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09/10/08 Bundling and Competition for Slots 1
Bundling and Competition for Slots
Doh-Shin Jeon (UPF, TSE)
Domenico Menicucci (Universita di Firenze)
Seminar at Université de Paris X, October 9, 2008
09/10/08 Bundling and Competition for Slots 2
Motivation 1: Competition among portfolios
Firms sell portfolios of distinct products and buyers want to constitute their own portfolios
- Publishers of academic journals/ Libraries
- Movie studios/ Movie theaters or TV broadcasting companies
- Manufacturers (Nestle, Danone etc)/ supermarkets
09/10/08 Bundling and Competition for Slots 3
Motivation II: Slot (or shelf space) constraint
Slotting arrangements, the payment by manufacturers for retail shelf space, have become increasingly important
Recent antitrust litigation: - R.J. Reynolds Tobacco Co. v. Philip Morris,
Inc. (2002)- American Booksellers Ass'n, Inc. v. Barnes &
Noble (2001)- FTC v. H.J. Heinz Co.(2000) Federal Trade Commission studies: FTC
Report (2001) and FTC Study (2003)
09/10/08 Bundling and Competition for Slots 4
Questions
When firms compete to sell portfolios of distinct products to a buyer having a slot constraint,
1. How bundling affects competition for slots and social welfare?
2. Implications on horizontal merger?
09/10/08 Bundling and Competition for Slots 5
Answer to question 1
Without bundling, equilibrium often does not exist
With bundling,
1. Efficient equilibrium always exists
2. Without slotting contracts, all equilibria are efficient for low costs of production
3. With slotting contracts, inefficient equilibria exist even for zero cost of production
09/10/08 Bundling and Competition for Slots 6
Société des Caves de Roquefort
Conseil de la Concurrence (2004) fined Société des Caves de Roquefort for using selectivity or exclusivity contracts with supermarket chains.
Its market share in the Roquefort cheese market was 70%
But, through the contracts, it could occupy eight among all nine brands that Carrefour, a supermarket chain, carried.
09/10/08 Bundling and Competition for Slots 7
Procter & Gamble
“P&G has big plans for the shelves of tiny stores in emgering nations” (Wall Street Journal, July 17, 2007)
‘Golden Store’ arrangement: to be considered a golden store, retailers must agree to carry 40 or so P&G items – displayed together
09/10/08 Bundling and Competition for Slots 8
Slots in Movie theator
Cahiers du Cinema: Nos 12 Propositions pour le cinema (Avril, 2007)
“5. Limiter le nombre de copies par film. La sortie de certains films sur 600, 800 ou 1000 copies rend illusoire toute politique culturelle efficace. En saturant les écrans, …, elle impose aux autres films un accès miniscule aux écrans restants…”
09/10/08 Bundling and Competition for Slots 9
Block booking
Two supreme court decisions: per se illegal
- U.S, v. Paramount Pictures (1948)- U.S. v. Loew’s (1962)- Reaffirmed in court of appeal: MCA
Television Ltd. V. Public Interest Corp. (1999)
09/10/08 Bundling and Competition for Slots 10
Leverage Theory and Block Booking
“A distributor cannot use the market power granted by the copyright in a “desirable” film to force exhibitors to license a second “undesirable” film”
“Block booking made it difficult for the independents to get their own movies into theaters”
09/10/08 Bundling and Competition for Slots 11
Roadmap
1. Chicago school criticism of leverage theory
2. Illustration of the key intuition: example
3. Main results
4. Implications on horizontal merger
5. Literature review
09/10/08 Bundling and Competition for Slots 12
Chicago School Criticism
Two firms (A,B) and two products (1,2)A is the monopolist of product 1A and B compete in product 2Zero cost of productionA single buyer with unit demand for each
product.Buyer’s utility: uA
1 >0, uA2 >0, uB
2 >0Assume uA
1 + uA2 > uB
2
09/10/08 Bundling and Competition for Slots 13
Chicago School Criticism
Without bundling: - A sells product 2 iff uA
2 uB2
- A’s profit: uA1 +max{0, uA
2 - uB2 }
With bundling: - A always sells both products- A’s profit: uA
1 + uA2 – uB
2
A has no incentive to use bundling for the purpose of monopolizing product 2
09/10/08 Bundling and Competition for Slots 14
Our contribution
Chicago Criticism provides a weak argument for laissez-faire
- Firms have no strict incentive to practice bundling
- Letting firms practice bundling never strictly increases social welfare since outcome is always efficient without bundling
- Prohibiting bundling has no social cost!!! We provide a strong argument for laissez-faire
09/10/08 Bundling and Competition for Slots 15
Illustration with a simple example
Two firms (A, B)One buyer with two slotsA has two products with (uA
1,uA2)=(4,2)
B has one product with uB1 =3
Cost of production is zeroIndependent valuesEfficiency requires A’s best product and
B’s product to occupy the slots
09/10/08 Bundling and Competition for Slots 16
No equilibrium without bundling
Simultaneous pricing gameTie-breaking: when D is indifferent, D
maximizes the sum of the gross valuesNo equilibrium in which B does not sell
its product
- B can deviate by undercutting A’s second product’s price
09/10/08 Bundling and Competition for Slots 17
No equilibrium without bundling
No equilibrium in which B sells its products
- Conditional on that B sells its product, the best A can do is to charge pA
1=4, pA2
≥2 - Then, B’s best response is to charge
pB1=3.
- Then, A has an incentive to undercut B by charging pA
1=4, pA2 =2-
09/10/08 Bundling and Competition for Slots 18
Bundling
Consider pure bundling: A sells a bundle of both products
In the equilibrium, PA = 4 and PB = 1. Both bundles are purchased and hence the buyer allocates the slots efficiently.
09/10/08 Bundling and Competition for Slots 19
Intuition for efficiency
Bundling gets rid of internal competition and makes external competition efficient
Start from pA1=4, pA
2 =, Without bundling, if A charges pA
1=4, pA2 =0,
there is cannibalization. With bundling, if A includes the second
product into the bundle and charges PA=4, it makes the bundle (weakly) more attractive: adding a product into a bundle never hurts the seller
09/10/08 Bundling and Competition for Slots 20
Strong argument for laissez-faire
Outcome of competition without bundling is not efficient but outcome with bundling is efficient
Firms in general have an incentive to practice bundling to get rid of cannibalization
09/10/08 Bundling and Competition for Slots 21
Model
There are n firms Each firm i has ni number of products One buyer with k number of slots Products of independent values cost of production: c ≥ 0 ui
j : Buyer’s gross profit from firm i’s j-th best product ui
1 ≥ui2 ≥… ≥ui
ni ≥0 W.l.o.g, ni ≥ k uj: D’s gross profit from the j-th best product among all
products
09/10/08 Bundling and Competition for Slots 22
Contracts
Given a bundle of m products of firm i (Mixed) Bundling (Pi,pi1 ,pi2,…,pim)
Pure bundling: bundling with pi1 =pi2…=pim=0
Slotting contracts: pure bundling plus the obligation to make m slots occupied by the m products
Menu of pure bundles:
in
mii mPmB 1)(),(
09/10/08 Bundling and Competition for Slots 23
A general result: for any c
Prop 1: An efficient equilibrium always exists Each firm offers a bundle of all its products and
charges pi1 =pi2…=pini=c (i.e. rents its technology at the cost)
Remark: Deviation with pure bundling or slotting contracts is not profitable
ii
iii
U
cUckUP
generating products of# theis # where
#
09/10/08 Bundling and Competition for Slots 24
Without slotting contracts: Uniqueness
For c small (i.e. c< uk - uk+1)- Prop 2: all equilibria are efficient, regardless of the level of
industry concentration For c> uk - uk+1,- Pure bundling can generate inefficient equilibria- Prop 3: Without pricing below cost (i.e. pij≥c for all i and j), all
equilibria are efficient and each firm’s profit is uniquely determined
- Lemma 1: Firm i can always find a best response among the tariffs satisfying pij=c for all j
- Remark: In the practice of competition policy in Europe and U.S. regarding predation, the prices set by a dominant firm are presumed abusive if they are below costs.
09/10/08 Bundling and Competition for Slots 25
Slotting contracts
Suppose that aIl firms use slotting contracts Lemma 2: If each firm offers a single bundle,
there is no interior equilibrium in which each firm sells at least a product.
Prop 4: If firms compete with menu of bundles, there exists an efficient equilibrium.
Prop 5: In the case of digital good, if we consider a non-decreasing price schedule: Pi(1)≤ Pi(2) ≤ …, all equilibria are efficient
09/10/08 Bundling and Competition for Slots 26
Equilibrium menu when c=0
1**
12**
1*
,0max)1()(
....
,0max)1()2(
,0max)1(
ikiii
kiiii
kiii
uukPkP
uuPP
uuP
09/10/08 Bundling and Competition for Slots 27
Inefficient equilibrium under slotting contracts
Two firms, three products, three slots
Efficiency requires firm A to sell its two best products and firm B to sell its best product
Inefficient equilibrium exists: Bertrand competition between two pure bundles leads to PA =7 and PB=0
1,7,9,,
6,8,10,,321
321
BBB
AAA
uuu
uuu
09/10/08 Bundling and Competition for Slots 28
Equilibrium selection
Prop: In the case of duopoly, when both firms use slotting contracts, all other equilibria are Pareto dominated by the efficient equilibrium
09/10/08 Bundling and Competition for Slots 29
Horizontal merger
Consider the merger of any two firms Prop 6:
(i) The merger affects neither social welfare nor any third upstream firm’s profit(ii) The merger increases the merging firms’ profits and decreases the downstream firm’s profit.
Intuition: A merger softens competition from the best alternative portfolio
Remark: O’Brien-Shaffer (2005) obtains the same result without slot constraint in a bargaining setting
09/10/08 Bundling and Competition for Slots 30
Economies of scale
Products of identical values can be sold at different prices
Adding a product of another firm into a firm’s portfolio (at least weakly) increases its profit even though the product is not sold
A product in a larger porfolio receives better protection from competition from other products
09/10/08 Bundling and Competition for Slots 31
Endogenous merger and increasing concentration
Consider a second-price auction of a product of value u owned by a firm
Prop 7:
Corollary: If there exists a firm (say firm 1) with
then, the firm wins the auction.
otherwise ,0
,max if , ,max 11
i
ki
kii
b
ucuucub
jiuu ji
j , 1
09/10/08 Bundling and Competition for Slots 32
Literatture review: bundling
Most of the papers on bundling study bundling of two goods in the context of second-degree price discrimination : Schmalensee (1984), McAfee et al (1989), Whinston (1990), Salinger (1995), Armstrong (1996), and Nalebuff (2004)
Two issues: rent extraction of a monopolist or entry deterrence
Internet and bundling a large number of (information) good: Armstrong (1999) and Bakos and Brynjolfsson (1999, 2000)
09/10/08 Bundling and Competition for Slots 33
Comparison with Jeon-Menicucci (JEEA,2006)
JEEA Setting: the same Budget constraint Bundling always
reduces social welfare
This paper Setting: the same Slot constraint Bundling increases
social welfare
09/10/08 Bundling and Competition for Slots 34
Literature review: common agency
Berheim-Whinston (1985, 1998) and O’Brien-Schaffer (1997): competition in non-linear tariff between two single-product firms leads to joint profit maximization
O’Brien-Schaffer (2005): Similar result with n firm bargaining
Our novelty: - competition among portfolios under slot constraint- Digital vs. physical good- various contracting arrangements
09/10/08 Bundling and Competition for Slots 35
Future work
Extension:
- allow for substitutes
- variable quantity
- then “exclusive dealing” is a special case with n=2, ni=1 and k=2.