| Abstract: | A model of service duopoly is formulated, where the arrival of customers and their service time in the firm are stochastic. The firms first choose the service capacity, and given the capacity they then choose the price in a Bertrand competition. Capacity choices have a negative externality on the competitor, since increased capacity in one firm decreases its expected full price (price plus cost of waiting) and leads to a flow of customers from the other firm. If the firms choose capacities strategically, it is optimal to underinvest compared to the non‐strategic case, but this result may arise in different ways. By underinvesting the firms commit themselves to longer queues (lower quality) to relax price competition. Copyright © 2002 John Wiley & Sons, Ltd. |
