Location and Entry Deterrence

Question 1

What were the barriers to entry the Office of Fair Trading found in the Supermarket industry in 2006?

Answer 1

• shortage of land around town centres
• complex and time consuming to obtain planning permission
• large supermarkets acted strategically when purchasing undeveloped land (sometimes the big firms were just buying this land to keep competitors out, not to actually build supermarkets)

Question 2

What is a market study?

Answer 2

A short, sharp look into a market to work out if there are any competition concerns going on. These can last about 6 months.

Question 3

What is a market investigation?

Answer 3

If there is competition concerns going on, the market authorities can pour more resources in and come up with remedies to fix the problem. These can last 2 years.

Question 4

What did the competition commission report in 2008?

Answer 4

There were 2 of 4 major recommendations:

• prevent land agreements that restrict entry by competitors
• the inclusion of a ‘competition test’ in planning decisions

The test was for a firm which already owns a store in a local market:

-the firm can only open a new store if:

–when there are 3>= firms in the town, when its market share <60%

–when there are 4 or more firms in the town

Question 5

Federal Trade Commission complaint for Ready-to-Eat cereal market (1972)

Answer 5

Firms included: Kellogg’s (45%), Gen Mills (21%), Gen Foods (16%), Quaker Oats (9%)

1950-1972: biggest firms had introduced 80 new brands, none from entrants

• “These practices of proliferating brands, differentiating similar products and promoting trademarks… result in high barriers to entry”
• Proposed structural remedy; create 5 new firms from divestments of big 3
• The case was dismissed in 1982 due to no conspiracy to deter entry through brand proliferation since it can occur naturally from competition

Question 6

Hotelling Model

Answer 6

• Assume a beach of length 1
• Number of sunbathers, M = 1
• Each sunbather demands at most 1 ice cream from sellers

Question 7

What is the utility of a consumer in the Hotelling Model?

Answer 7

• The utility of a consumer located at 0(theta) who purchases from firm i (located at 0_i) is U(0,0_i) = V - T(D_i) - p_i
• -where V is the benefit from consuming the ice cream, T(D_i) is the cost of travelling distance D_i (0-0_i), p_i is the price of the ice cream

Question 8

How do we draw a diminishing utility graph for customers as they get further from 0 or 1?

Answer 8

Question 9

Fixed Simultaneous Entry assumptions

Answer 9

1. 2 firms, A&B, setting p>=0
2. Prices are exogenous (firms don’t control them) & at a level consumers will purchase ( V-k>=p)
3. Marginal costs c

Question 10

What are firm i’s profits in fixed simultaneous entry?

Answer 10

profit = (p-c)q = q

because p-c=1

Question 11

What is firm i’s demand if it is the furthest firm to the left?

Answer 11

(θ_i+θ_j)/2

Question 12

What is firm i’s demand if it is the furthest to the right?

Answer 12

1 - (0_i+0_j)/2

Question 13

What is the marginal consumer?

Answer 13

The marginal consumer is the consumer who is indifferent between firms i and j based on their location

This implies they are located at (θ_A+θ_B)/2

Question 14

When will the marginal consumer visit firm A?

Answer 14

When they are offered greater utility from firm A

i.e. V-T(D_A)-p>V-T(D_B)-p

or T(D_B)>T(D_A)

Question 15

Random graphs I’ll figure out later

Answer 15

Question 16

another one

Answer 16

Question 17

another one

Answer 17

Question 18

What is the principle of minimum differentiation?

Answer 18

Firms tend to locate close to each other

Question 19

What is the socially optimal location for a market with two firms?

Answer 19

θ_i = 0.25 or θ_j = 0.75

Question 20

Why is this socially optimal?

Answer 20

This is because moving the firm from 0.5 to 0.25 reduces the total travel cost

Consumers located at 0.25 don’t need to travel, consumers at 0 only need to travel 0.25 instead of 0.5

Question 21

Issues with Harold Hotelling’s Model

Answer 21

• Ice cream sellers aren’t located in the same place, they are dotted around everywhere
• This is because prices aren’t exogenous; firms do control their price
• While ice cream vans may be able to move around, other firms generally are stuck where they locate themselves

Question 22

Assumptions of Endogenous Sequential Entry

Answer 22

1. Any number of firms can enter the market at fixed cost f>0
2. Prices still exogenous where p-c=1
3. All consumers will purchase V-k>=p

Question 23

What is the timing on sequential entry?

Answer 23

Question 24

When will a firm N+1 enter the market?

Answer 24

profit > f

Question 25

What is the difference between a peripheral and interior firm?

Answer 25

Peripheral firms locate closest to 0 and 1, interior firms are firms located between the peripherals

Question 26

How do we draw a graph where firm N+1 enters the market as an interior firm?

Answer 26

Question 27

What is the third firm’s demand if it enters as an interior firm?

Answer 27

θ₂-θ₁/2

Question 28

What is the necessary condition for free-entry Nash equilibrium in locations?

Answer 28

Question 29

How is a firm trying to enter as a peripheral blocked out of the market?

Answer 29

Question 30

How is a firm trying to enter the interior deterred?

Answer 30

Question 31

What is firm i’s maximum demand without inviting entry?

Answer 31

q_i(θ_i,θ_-i) = 2f

Question 32

What are the symmetric Nash Equilibrium locations?

Answer 32