The Empirical Effects of Competition on Price Discrimination in the Presence of Arbitrage

Abstract

Since Borenstein (1985) and Holmes (1989), a theoretical and empirical literature has emerged that examines the effects of competition on third degree price discrimination. Since transaction costs involved in conducting arbitrage are typically unobserved, empirical investigations in this area have largely been restricted to markets such as for air travel where arbitrage is difficult if not impossible. Using an entirely novel dataset, this paper documents the effect of competition on price discrimination in the presence of arbitrage in the Canadian online sports betting market where prices for Canadian teams are higher than in the world market. I observe how the prices of Canadian teams change in real time in response to the presence of arbitrageurs that establish Canadian sportsbooks’ observable marginal opportunity costs. I exploit the existence of government betting outlets not subject to arbitrage to obtain reduced form counterfactual estimates of the extent to which competition affects price discrimination in the presence of arbitrage. In this new empirical environment, I find results consistent with the airline literature: competition reduces overall price dispersion and markups, but dispersion and markups shrink more for those in the “strong” market than the “weak” market.

Keywords: Competition, Price Discrimination, Arbitrage