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How to Auction an Essential Facility When Underhand Integration is Possible

Author

Listed:
  • Eduardo Engel

    (Department of Economics, Yale University)

  • Ronald Fischer
  • Alexander Galetovic
Abstract
Regulating seaports is difficult in general, even more so for the weak regulatory institutions common in developing countries. For this reason some countries have awarded these facilities via Demsetz auctions, to the port operator that bids the lowest cargo-handling fee. A major concern with Demsetz auctions in this context, is that the winning operator may integrate with a shipper and monopolize the shipping market, by worsening the service quality for competing shippers. The standard policy recommendation against service quality discrimination is to ban the seaport from operating in the shipping market. The effectiveness of such prohibitions is suspect, however, because they can be circumvented by an (illegal) underhand agreement between the port operator and the shipper. In this paper we show that a ban on integration increases welfare if it is combined with a (sufficiently high) floor on the cargo-handling fee that operators can bid in the auction. In the absence of such a floor, however, a Demsetz auction is worse than no regulation at all of the bottleneck monopoly. Our results apply beyond the port and shipping markets, to any essential facility that can monopolize a downstream market. The results only require that profits with underhand vertical integration agreements be less than with legal vertical integration.

Suggested Citation

  • Eduardo Engel & Ronald Fischer & Alexander Galetovic, 2002. "How to Auction an Essential Facility When Underhand Integration is Possible," Working Papers 839, Economic Growth Center, Yale University.
    • Handle: RePEc:egc:wpaper:839
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    File URL: http://www.econ.yale.edu/growth_pdf/cdp839.pdf
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    References listed on IDEAS

    as
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    Cited by:

    1. Eduardo Engel & Ronald Fischer & Alexander Galetovic, 2002. "Competition In or For the Field: Which Is Better?," Cowles Foundation Discussion Papers 1358, Cowles Foundation for Research in Economics, Yale University, revised Jul 2007.
    2. Engel, Eduardo & Fischer, Ronald & Galetovic, Alexander, 2005. "Highway franchising and real estate values," Journal of Urban Economics, Elsevier, vol. 57(3), pages 432-448, May.
    3. Rodrigo Gutierrez & Pablo Serra & Ronald Fischer, 2003. "The Effects of Privatization on Firms and on Social Welfare: The Chilean Case," Research Department Publications 3150, Inter-American Development Bank, Research Department.
    4. Alexander Galetovic, 2003. "Integración Vertical en el Sector Eléctrico: Una guía para el usuario (Vertical integration in the electricity sector)," Documentos de Trabajo 158, Centro de Economía Aplicada, Universidad de Chile.
    5. Ronald Fischer & Rodrigo Gutiérrez & Pablo Serra, 2002. "The Effects of Privatization on Firms and on Social Welfare," Documentos de Trabajo 131, Centro de Economía Aplicada, Universidad de Chile.

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    More about this item

    Keywords

    auctions; ex ante vs. ex post rents; Demsetz auctions; hidden action; monopoly regulation; productive efficiency; vertical integration;
    All these keywords.

    JEL classification:

    • D44 - Microeconomics - - Market Structure, Pricing, and Design - - - Auctions
    • L12 - Industrial Organization - - Market Structure, Firm Strategy, and Market Performance - - - Monopoly; Monopolization Strategies
    • L92 - Industrial Organization - - Industry Studies: Transportation and Utilities - - - Railroads and Other Surface Transportation

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