Vertical Integration in the Presence of Upstream Competition

Catherine C. de Fontenay, Dept. of Economics and Melbourne Busines
Joshua S. Gans, Melbourne Business School, University of Melbourne

Abstract

We analyze vertical integration to compare outcomes under upstream competition and monopoly. This is done in a model based on the property rights approach to firm boundaries and where multilateral negotiations are modeled using a fully specified, non-cooperative bargaining game. We demonstrate that vertical integration can alter the joint payoff of integrating parties in ex post bargaining; however, this bargaining effect is stronger for firms integrating under upstream competition than upstream monopoly. In contrast, where integration internalizes competitive externalities, ex post monopolization is more likely to occur under upstream monopoly than upstream competition.