Working Paper: CEPR ID: DP5814
Authors: Pierpaulo Battigalli; Chiara Fumagalli; Michele Polo
Abstract: This paper analyses the sources of buyer power and its effect on sellers? investment in quality improvements. In our model retailers make take-it-or-leave-it offers to a producer and each of them obtains its marginal contribution to total profits (gross of sunk costs). In turn, this depends on the rivalry between retailers in the bargaining process. Rivalry increases when retailers are less differentiated and when decreasing returns to scale in production are larger. The allocation of total surplus affects the incentives of the producer to invest in product quality, an instance of the hold-up problem. An increase in buyer power not only makes the supplier and consumers worse off, but it may even harm retailers, that obtain a larger share of a smaller surplus. A repeated game argument shows that efficient quality improvements can be supported as an equilibrium outcome if the producer and retailers are involved in a long-term relationship.
Keywords: buyer power; holdup; noncooperative bargaining
JEL Codes: L13; L4
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| Buyer power (D41) | Total surplus allocation (D61) |
| Total surplus allocation (D61) | Supplier's incentive to invest in quality (L15) |
| Buyer power (D41) | Supplier's incentive to invest in quality (L15) |
| Increased buyer power (D16) | Weaker incentives for the producer to invest in quality improvements (L15) |
| Higher buyer power (D49) | Reduced supplier and consumer welfare (D69) |
| Higher buyer power (D49) | Harm to retailers in terms of profit distribution (F61) |
| Long-term relationships (D15) | Mitigation of negative effects of buyer power (L14) |