Upstream uncertainty and countervailing power

Abstract

Current understanding of bargaining in intermediate goods markets is that (i) efficient bargaining only transfers rents so that retailer size has no retail price implications; and (ii) large buyers secure lower input prices (so called buyer power) if upstream marginal costs are increasing. We show that if there is upstream firm level uncertainty both these headline results fail. Efficient bargaining with any upstream uncertainty yields retail price effects: large buyers wield countervailing power (lower retail prices) if upstream marginal costs are decreasing (not increasing). With enough uncertainty large buyers have buyer power if marginal costs are decreasing. We go on to develop a model of the bargaining interface between competing upstream firms which generates the uncertainty yielding the countervailing power and buyer power results. We use the bargaining interface model to develop a novel theory of waterbed effects; and to deduce long run pressures on upstream technology resulting from downstream consolidation.

JEL codes