Industrial Organization is the area of economics that studies the markets as institutions, the state of competition and strategic interaction among firms, the industrial policy and the business decisions firms make within the market framework. The course looks at the markets from three different perspectives: the economic theory, the applied business perspective and the institutional and legal perspective. The focus of the course is split equally between the economic theory and business perspective but there is a significant legal component incorporated in various topics. The course includes economic modeling, game theory, numerous real life examples and several case studies. We explore interesting topics of market organization such as negotiations, antitrust, networks, platforms, electronic markets, intellectual property, business strategies, predation, entry deterrence and many others. The basic objective of the course is to enable the student to understand the structure of markets and the nature of strategic competition. Knowledge in this course will be valuable for the students in acquiring managing and governance skills, enriching their understanding of the institutional framework of business, and improve their analytical ability in negotiations. Prerequisites: The course requires understanding of basic economic modeling, knowledge of intermediate microeconomics (especially production/cost theory), knowledge of basic concepts and methodologies of game theory, intermediate econometrics and basic calculus.
4. Price wars
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來自 National Research University Higher School of Economics 的課程
Industrial Organization: Strategy and Competition in Business
9 個評分
National Research University Higher School of Economics
9 個評分
從本節課中
Dynamic competition
We extend the analysis of competition introducing interactions with time depth. We will use several concepts from the previous lectures but here we have two important qualitative differences. When competition lasts for more than one period, players develop reputations and are given the opportunity to retaliate in case they are cheated upon. Reputation and retaliation may alter the outcome of interaction in comparison to interactions that last only for one period. We will talk about repetitive and dynamic interactions, collusion, renegotiation, price wars, antitrust and detection mechanisms.
與講師見面
Kosmas MarinakisAssistant Professor
ICEF and Faculty of Economics Sciences, HSE
One of the most exciting subjects in Industrial Organization is price wars.
When firms, they do not agree with each other,
but they instead go into war,
they fight with each other because
this is a spectacle for everybody else and especially for the news.
Before we get to price wars,
let me tell you a slightly irrelevant story here.
Sometimes when I drive,
especially when I drive in the US,
I see the blue lights behind me.
Police will stop me.
They will ask me to go in the side of
the street and then the policeman comes to my window and is like,
''This is why I stopped you.
Please give me your license and registration.''
And when they tell me that,
because I've seen a lot of stories in
the news for things that happen in this kind of stops,
I always have my hands on the wheel.
And I talk to the policeman and I always want the policeman to see my hands.
And when they ask me for my license and registration,
I tell him, ''It's on the glove compartment. Right there.''
And the policeman would be,
''Okay, just get them for me.''
And then I go extremely slow to reach to the glove compartment,
and I open it very slow and I take my papers very
slow and I showed him that I have my papers.
And I gave him like that.
I will never go with a policeman in this case,
''Oh, you want my papers? Here they are.
Let me give them to you.''
This is something that you should never do.
Let's see now how this is relevant to price wars.
In some industries, you have different intensity of competition than in others.
Some of them they have a predictable pricing pattern.
They follow a very predictable price pricing system.
Like for example, hotels.
You expect them that if they are in the beach,
prices in the winter are going to be very small,
price in the summer are going to go up.
So, they have a predictable pricing cycle,
that everybody knows when they will change prices.
In other markets however,
pricing behavior, and competition is very aggressive.
Meaning that firms sometimes they keep the prices constant,
but in some cases, price war starts.
Like they start decreasing the prices again
and again and again and no one can understand the reason why they do it.
In markets where competition is traditionally intensive,
executives of those companies,
they're particularly careful to not give the wrong signal to competitors.
This means that the price increase will will never be misunderstood.
If you increase your price,
people are like, ''This company increase the price.
What should we do? Should we follow?
Should we also increase ours,
or just stay here and undercut them,
or maybe increase the little less than them?
But this is not going to be taken as an aggressive signal.
If however you have reasons not to cheat,
but to decrease your price for some reason.
Let's say for example your cost went down,
or demand went down.
So, you do have to address this issue economically with addressing the price.
So, you have to decrease the price.
This may be taken,
may be interpreted from the competition as an intention to harm others,
as an intention to undercut,
as an intention to cheat an agreement
that you have to them for keeping prices at the specific level.
So, this complicates the situation.
Once an agreement is established,
firms are very careful,
actually reluctant to cut prices.
Even this is economically necessary,
even if by the new conditions the price of these agreed is wrong,
they lose money from this price.
They will be very careful.
They will be very careful to not decrease price and to not give any wrong signal.
They will be asked careful,
as I am with the policeman in a traffic stop.
You try to not give the wrong signal and some of the times,
you try so hard because the stakes are very big.
So, precautionary behavior makes the prices to be downward rigid.
Meaning that the prices are easy to go up,
but they are harder to go down.
Going down gives a signal that,
''Yes, I'm ready. Bring it on.
Let's fight.'' Getting the price up,
it means that maybe the condition changed.
Maybe I'm inviting you to increase price also,
but it doesn't mean let's fight.
So, it makes pricing downward rigid.
Let's examine some theories of price wars.
And I have to come clean here.
Price wars sound very exciting but they don't happen visually.
You very rarely see firms,
to go into something that is an actual price war.
And you will see that from the models.
We have three models.
Three theories that they attempt to explain price wars,
and these are the models that they're widely used even today.
The first is the Green & Porter model.
Was developed in 1984,
and it simply says that the firm has sometimes a non-profitable period,
and they cannot understand why this happen.
They can not distinguish if this happened due to a negative shock in the market,
like negative demand for example,
or because someone undercut them.
So, you have a small car dealership,
and your sales are down,
you don't know why this happen.
Maybe the other dealership in the same brand of cars,
same car maker in the nearby city.
They are giving better prices and you and you don't know that because prices
in the car dealerships they are given not publicly,
but in a little paper that you can see how much the dealer offers you to buy the car.
And you do not know about that.
So, someone maybe undercut you,
or maybe the economy is bad,
and you just cannot sell the cars at
the same price and that's why everybody's facing the same shock.
So, they can not distinguish why this situation happens.
So, Green & Porter say that the negative demand shock,
can trigger something that looks like a price war.
Firms fight for a few periods.
No one understands if there was actually intention for cheating.
No one understand if there was outside reason for doing that.
At some point, the shop will be terminated or the cheating will stop
and then firms will revert to their original collusion situation.
So, according to this theory price wars are
accidents that they may occur during recessions.
Surprise wars happen during recessions,
they go together with the cycle,
meaning that the prices are falling as the GDP and the economy is falling.
Now, another model that is
different came two years later and this is the Rotemberg and Saloner model in 1986
that says that tendency for cheating is more
intense during a good state of the economy, during a boom.
So, firms may need to moderate
the collusive price not go for the full monopoly price but lower it.
Because this will ensure the stability of collusion.
This will make the incentive for cheating to go away.
So, prices, in this case,
move the opposite way from the cycle of economy,
counter-cyclically as we say.
And in reality, here in this model there is no actual war.
So, what happens is that firms have an agreement to keep prices
down in order to minimize the incentive to a potential cheater to cheat.
Because if you have prices very high,
then it's easy to undercut,
if you lower prices a little less,
then it's a little harder to undercut.
So, this is the essence behind the Rotemberg and Saloner model.
And finally, three years after the Rotemberg-Saloner,
Slade game, there is another case that we observe, price wars.
By cutting the prices,
firms actually signal their rivals about the cost of demand conditions.
Okay, cost and demand conditions.
So, they they signal private information that they have.
Before I continue let me make something particularly clear for everybody.
Collusion is illegal and it is illegal and also risky.
If you get caught, you might not only face problems with your company you
might face personal problems because in
some countries collusion is a felony and you can go to jail for that,
you can personally be incarcerated for that.
All right, so it's a very big risk communicating directly to others,
because direct communications can be verified.
Instead you might go for something that is called
the intense collusion and intense collusion,
you don't really communicate with each other,
maybe you will wink a little bit to them,
something that is a signal that I'm up to it,
just follow me, follow my lead or something like that.
But you will never go and directly be like,
hey, what if we collude and what if we fix the prices.
Okay, you never say that because if you say
that you're very seriously looking for trouble.
So, what do firms do?
They send signals to each other.
They send signals that they cannot be interpreted from everybody.
So, once they do that, they use a slow price cut.
We will see some nice method in the next segments.
But they give the signal that, hey,
we had an agreement but there are new conditions in the market.
There is either lower cost or there's different demand situation.
So, let's adopt the prices.
So, a phase of price adjustment from every firm begins.
Usually, there might be a leading firm that gives
a signal and then the other firms follow the lead of this firm.
And ultimately, collusion is re-established at a different level of pricing.
So, according to this method,
prices decreased together with the cycle of the economy.
But again, there's no actual price war.
So, in all three models,
we have situations that they resemble price wars.
They look as price wars from the outside,
but in reality, they are not price wars.
Because a price war would be against economic interests.
Okay, you go to war with someone that primarily,
you have reasons to hate this person.
In business we do not have that,
in very rare occasions we have one CEO that
just hates the other CEO of the other company and they try to fight.
Most of the times, we have people that they care to
maximize their end of the year report to the stakeholders.
To go to stakeholders and say, hey,
I did this much profit, give me a rise.
This is what CEOs care for,
they do not care to get out of the market this other guy that they hate.
So, that's why we do not really observe to have price wars.
So, which theory do you want?
Which is the best theory in this case?
Which is the one that resembles the reality?
We have evidence for every theory.
Every market follows a different trend.
So, you have to look closely into the market like, for example,
Green & Porter has very strong evidence in the U.S. railroad cartel.
There is a paper by Green & Porter that they have
proven what kind of collusion existed in this case.
Rotemberg and Saloner, they found very strong support into the U.S. cement industry.
They've empirical papers that they certify that.
Recently, there is support from Slade from gasoline retail in Canada.
Gasoline retail stations in Canada,
they follow the model of Slade of how they adopt into new collusive prices.
So, these are three different models that they can find applications in
reality and they do not try to explain the same thing in different words.
They try to explain different aspects of how,
what we call price wars happens in the economy.
So, let's stop this segment here and then when we come back,
we will come back with incentive for collusion.
How collusion happens and what are the complications and
the difficulties of establishing collisions and what are the steps.
So, in case you want to collude or to fight collusion,
you will know everything that you need to know. See you soon.
