Strategic Vertical Pricing in the U.S. Butter Market

Posted by D. Daniel Sokol

Kyle Stiegert (Wisconsin - Applied Economics) and Ying Du (Wisconsin - Applied Economics) examine Strategic Vertical Pricing in the U.S. Butter Market.

ABSTRACT: This article develops a methodology for empirically analyzing vertically strategic interactions in a multi-level supply channel. The model is used to analyze the vertical channel for U.S. butter manufacturing and retailing. Aggregating products to the firm level and using a nonlinear AIDS demand system under alternative strategic pricing assumptions is estimated using full information maximum likelihood (FIML) for seven geographic markets from 1998-2002. The market demand for butter was found to very price elastic. Furthermore, cross price elasticities between private labels and the two large national brands were also very elastic. The selected market structure was one indicating category profit maximization of national brands (separate from private label) at the retail level, Vertical Nash competition in the vertical channel, and Bretrand competition at the manufacturing level. Our results strongly suggest that the reta! il market for food products is impacted by the underlying vertical structure. The study provides useful measures of imperfect competition in the retail manufacturing sector.