Input Prices and Product Differentiation

Lestage Romain ()
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Lestage Romain: School of Management and Engineering, Central University of Finance and Economics, Shahe Higher Education Park, Changping District, Beijing 102206, China

The B.E. Journal of Economic Analysis & Policy, 2016, vol. 16, issue 3, 1611-1619

Abstract: In this paper, we study how input prices affect product differentiation in network industries. In particular, we study whether the principle of vertical differentiation (Choi and Shin 1992, “A Comment on a Model of Vertical Product Differentiation.” The Journal of Industrial Economics 40 (2):229–31; Wauthy 1996, “Quality Choice in Models of Vertical Differentiation.” The Journal of Industrial Economics 44 (3):345–53) remains valid when an entrant purchases an essential input from an incumbent at a regulated price. We find that the higher quality firm always chooses the best available quality, whereas the lower quality firm chooses an intermediate quality, which increases with the input price. If the higher quality firm is the incumbent, a cost-oriented input price maximizes welfare, but comes at the cost of a lower average quality, a higher degree of product differentiation, and therefore stronger downstream market power.

Keywords: access regulation; network industries; vertical differentiation (search for similar items in EconPapers)
JEL-codes: L13 L51 L90 (search for similar items in EconPapers)
Date: 2016
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DOI: 10.1515/bejeap-2016-0015

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