Unformatted text preview: losses incurred during
14 McGee (1958) criticism
Large firm cannot successfully apply predatory pricing (4 reasons) 1. Due to larger market share, large firm will also suffer from larger
losses than small firm
losses 1. Predation would only make sense if large firm can raise prices after
exit of small firm
exit 1. but assets and plants of smaller firm will not disappear. As soon as prices
rise, small firm can enter again (or assets are bought by somebody who
could Assumption: Predator has deep pocket, and victim small pocket. 1. same unit loss multiplied by larger number of units Why could small (financially constrained) firm not explain the situation to
potential investors (bank) to obtain funds until predation ends ( potential
combined with 1st argument!)
combined Predation to be rational, must be more profitable than alternative
actions. Merging with rival would be more profitable, as industry profits are not
destroyed during a predation phase.
15 response to McGee (1958) criticism
1. „deep pocket“ does hold if incumbent has
dominant position in several markets, but small
firm 1. Incumbent could set high prices in one market, and
predatory prices in the challenged market. Crosspredatory
subsidizing among markets gives incumbent
„deeper Re-entering relies on the ideas that no sunk
cost are involved. However, fixed sunk cost
are typical in reality. After exit, a firm can only
recover a small fraction of fixed cost.
recover Also: successful predation may deter future entry
through aggressive reputation of incumbent
16 response to McGee (1958) criticism
4. recent theories in area of corporate finance.
To be discussed later
merger vs. predation
3. buying a firm may encourage new firms to enter
with aim to sell out to incumbent with profit mergers may not be cheap after all.
Taking over rivals may not be allowed for dominant
One could use predation to reduce price of merger.
Thus merger and predation no mutually exclusive
strategies Empirically observed already in 1891-1906: „American
Tobacco“ engaged in price wars with small competitors
and took over 43 competitors. Evidence that merger prices
were much lower after predation phases.
17 Recent theories on predation Recent economic theories rely on
„imperfect information“ assumptions
Three main paths:
Financial markets models of deep pocket
18 Reputation based models Suppose
Suppose an incumbent monopolist is active in a
number of identical markets, where it has the
same technology and products (e.g.
(e.g. „chain-store“ chain store paradox by Reinhard
Selten, Nobel Prize winning theory!!!)
In each market there is one potential entran...
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