Prices, Spatial Competition, and Heterogenous Producers: An Empirical Test
NBER Working Paper No. 12231
In markets where spatial competition is important, many models predict that average prices are lower in denser markets (i.e., those with more producers per unit area). Homogeneous-producer models attribute this effect solely to lower optimal markups. However, when producers instead differ in their production costs, a second mechanism also acts to lower equilibrium prices: competition-driven selection on costs. Consumers’ greater substitution possibilities in denser markets make it more difficult for high-cost firms to profitably operate, truncating the equilibrium cost (and price) distributions from above. This selection process can be empirically distinguished from the homogenous-producer case because it implies that not only do average prices fall as density rises, but that upper-bound prices and price dispersion should also decline as well. I find empirical support for this process using a rich set of price data from U.S. readymixed concrete plants. Features of the industry offer an arguably exogenous source of producer density variation with which to identify these effects. I also show that the findings do not simply result from lower factor prices in dense markets, but rather because dense-market producers have low costs because they are more efficient.
Document Object Identifier (DOI): 10.3386/w12231
Published: Syverson, Chad. “Prices, Spatial Competition, and Heterogeneous Producers: An Empirical Test.” Journal of Industrial Economics 55, 2 (June 2007): 197-222.
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