Carnegie Mellon University - Tepper School of Business
Carnegie Mellon University
February 20, 2015
This paper examines the effects of a merger between price-setting newsvendors on firms' prices, inventories and expected profits in an oligopolistic market. It is well-known that inventory pooling can greatly reduce inventory costs in a centralized distribution system because it helps reduce aggregate demand uncertainty. While such statistical economies of scale are important benefits of a retail merger, the extant literature models cost savings from a merger only through reduction in a post-merger firm's marginal cost. In this paper, we develop a model of a retail merger under uncertain demand that distinguishes between cost savings from conventional economies of scale and those from statistical economies of scale, and we show that these two sources of cost savings have substantially different impacts on firms' decisions in a post-merger market. Contrary to the existing theory of mergers developed under deterministic demand, we find that although inventory pooling enables the post-merger firm to achieve cost savings, it always induces firms to raise their prices, and that marginal cost reduction induces firms to lower their prices only when it is substantial. Furthermore, a merger tends to be less harmful to consumers in the industries that are more susceptible to business cycles (which may exhibit higher correlation among firms' uncertain demands and create lower pooling benefits). Our results bear important implications for antitrust policies, for it is commonly believed that cost savings from a merger will be passed on to consumers.
Number of Pages in PDF File: 61
Keywords: Price competition, demand uncertainty, horizontal merger, inventory pooling
Date posted: March 7, 2014 ; Last revised: February 25, 2015
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