Prices for Inputs Sold to Competitors
Situations often arise in which one firm sells an input to a second firm and then competes against the second firm in the market for the final product. The market for the input is called the upstream market, and the market for the final product is called the downstream market. Examples include local exchange companies selling long distance service to consumers and selling a service called access to long distance companies (Willig 1979, pp. 110–113; Baumol and Sidak 1994, p. 172), vertically integrated electricity companies selling electricity to consumers and selling transmission (and possibly distribution) to competing generators, a natural gas pipeline or local distribution company selling gas to consumers and selling transmission or distribution to other natural gas suppliers (Economides and White 1995, pp. 558–559), a railroad selling transport to consumers and selling trackage to a competing line (Baumol 1983, p. 24), computer manufacturers selling computers to consumers and selling computer chips to competing computer manufacturers (Ohmae 1991, p. 5), and certain Internet backbone providers selling Internet access to consumers and selling Internet hubbing to other Internet Service Providers (Brock 1995, pp. 1–2).
KeywordsIncremental Cost Retail Price Input Price Industry Structure Joint Production
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- 1.The ECPR goes under other names, such as the Baumol-Willig rule, the parity principle, the principle of competitive equality, the avoided cost rule, and the imputation requirement (Tye 1994, p. 205; Sidak and Spulber 1997, p. 287).Google Scholar
- 2.Figure 2 is adapted from Baumol (1983, p. 346)Google Scholar
- 3.Kahn and Taylor (1994, pp. 225, 236–238) assert that the ECPR also applies when the monopoly is competing against firms that produce products that the monopoly does not. They provide no rigorous analysis to support their conclusion, but as I demonstrate later, their conclusion holds under certain situations.Google Scholar
- 4.ECPR proponents include Baumol and Sidak (1994a, 1994b, and 1995), Kahn and Taylor (1994), Jerry A. Hausman and Timothy J. Tardiff (1995), Alexander C. Larson and Steve G. Parsons (1994), and Larson (1997). Detractors include Mitchell, et al. (1995), Robert Albon (1994), Economides and White (1995), Tye and Lapuerta (1996), Tye (1994), and myself (Jamison 1995 and 1998 ).Google Scholar
- 5.Figure 3 is adapted from Tye (1986, p. 40).Google Scholar
- 6.As in other chapters, I am suppressing notation that shows quantity demanded as a function of price.Google Scholar
- 7.Because of the assumption of contestable markets, all technologies are freely available to all firms. This makes it unnecessary to use notation to identify a cost function as belonging to a particular firm. The assumption of contestability also makes it unnecessary to designate firms. However, it facilitates discussion to identify a particular firm as the firm of interest (i.e., the utility) and to designate other firms as potentially producing particular products.Google Scholar
- 8.See Chapter 3 for an explanation of cost-minimizing market structures.Google Scholar
- 9.The effect of this assumption is that these firms can add al and b2 to their product lines at prices equal to incremental cost and still charge subsidy-free prices for their remaining products.Google Scholar