Downstream mergers and producer's capacity choice: why bake a larger pie when getting a smaller slice?

Abstract

In this article, the effect of downstream horizontal mergers on the upstream producer's capacity choice was studied. Contrary to conventional wisdom, I find a nonmonotonic relationship: horizontal mergers induce a higher upstream capacity if the cost of capacity is low, and a lower upstream capacity if this cost is high. This result is explained by decomposing the total effect into two competing effects: a change in holdup and a change in bargaining erosion.