Endogenous vertical segmentation in a Cournot oligopoly
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Endogenous vertical segmentation in a Cournot oligopoly Paul Belleflamme1,2
•
Valeria Forlin3
Received: 5 September 2019 / Accepted: 7 June 2020 Ó Springer-Verlag GmbH Austria, part of Springer Nature 2020
Abstract An arbitrary number of (ex ante symmetric) firms first choose whether to produce a high-quality or a low-quality product and then, the quantity of product to put on the market. We establish the following results: (1) there exists competition within and across quality segments; (2) firms may be better off producing the low quality if competition within this segment is sufficiently low; (3) a firm’s switch across qualities may benefit all the other firms; (4) there exists a unique partition of the firms between the two quality segments; (5) if high quality has a larger cost-quality ratio, then the equilibrium exhibits vertical differentiation; (6) there may be too much differentiation from the consumers’ point of view. Keywords Quality Differentiation Oligopolistic competition
JEL Classification D43 L13 L25
1 Introduction Many oligopolistic markets share the following features: consumers can choose between two qualities of products or services (high or low), each quality is produced by a separate set of competing firms, and quality levels are mostly exogenous to the firms. These assumptions square well with situations where producing the high quality requires being granted some label or certification, which is incompatible & Paul Belleflamme [email protected] Valeria Forlin [email protected] 1
LIDAM/CORE, Universite´ Catholique de Louvain, Voie du Roman Pays 34, 1348 Louvain-la-Neuve, Belgium
2
CESifo, Munich, Germany
3
DG CLIMA, European Commission, Avenue de Beaulieu 24, 1160 Brussels, Belgium
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P. Belleflamme, V. Forlin
with continuing to produce the low quality.1 As for the low quality, it corresponds to some minimum quality standard, above which firms cannot credibly commit (unless they obtain the label or certification).2 In these markets, it is important to understand how firms decide which quality to produce. Clearly, firms will base their decision on the relative profitability of producing one or the other quality. Yet, it is not clear how to determine this relative profitability, as it depends on both exogenous and endogenous factors. The exogenous factors are the consumers’ willingness to pay for quality upgrades and the respective costs of producing the two qualities; the endogenous factors are the decisions of all firms, as they will jointly determine the level of competition that will prevail on each quality segment. By analysing the interplay between these factors, this note provides new insights on the equilibrium size of the two sets of firms that will emerge when two levels of quality are available; this framework can be useful to explain the segmentation of industries when a new quality certification is introduced. To address these questions, we analyse a two-stage model of product competition: firms
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