Journal Article

Collusion and Price Rigidity

Susan Athey, Kyle Bagwell and Chris Sanchirico

in The Review of Economic Studies

Published on behalf of Review of Economic Studies Ltd

Volume 71, issue 2, pages 317-349
Published in print April 2004 | ISSN: 0034-6527
Published online April 2004 | e-ISSN: 1467-937X | DOI: http://dx.doi.org/10.1111/0034-6527.00286
Collusion and Price Rigidity

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  • Market Structure, Firm Strategy, and Market Performance
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We consider an infinitely repeated Bertrand game, in which prices are publicly observed and each firm receives a privately observed, i.i.d. cost shock in each period. We focus on symmetric perfect public equilibria, wherein any “punishments” are borne equally by all firms. We identify a tradeoff that is associated with collusive pricing schemes in which the price to be charged by each firm is strictly increasing in its cost level: such “fully sorting” schemes offer efficiency benefits, as they ensure that the lowest-cost firm makes the current sale, but they also imply an informational cost (distorted pricing and/or equilibrium-path price wars), since a higher-cost firm must be deterred from mimicking a lower-cost firm by charging a lower price. A rigid-pricing scheme, where a firm's collusive price is independent of its current cost position, sacrifices efficiency benefits but also diminishes the informational cost. For a wide range of settings, the optimal symmetric collusive scheme requires (i) the absence of equilibrium-path price wars and (ii) a rigid price. If firms are sufficiently impatient, however, the rigid-pricing scheme cannot be enforced, and the collusive price of lower-cost firms may be distorted downward in order to diminish the incentive to cheat. When the model is modified to include i.i.d. public demand shocks, the downward pricing distortion that accompanies a firm's lower-cost realization may occur only when current demand is high.

Keywords: D43; L12; L13

Journal Article.  19245 words.  Illustrated.

Subjects: Market Structure, Firm Strategy, and Market Performance ; Market Structure and Pricing

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