Review of Industrial Organization
13: 321–331, 1998.
1998 Kluwer Academic Publishers. Printed in the Netherlands.
Vertical Market Participation
Bayerische Vereinsbank, Economics Department, KVW 3, D-80311 M
Centre for Industrial Economics, University of Copenhagen, Studiestraede 6, 1455 Copenhagen K,
Abstract. Firms that operate at both levels of vertically related Cournot oligopolies will purchase
some input supplies from independent rivals, even though they can produce the good at a lower cost,
driving up input price for nonintegrated ﬁrms at the ﬁnal good level. Foreclosure, which avoids this
strategic behavior, yields better market performance than Cournot beliefs.
Key words: Bertrand reactions, Cournot reactions, integrated ﬁrms, vertical market
The question of strategic behavior by vertically integrated ﬁrms is a hoary one
(Adams and Dirlam, 1964), not without policy interest,
that continues to attract
We analyze the input purchase/supply decision of ﬁrms that
are integrated across a pair of vertically related industries.
It will appear that market performance in the downstreamindustryis quite sensi-
tive to integrated ﬁrms’ conjectures about rivals’ reactions in the upstream market.
Salinger (1988) has shown that vertically integrated ﬁrms will withdraw from
the intermediate good market, refusing to buy from (foreclosing) non-integrated
intermediate good suppliers, if they assume Cournot reactions to input sales and
Bertrand reactions to input purchases. In the vocabulary of the consistent con-
jectures literature, Bertrand conjectures imply that if a vertically integrated ﬁrm
Parts of this paper are drawn from Chapter 4 of the ﬁrst author’s Ph.D. dissertation. We thank
Louis Phlips, seminar participants at the European University Institute, University College Swansea,
the 1995 European Economic Association meetings, the Verein f
ur Wirtschafts- und Sozialwis-
senschaften meetings, Moriki Hosoe, Joerg Oechssler, Takao Ohkawa, two anonymous referees, and
General Editor Shepherd for valuable comments. Responsibility for errors is our own.
In U.S. antitrust law, Brown Shoe v. U.S. 370 U.S. 294 (1962) comes to mind, and American
Tobacco Co. et al. v. U.S. 328 U.S. 781 (1946) provides a real-world example of dominant ﬁrms
purchasing inputsupplies to drive up rivals’ costs. Exclusivepurchasing has also attracted the attention
of the European Commission (Commission Decision of 1975 OJ L 53 24 February 1978 (Liebig)).
Among which, Salinger (1988), Ordover et al. (1990), Hart and Tirole (1990), Bolton and
Whinston (1991), and Halonen (1994).