Market dynamics with a state-owned dominant firm and a competitive fringe

Domenico Colucci, Nicola Doni, Giorgio Ricchiuti and Vincenzo Valori

Working Papers - Economics from Universita' degli Studi di Firenze, Dipartimento di Scienze per l'Economia e l'Impresa

Abstract: We analyze the market dynamics in a model in which one dominant firm and a large number of small, not fully rational firms coexist. The dominant firm announces a reference price, but the market price can diverge from such reference price: this is due to the dominant firm taking advantage of the bounded rationality of the fringe firms. In the baseline model, we find that the dominant firm has an incentive to announce a very low price and in the steady state the market price is usually higher than the reference price. In a more complex model, where a fraction of small firms employ an evolutionary mechanism to adjust their expectations, we find that the lower the reference price the higher the period-by-period fluctuations of the market prices. We show that both mean profits and their volatility are decreasing in the reference price and that the optimal choice is positively correlated with the degree of risk aversion of the dominant firm. In general, socially preferable outcomes can be achieved when the dominant firm behaves as strongly risk averse. We draw some policy implications from this conclusion.

Keywords: market dynamics; competitive fringe; dominant firm; switching mechanism (search for similar items in EconPapers)
JEL-codes: D21 D25 D84 D91 (search for similar items in EconPapers)
Pages: 18 pages
Date: 2022
New Economics Papers: this item is included in nep-bec, nep-com and nep-mic
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Journal Article: Market dynamics with a state-owned dominant firm and a competitive fringe (2022)
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