The Impact of Inventory Risk on Market Prices Under Competition

47 Pages Posted: 21 Mar 2013 Last revised: 2 Dec 2019

See all articles by Anton Ovchinnikov

Anton Ovchinnikov

Smith School of Business - Queen's University

Hubert Pun

University of Western Ontario

Gal Raz

Massachusetts Institute of Technology (MIT)

Date Written: November 28, 2019

Abstract

Firms often must procure inventory/capacity before knowing what the demand will be, so there is a potential for a mismatch between inventory and demand, the “inventory risk.” We show that because of inventory risk, an increase in the number of competitors can lead to an increasing trend in market prices. Furthermore, we show that, ceteris paribus, because of how inventory risk impacts competitive behavior, firms may prefer to incur inventory risk rather than to avoid it. We establish these findings using three rather different yet complementary methodologies: (i) using data from a classroom experiment, (ii) using a quantal response equilibrium simulation to capture realistic irrationalities in managerial decisions, and (iii) using a fully-rational Nash equilibrium model. That three very different methods lead to identical qualitative findings reinforces the main message of our paper: inventory risk reverses the standard intuition for how an increase in the number of competitors impacts prices.

Keywords: competition; inventory risk; pricing

Suggested Citation

Ovchinnikov, Anton and Pun, Hubert and Raz, Gal, The Impact of Inventory Risk on Market Prices Under Competition (November 28, 2019). Available at SSRN: https://ssrn.com/abstract=2236494 or http://dx.doi.org/10.2139/ssrn.2236494

Anton Ovchinnikov (Contact Author)

Smith School of Business - Queen's University ( email )

143 Union Str. West
Kingston, ON K7L3N6
Canada

Hubert Pun

University of Western Ontario

1151 Richmond Street
Suite 2
London, Ontario N6A 5B8
Canada

Gal Raz

Massachusetts Institute of Technology (MIT)

77 Massachusetts Avenue
50 Memorial Drive
Cambridge, MA 02139-4307
United States

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