Abstract. In this paper, the role of strategic forces in vertical relationships is examined. Using a simple
model of differentiated products with symmetric demands and costs, the Perfect equilibrium to a vertical
integration-vertical separation game between manufacturers is determined. Given the assumptions of
the model, I show that the manufacturer's decision whether to vertically integrate or to remain separate
from its retailer depends on the degree of product differentiation. I show that when the products are
poor substitutes, the only Perfect equilibrium is vertical integration by both manufacturers. As the
products become closer substitutes, an additional Perfect equilibrium appears, both firms vertically
separated. For manufacturers, the vertically separated equilibrium always Pareto dominates the vertical
integration equilibrium when both equilibria exist