Limit pricing with complementary goods

Abstract

Purpose

This paper aims to examine the equilibrium limit price charged by a producer trying to deter the entry of a firm that can choose one of the two markets of complementary goods.

Design/methodology/approach

The authors model a dynamic game of incomplete information solved using a “perfect Bayesian equilibrium” approach.

Findings

It is shown that an incumbent will be willing to spend more resources – i.e. charge a lower limit price – to deter entry into its market as products become more complementary. This is because additional benefits are gained from entry deterrence by facing a more competitive market in the complementary product. The additional benefits of entry deterrence are shown to be a function of the degree of complementarity between goods.

Practical implications

A managerial implication of this article is that firms are willing to compete more fiercely to send an entrant to the other's incumbent market as the degree of complementarity between goods increases. An interesting conclusion that is derived from the above analysis is that managers should invest to understand the interdependences (e.g. complementarities) of the goods they sell, since the strategic variables chosen to compete may be affected by them, in some cases in a non‐trivial way.

Social implications

From a public policy perspective, the main contribution of this paper is to point out that regulators who analyze predatory pricing, or other (probably) illegal “low‐price strategies”, should consider the degree of complementarity between goods and its effect on pricing.

Originality/value

As far as the authors' knowledge goes, there are no other papers that analyze entry decisions involving multiple markets of complementary goods.

Citation

Tarziján, J. (2011), "Limit pricing with complementary goods", Journal of Modelling in Management, Vol. 6 No. 2, pp. 215-224. https://doi.org/10.1108/17465661111149593