Transport Cost Sharing and Spatial Competition

Sudipta Sarangi and Hrachya Kyureghian

Departmental Working Papers from Department of Economics, Louisiana State University

Abstract: We consider a linear city model where both firms and consumers have transport costs. Following a standard Hotelling (1929) type framework we analyze a duopoly where firms choose locations and prices, with the transportation rate being linear in distance. A continuum of consumers is uniformly distributed along the city. Many real world phenomena impose costs on both buyers and sellers. Purchasing through mail-order involves costly waiting time and effort on the part of the consumers even if the firms provide free shipping. Large software firms often make a standard software package which is customized to suit the needs of individual clients. This cost of customization is usually shared by both the buyer and the seller. We model the two different transport costs by assuming one transport cost which is then shared by the buyers and sellers. The sharing rule is assumed to be given exogenously. From a theoretical point of view the model is interesting since it generates mill pricing and uniform delivery pricing only as special cases. When the consumers bear the entire burden we are in the realm of mill pricing and when firms pay the entire transport cost we have the uniform delivery price model. We derive a pure strategy equilibrium for the two stage location-price game. We characterize the conditions in our model that allow for the existence of such a pure strategy equilibrium. Results are compared with the mill price and uniform delivery price models, both of which are known not to have a price equilibrium in pure strategies. We solve for the equilibrium of a location game between the duopolists with an exogenously given price. We also find that when the two firms are constrained to locate at the same spot, the resulting price competition leads to a mixed strategy equilibrium which always yields positive expected profits.

Date: 2001-03
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Working Paper: Transport Cost Sharing and Spatial Competition (2004)
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