Vertical Exclusion with Downstream Risk Aversion or Limited Liability

39 Pages Posted: 28 May 2020

See all articles by Stephen Hansen

Stephen Hansen

Imperial College Business School

Massimo Motta

Universitat Pompeu Fabra

Date Written: September‐December 2019

Abstract

An upstream firm with full commitment bilaterally contracts with two ex ante identical downstream firms. Each observes its own cost shock, and faces uncertainty from its competitor’s shock. When they are risk neutral and can absorb losses, the upstream firm contracts symmetric outputs for production efficiency. However, when they are risk averse, competition requires the payment of a risk premium due to revenue uncertainty. Moreover, when they enjoy limited liability, competition requires the upstream firm to share additional surplus. To resolve these trade‐offs, the upstream firm offers exclusive contracts in many cases.

Suggested Citation

Hansen, Stephen and Motta, Massimo, Vertical Exclusion with Downstream Risk Aversion or Limited Liability (September‐December 2019). The Journal of Industrial Economics, Vol. 67, Issue 3-4, pp. 409-447, 2019, Available at SSRN: https://ssrn.com/abstract=3609430 or http://dx.doi.org/10.1111/joie.12212

Stephen Hansen (Contact Author)

Imperial College Business School ( email )

South Kensington Campus
Exhibition Road
London SW7 2AZ, SW7 2AZ
United Kingdom

Massimo Motta

Universitat Pompeu Fabra ( email )

Ramon Trias Fargas 25-27
Barcelona, 08005
Spain

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