Tuesday, November 27, 2007
Posted by D. Daniel Sokol
A new article by Vincenzo Denicolò (Professor of Economics, University of Bologna), Michele Polo (Professor of Economics, Bocconi University, Milan, Italy) and Piercarlo Zanchettin (Lecturer in Economics, University of Leicester, Leicester, United Kingdom) addresses Entry, Product Line Expansion, and Predation.
ABSTRACT: In the Tourist-Caronte case in Italy, the incumbent, Tourist-Caronte, reacted to entry by entrant Diano by starting to supply a "damaged good" in the sense theorized by Deneckere and McAfee in 1996. We argue that in principle this strategy can be predatory, but it can also be an innocent response to entry. Specifically, the strategy of damaging the good leads to fiercer competition in the low segment of the market, which reduces the rents that the incumbent earns in the high segment, but may allow the incumbent to steal some of the entrant's rents. If this business stealing effect in the low segment of the market is sufficiently strong, the incumbent may find it profitable to expand its product line after entry, even if it does not have any predatory intent. We discuss the welfare effects of this strategy, and we contrast it with predation.