Pricing Behavior in Contestable Markets and on the Internet

Abstract

This dissertation is a collection of three essays analyzing the pricing behavior of firms in different market contexts. In the first essay, I propose that a key determinant of contestability is the nature of the potential entrant’s own home market. Is it competitive or monopolistic? I develop a repeated game framework to evaluate whether the threat of "hit and run" entry disciplines incumbent pricing when potential entrants have their own home markets. I test the predictions of the model in an experimental setting and the results show that the threat of entry from firms in monopoly markets does not serve to discipline an incumbent in the contestable market. The second essay extends the previous analysis to an imperfectly contestable market scenario, when there are sunk costs to entering the monopoly market. Two polar experimental treatments are considered: one where the entrant has its own monopoly market and the other in which it earns normal returns. Results show that the threat of hit and run entry is very potent even in the presence of a modest level of sunk cost only if the entrant firm earns normal returns in its own market. In contrast, firms from monopoly markets tacitly cooperate to charge monopoly prices in each market. The third essay explores the phenomenon of international price differences in the online book industry. My sample consists of price data collected from 49 online bookstores for 99 books in English from 12 book categories. The online bookstores are situated either in the United States, Canada or the United Kingdom. The data points out that publishers frequently use different list prices for the same book in different countries. This is especially interesting since I find that the list prices provide a general rule of thumb for offered prices in an online bookstore. Regressions with book specific fixed effects, category effects and prominent-bookstore effects suggest that a large part of the offered prices can be explained by the list prices charged at online stores. The paper provides some discussions on reasons behind such dispersions and its persistence.