Does Cost Uncertainty in the Bertrand Model Soften Competition?

Johan Lagerlof

No 8817, CEPR Discussion Papers from C.E.P.R. Discussion Papers

Abstract: Although naive intuition may indicate the opposite, the existing literature suggests that uncertainty about costs in the homogeneous-good Bertrand model intensifies competition: it lowers price and raises total surplus (but also makes profits go up). Those results, however, are derived under two assumptions that, if relaxed, conceivably could reverse the results. The present paper first shows that the results hold also if drastic innovations are possible. Next, the paper assumes asymmetric cost distributions, a possibility that is empirically highly plausible but which has been neglected in the previous literature. Using numerical methods it is shown that, under this assumption, uncertainty lowers price and raises total surplus even more than with identical distributions. However, if the asymmetry is large enough, industry profits are lower under uncertainty; this is in contrast to the known results and reinforces the notion that uncertainty intensifies competition rather than softens it.

Keywords: Oligopoly; Bertrand competition; Hansen-spulber model; Auctions with endogenous quantity; Private information; Information sharing; Asymmetric firms; Asymmetric auctions; Boundary value method (search for similar items in EconPapers)
JEL-codes: D43 D44 L13 (search for similar items in EconPapers)
Date: 2012-02
New Economics Papers: this item is included in nep-bec, nep-com and nep-cta
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Working Paper: Does Cost Uncertainty in the Bertrand Model Soften Competition? (2013)
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