Countervailing power and input pricing: When is a waterbed effect likely?
A downstream firm with countervailing power can extract a reduced price from an input supplier. A waterbed effect occurs if this price reduction leads the input supplier to raise the price that it charges another downstream firm. Policy makers have been concerned that this waterbed effect could undermine downstream competition, and it was considered in detail in the 2008 UK grocery inquiry. This paper presents a simple but parsimonious model to investigate if and when a waterbed effect may arise. It shows that the effect may arise through optimal pricing behaviour, but that this critically depends on the nature of upstream technology, downstream competition and consumer demand. In particular, downstream competition tends to work against a waterbed effect, but convex upstream costs support the effect. The analysis is complementary to recent academic work on the waterbed effect that focuses on bargaining constraints.
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- Roman Inderst & Christian Wey, 2003.
"Buyer Power and Supplier Incentives,"
CIG Working Papers
SP II 2003-05, Wissenschaftszentrum Berlin (WZB), Research Unit: Competition and Innovation (CIG).
- Roman Inderst & Christian Wey, 2001.
"Bargaining, Mergers, and Technology Choice in Bilaterally Oligopolistic Industries,"
CIG Working Papers
FS IV 01-19, Wissenschaftszentrum Berlin (WZB), Research Unit: Competition and Innovation (CIG).
- Inderst, Roman & Wey, Christian, 2003. " Bargaining, Mergers, and Technology Choice in Bilaterally Oligopolistic Industries," RAND Journal of Economics, The RAND Corporation, vol. 34(1), pages 1-19, Spring.
- Inderst, Roman & Wey, Christian, 2001. "Bargaining, Mergers and Technology Choice in Bilaterally Oligopolistic Industries," CEPR Discussion Papers 2981, C.E.P.R. Discussion Papers.
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