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Economic integration and firm fragmentation

Purdue University
Publication Date
  • Economics
  • General|Economics
  • Commerce-Business|Economics
  • Theory
  • Economics


We model divisionalization as a two-stage simultaneous move duopoly game. In stage one, firms simultaneously establish divisions. In stage two, all divisions play a Cournot game. The major contribution of this thesis is to generalize the analysis of strategic firm structure in simultaneous move games to include asymmetries cost asymmetries between firms and to allow multiple markets. ^ We show that if divisionalization costs are positive but sufficiently low and if the variable cost asymmetry is sufficiently low, there exists a SPNE in which both firms establish multiple divisions and earn positive profits. ^ Our analysis implies that firm structure can be used to deter entry in simultaneous move games. In a single market, when there is production cost asymmetry the low production cost firm can be the sole supplier if the production cost asymmetry is sufficiently high to let this firm to be a monopolist with only one division. Similarly, in multiple markets, when firms supply foreign countries through exports, we show that a local firm can forestall entry to its domestic market by establishing a number of divisions above a critical level, provided that it has a cost advantage or the barriers to trade are high and the setup cost is sufficiently low. ^ We analyze the impact of economic integration on firm fragmentation. Our results indicate that if economic integration lowers tariff rates sufficiently or decreases barriers to FDI, it benefits consumers by causing an increase in total quantity. ^

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