A Model of International Entry and Exit with Endogenous Sunk Costs in Vertical Markets

  • Partha Gangopadhyay
  • Robert F. Owen


This chapter introduces the Cournot framework with endogenous sunk costs to extend traditional models of vertical markets in international trade. This is done by introducing market access costs as highlighted by Owen and Ulph (Rev Int Econ 1093:539–555, 2002). The authors develop a baseline and benchmark model to examine the strategic role of access costs as endogenous sunk costs by incumbents for forestalling entry. In the model, foreign entry in the downstream and domestic retail market under incomplete information is examined. Incumbent firms are fully informed about the cost of production as well as their chosen market access costs while the foreign (potential) entrant does not possess the full information on costs. The incumbents select a pre-entry price while potential entrant infers the cost conditions from price statistic.


  1. Bagwell, K., & Ramey, G. (1991). Oligopoly limit pricing. RAND Journal of Economics, 22(2), 155–170.CrossRefGoogle Scholar
  2. Bain, J. S. (1956). Barriers to competition. Cambridge: Harvard University Press.CrossRefGoogle Scholar
  3. Bernhofen, D. M. (1996). Vertical integration and international predation. Review of International Economics, 4, 90–98.CrossRefGoogle Scholar
  4. Berry, S., & Waldfogel, J. (2003). Product quality and market size. Journal of Industrial Economics, 51(1), 1–31.CrossRefGoogle Scholar
  5. Berry, S., & Waldfogel, J. (2014). Fixed costs and product market treatment of minorities. NBER working paper, 20488. NBER Inc.Google Scholar
  6. Bilbiie, F. O., Ghironi, F., & Melitz, M. J. (2012). Endogenous entry, product variety, and business cycles. Journal of Political Economy, 120(2), 304–345.CrossRefGoogle Scholar
  7. Bonanno, G. (1987). Location choice, product proliferation and entry deterrence. Review of Economic Studies, 54, 37–45.CrossRefGoogle Scholar
  8. Brander, J. A., & Spencer, B. J. (1985). Export subsidies and international market share rivalry. Journal of International Economics, 18, 83–100.CrossRefGoogle Scholar
  9. Cabral, L., & Ross, T. W. (2008). Are sunk costs a barrier to entry. Journal of Economics and Management Strategy, 17(1), 97–112.CrossRefGoogle Scholar
  10. Carlton, D. W. (2004). Why barriers to entry are barriers to understanding. The American Economic Review, 94(2), 466.CrossRefGoogle Scholar
  11. Chang, W., & Chen, F. Y. (1994). Vertically related markets: Export rivalry between DC and LDC firms. Review of International Economics, 2, 131–142.CrossRefGoogle Scholar
  12. Chang, W., & Kim, J. C. (1991). Strategic tariff policy in a model of trade in intermediate and final products. In A. Takayama, M. Ohyama, & H. Ohta (Eds.), Trade policy, international adjustments (pp. 36–59). New York: Academic Press.CrossRefGoogle Scholar
  13. Dixit, A. K. (1980). The role of investment in entry deterrence. Economic Journal, 90, 95–106.CrossRefGoogle Scholar
  14. Elickson, P. B. (2013). Supermarket as a natural oligopoly. Economic Inquiry, 51(2), 1142–1154.CrossRefGoogle Scholar
  15. Flaherty, M. T. (1980). Dynamic limit pricing, barriers to entry, and rational firms. Journal of Economic Theory, 23, 160–182.CrossRefGoogle Scholar
  16. Friedman, J. W. (1979). On entry preventing behaviour. In S. J. Brams (Ed.), Applied game theory (pp. 236–253). Vienna: Verlag.CrossRefGoogle Scholar
  17. Friedman, J. W. (1983). Limit price entry prevention when information is lacking. Journal of Economic Dynamics and Control, 5, 187–199.CrossRefGoogle Scholar
  18. Fudenberg, D., & Tirole, J. (1983). Capital as a commitment: Strategic investment to deter mobility. Journal of Economic Theory, 31, 227–250.CrossRefGoogle Scholar
  19. Gaskins, D. W. (1971). Dynamic limit pricing: Optimal pricing under threat of entry. Journal of Economic Theory, 3, 306–322.CrossRefGoogle Scholar
  20. Ghironi, F., & Melitz, M. J. (2005). International trade and macroeconomic dynamics with heterogeneous firms. Quarterly Journal of Economics, 120(3), 864–915.Google Scholar
  21. Gilbert, R., & Vives, X. (1986). Entry deterrence and free rider problem. Review of Economic Studies, 53, 71–83.CrossRefGoogle Scholar
  22. Harrington, J. E. (1986). Limit pricing when the potential entrant is uncertain about its cost functions. Econometrica, 54, 429–437.CrossRefGoogle Scholar
  23. Harrington, J. E. (1987). Oligopolistic entry deterrence under incomplete information. RAND Journal of Economics, 18, 211–229.CrossRefGoogle Scholar
  24. Hopenhayn, H. A. (1992). Entry, exit and firm dynamics long-run equilibrium. Econometrica, 60, 1127–1150.CrossRefGoogle Scholar
  25. Ishikawa, J., & Lee, K.-D. (1997). Backfiring tariffs in vertically related markets. Journal of International Economics, 42, 395–423.CrossRefGoogle Scholar
  26. Jones, R. W. (1996). Vertical markets in international trade. Working paper no. 432, Rochester Center for Economic Research.Google Scholar
  27. Kamien, M. I., & Schwartz, N. L. (1971). Limit pricing and uncertain entry. Econometrica, 39, 441–454.CrossRefGoogle Scholar
  28. Kamien, M., & Schwarz, N. L. (1975). Self-financing of an R&D project. American Economic Review, 68(3), 252–261.Google Scholar
  29. Klemperer, P. (1987). Markets with consumer switching costs. Quarterly Journal of Economics, 102, 375–394.CrossRefGoogle Scholar
  30. Klemperer, P. (1995). Competition when consumers have switching costs: An overview with applications to industrial organization, macroeconomics, and international trade. Review of Economic Studies, 62, 515–539.CrossRefGoogle Scholar
  31. Mariñoso, G. B. (2001). Technological incompatibility, endogenous switching costs and lock-in. Journal of Industrial Economics, 49, 281–298.CrossRefGoogle Scholar
  32. Matthews, S. A., & Mirman, L. J. (1983). Equilibrium limit pricing: The effects of private information and stochastic demand. Econometrica, 51, 981–996.CrossRefGoogle Scholar
  33. McAfee, R. P., Mialon, H. M., & Williams, M. A. (2004). What is a Barrier to entry? The American Economic Review, 94(3), 94–127.Google Scholar
  34. Melitz, M. J. (2003). The impact of trade on intra-industry reallocations and aggregate industry productivity. Econometrica, 71(6), 1695–1725.CrossRefGoogle Scholar
  35. Melitz, M. J., & Redding, S. J. (2012, December). Heterogeneous firms and trade. Working paper, NBER.Google Scholar
  36. Milgrom, P., & Roberts, J. (1982). Equilibrium limit pricing and entry under incomplete information: An equilibrium analysis. Econometrica, 50, 443–460.CrossRefGoogle Scholar
  37. Modigliani, F. (1956). New developments on the oligopoly front. Journal of Political Economy, 66, 215–232.CrossRefGoogle Scholar
  38. Murti, P. (2004). Exit in duopoly under uncertainty. RAND Journal of Economics, 35, 111–127.CrossRefGoogle Scholar
  39. Owen, R. F., & Ulph, D. (2002). Sunk costs, market access, economic integration and welfare. Review of International Economics, 1093, 539–555.CrossRefGoogle Scholar
  40. Pindyck, R. S. (2008, November 12). Sunk costs and risk-based barriers to entry. Working paper, Massachusetts Institute of Technology.Google Scholar
  41. Pyatt, G. (1971). Profit maximisation and threat of new entry. Economic Journal, 81, 242–255.CrossRefGoogle Scholar
  42. Salop, S. C. (1979). Strategic entry deterrence. The American Economic Review, 81, 242–255.Google Scholar
  43. Schmalensee, R. (2004). Sunk costs and antitrust barriers to entry. American Economic Review, 94(3), 471–475.CrossRefGoogle Scholar
  44. Shaked, A., & Sutton, J. (1982). Relaxing price competition through product differentiation. Review of Economic Studies, 49, 1–13.CrossRefGoogle Scholar
  45. Shaked, A., & Sutton, J. (1983). Natural oligopolies. Econometrica, 51, 1469–1484.CrossRefGoogle Scholar
  46. Shaked, A., & Sutton, J. (1987). Product differentiation and industrial structure. Journal of Industrial Economics, 36, 131–146.CrossRefGoogle Scholar
  47. Smith, A., & Venables, A. (1991). Economic integration and market access. European Economic Review, 35, 385–395.CrossRefGoogle Scholar
  48. Spencer, B., & Jones, R. W. (1991). Vertical foreclosure and international trade policy. Review of Economic Studies, 58(1), 153–170.CrossRefGoogle Scholar
  49. Spencer, B., & Jones, R. W. (1992). Trade and protection in vertically related markets. Journal of International Economics, 32, 31–35.CrossRefGoogle Scholar
  50. Sutton, J. (1991). Sunk costs and market structure. Cambridge, MA: MIT Press.Google Scholar
  51. Sylos, L. P. (1956). Oligopolio e Progresso Técnico. Milano: Giuffré.Google Scholar
  52. Sylos, L. P. (1969). Oligopoly and technical progress. Cambridge: Harvard University Press.Google Scholar
  53. Tirole, J. (1988). The theory of industrial organization. Cambridge, MA: MIT Press.Google Scholar
  54. Venables, A. (1990a). The economic integration of oligopolistic markets. European Economic Integration, 34, 753–769.CrossRefGoogle Scholar
  55. Venables, A. (1990b). International capacity choice and the national market games. Journal of International Economics, 29, 23–42.CrossRefGoogle Scholar

Copyright information

© The Author(s) 2017

Authors and Affiliations

  • Partha Gangopadhyay
    • 1
    • 2
  • Robert F. Owen
    • 3
  1. 1.Western Sydney UniversitySydneyAustralia
  2. 2.University of the South PacificSuvaFiji
  3. 3.University of NantesNantesFrance

Personalised recommendations