, advertising expenditure and a
cost-reducinginvestment. We find the conditions for complementarities among scale, advertising
and innovation strategies to arise. In a duopoly with substitute products all variables are higher
for the firm that moves from mass advertising to targeted advertising but decrease for the other.
In an oligopoly with complementary products all variables are higher for all firms when they shift
away from mass marketing. We conclude by linking our results to the empirical literature on
internalization which finds a positive relationship between
. The paper studies the net effect of restructuring on retail prices
and cost-reducinginvestment and discusses policy implications.
JEL classification: D43, L43.
Keywords: Access pricing; investment; double marginalization; vertical fore-
closure; product differentiation.
It is widely believed that introducing competition is the key to achieving the
full benefits of privatization in previously monopolized and regulated
network industries, such as telecommunications, electricity or railways.1
The recent wave of ‘deregulation’ in these industries – i
(b) efficient firms face higher integration incentives. The driving force
are demand/mark-up complementarities in the product market. While this
observation is new in the context of vertical-integration decisions, similar
mechanisms have been exploited in other fields. For instance, Bagwell
and Staiger (1994) and Athey and Schmutzler (2001) use the related idea
that cost-reducinginvestments are strategic substitutes in the context of
many oligopoly models. Complementarities between demand-enhancing
and mark-up-increasing activities are crucial for this result.32
, 117: 55-77.
 Obara, I., (2001), “Private information in repeated games,” Ph. D. thesis.
University of Pennsylvania.
 Parreiras, S. (2005), “Correlated Information, mechanism design and in-
formational rents,” Journal of Economic Theory, 123:210-217.
 Persico, N., (2000), “Information acquisition in auctions,” Econometrica,
 Persico, N., (2004), “Committee design with endogenous information ”,
Review of Economic Studies, 71:165—191.
Obara: The Full Surplus Extraction Theorem with Hidden Actions
 Piccione, M and G. Tan, (1996), “Cost-reducing
6 Hence a firm’s investment xa is given by
ðga þ nÞ2
1 ¼ 0 ð11Þ
where ga :5 gi(xa, xa).
7 Implicit differentiation of (11) shows that investments
under the GPS increase in the output price. Intuitively, for any given
innovation yi a higher price induces more output [see (6)]. This makes cost-
reducinginvestments more beneficial.
Using (6) and (9), expected overall output is
qaðpÞ :¼ E qi þ qjjxa
sE yni jxa
ga þ n
The effect of spillovers on investments and output depends on the
characteristics of the
3 0 0 Μ . S T A D L E R
Für die isoelastische Nachfragefunktion
p(Q) = S 1 / e Q - " e , S,e > 0 ,
ergibt sich aus (B.3) ein Preis
Ρ = r
η - 1/ε
und für die Gewinnfunktion in (B.5)
( B . l l )
Dixit, Α. ( 1 9 8 6 ) , Comparative Statics for Oligopoly. International Economic Review 2 7 ,
Fersbtman, C., Muller, E. ( 1984) , Capital Accumulation Games of Infinite Duration. Journal of
Economic Theory 3 3 , 3 2 2 - 3 3 9 .
Flaherty, Μ. T. ( 1 9 8 0 a ) , Industry Structure and Cost-ReducingInvestment. Econometrica 4 8
welfare implications, which differ from, for example, Cremer et al. (1991) and
others, come from the welfare-maximizing price regulation, not from a location
subgame. However, with endogenous production costs, privatization of the public
firm would improve welfare compared with a mixed duopoly because it would
mitigate the loss arising from excessive cost-reducinginvestments of the private
firm (Matsumura and Matsushima, 2004).
In price-regulated markets such as the hospital industry, firms rather compete in
quality or location than in prices (Brekke, 2004