by smaller rivals, and raising the prices on the other products. In this way, the large retailers can better discriminate multi-stop shoppers from one-stop shoppers — and may even earn more profit than in the absence of the more efficient rivals. Loss leading thus appears as an exploitative device, designed to extract additional surplus from multi-stop shoppers, rather than as an exclusionary instrument to foreclose the market, although the small rivals are hurt as a by-product of exploitation. We show further that banning below-cost pricing increases consumer surplus, small rivals' profits, and social welfare. Our insights apply generally to industries where a firm, enjoying substantial market power in one segment, competes with more efficient rivals in other segments, and procuring these products from the same supplier generates customer-specific benefits. They also apply to complementary products, such as platforms and applications. There as well, our analysis provides a rationale for below-cost pricing based on exploitation rather than exclusion.

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Paper provided by HAL in its series Working Papers with number hal-00540724.

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Date of creation: 29 Nov 2010
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Handle: RePEc:hal:wpaper:hal-00540724
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  1. Inderst, Roman & Wey, Christian, 2007. "Buyer power and supplier incentives," European Economic Review, Elsevier, vol. 51(3), pages 647-667, April.
  2. Mark Armstrong & John Vickers, 2010. "Competitive Non-linear Pricing and Bundling," Review of Economic Studies, Oxford University Press, vol. 77(1), pages 30-60.
  3. Roman Inderst & Tommaso M. Valletti, 2008. "Buyer Power and the “Waterbed Effect”," CEIS Research Paper 107, Tor Vergata University, CEIS, revised 10 Jul 2008.
  4. Claire Chambolle, 2000. "Stratégies de revente à perte et réglementation," Working Papers 2000-52, Centre de Recherche en Economie et Statistique.
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  8. Patrick REY & Thibaud VERGE, 2009. "Resale Price Maintenance and Interlocking Relationships," Working Papers 2009-11, Centre de Recherche en Economie et Statistique.
  9. Skidmore, Mark & Peltier, James & Alm, James, 2005. "Do state motor fuel sales-below-cost laws lower prices?," Journal of Urban Economics, Elsevier, vol. 57(1), pages 189-211, January.
  10. Weinstein, Jonathan & Ambrus, Attila, 2008. "Price dispersion and loss leaders," Theoretical Economics, Econometric Society, vol. 3(4), December.
  11. T. Randolph Beard & Michael L. Stern, 2008. "CONTINUOUS CROSS SUBSIDIES AND QUANTITY RESTRICTIONS -super-* ," Journal of Industrial Economics, Wiley Blackwell, vol. 56(4), pages 840-861, December.
  12. Walsh, Patrick Paul & Whelan, Ciara, 1999. "Loss leading and price intervention in multiproduct retailing: welfare outcomes in a second-best world1," International Review of Law and Economics, Elsevier, vol. 19(3), pages 333-347, September.
  13. Bliss, Christopher, 1988. "A Theory of Retail Pricing," Journal of Industrial Economics, Wiley Blackwell, vol. 36(4), pages 375-91, June.
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