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Long Term Contracts as Barriers to Entry

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Abstract

The argument that long term contracts can be anti-competitive has been around ever since the United Shoe case and, until fairly recently, has been viewed skeptically by economists and lawyers. To the notion that long term contracts exclude competitors, Posner, Bork and others have replied that a customer would hardly be willing to sign a long term contract with a monopolist unless he got at least as good a deal as he would by not signing, and waiting around for whatever new entry might bring. In economic terms, the long- term contract must be individually rational for the buyer to sign. Since the seminal 1987 paper by Aghion and Bolton, however, economists have considered another element in the story. By locking himself into a long- term contract with the seller, a buyer reduces the size of a potential entrant’s market, thereby reducing the probability of entry. As a result, other buyers will have to accept a higher price. The seller can exploit this negative externality between buyers to extract consumer surplus from the others. In other words, there is more to the story than individual rationality, stressed by Bork and Posner. One must also take into account the externality effect of one buyer’s signing on the likelihood that other buyers will face a competitive alternative

Year: 2010
OAI identifier: oai:CiteSeerX.psu:10.1.1.163.1245
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