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Loss Leading as an Exploitative Practice

Author

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  • Zhijun Chen

    (Department of Economics, Ecole Polytechnique - X - École polytechnique - CNRS - Centre National de la Recherche Scientifique, Department of Computer Science [Auckland] - University of Auckland [Auckland])

  • Patrick Rey

    (TSE - Toulouse School of Economics - Toulouse School of Economics)

Abstract

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.

Suggested Citation

  • Zhijun Chen & Patrick Rey, 2010. "Loss Leading as an Exploitative Practice," Working Papers hal-00540724, HAL.
  • Handle: RePEc:hal:wpaper:hal-00540724
    Note: View the original document on HAL open archive server: https://hal.archives-ouvertes.fr/hal-00540724
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    References listed on IDEAS

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    More about this item

    Keywords

    loss leading; exploitative practice; retail power;

    JEL classification:

    • L11 - Industrial Organization - - Market Structure, Firm Strategy, and Market Performance - - - Production, Pricing, and Market Structure; Size Distribution of Firms
    • L13 - Industrial Organization - - Market Structure, Firm Strategy, and Market Performance - - - Oligopoly and Other Imperfect Markets
    • L81 - Industrial Organization - - Industry Studies: Services - - - Retail and Wholesale Trade; e-Commerce

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