Vertical integration and product differentiation |
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| Institution: | 1. University of Leicester School of Business, Economics, University Road, Leicester, LE1 7RH, UK;2. Nottingham University Business School, Jubilee Campus, Nottingham, NG8 1BB, UK;3. CESifo and INFER, Germany;4. GRU, City University of Hong Kong, Hong Kong;1. Department of Economics, Vienna University of Economics and Business, Welthandelsplatz 1, 1020 Vienna, Austria;2. Research Institute for Regulatory Economics, Vienna University of Economics and Business, Welthandelsplatz 1, 1020 Vienna, Austria;3. WIK-Consult GmbH, Rhöndorfer Str. 68, 53604 Bad Honnef, Germany;1. Shanghai University of Finance and Economics, School of Economics, Guoding Road 777, Shanghai 200433, China;2. Korea University, Department of Economics, Sungbuk-gu Anam-ro 145, Seoul 136-701, Republic of Korea;3. Institute of Economic Theory I, Humboldt University at Berlin, Spandauer Str. 1, 10178 Berlin, Germany;1. Singapore University of Technology and Design, Singapore;2. Massachusetts Institute of Technology, United States |
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| Abstract: | We study a new channel of downstream rent extraction through vertical integration: competition for integration. Innovative downstream firms create value and profit opportunities through product differentiation, which however affects an upstream monopolist’s incentive to vertically integrate. By playing the downstream firms against each other for integration, the upstream firm can extract even more than the additional profits generated by the downstream firms’ differentiation activities. To preempt rent extraction, the downstream firms may then reduce differentiation, which reduces social welfare. We show that this social cost of vertical integration is more likely to arise in innovative and competitive industries, and that the competition for integration channel of downstream rent extraction is robust to upstream competition. |
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