Simulating Vertical Mergers

We study the effects of a vertical merger in a standard setting with a single upstream supplier of a critical input and two downstream customers that compete with each other. Initially, the upstream supplier first announces prices, then the two downstream customers announce their retail prices. We show that this pre-merger timing does not survive a vertical merger. The merged firm may choose to be either a first mover or a second mover in the post-merger pricing game with its unintegrated rival. Our results suggest that a vertical merger is unlikely to lead to a significant upstream price increase unless the downstream firm involved in the merger is relatively large. In such a case, an upstream price increase is to be expected. For vertical mergers involving a large downstream firm, in most simulations the merged firm reduces its downstream price. Its rival often increases its price. In all simulations, the rival is caught in a price squeeze. This calls into question the rival’s long-term viability.