Relaxing Competition Through Speculation: Committing to a Negative Supply Slope

TILEC Discussion Paper No. 2012-039

CentER Discussion Paper Series No. 2012-088

33 Pages Posted: 13 Nov 2012

See all articles by Par Holmberg

Par Holmberg

Research Institute of Industrial Economics (IFN)

Bert Willems

UCLouvain - LIDAM / CORE; Tilburg University - Department of Economics - CentER & TILEC; University of Toulouse 1 - Toulouse School of Economics (TSE)

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Date Written: November 12, 2012

Abstract

We demonstrate how suppliers can take strategic speculative positions in derivatives markets to soften competition in the spot market. In our game, suppliers first choose a portfolio of call options and then compete with supply functions. In equilibrium firms sell forward contracts and buy call options to commit to downward sloping supply functions. Although this strategy is risky, it reduces the elasticity of the residual demand of competitors, who increase their mark-ups in response. We show that this type of strategic speculation increases the level and volatility of commodity prices and decreases welfare.

Keywords: supply function equilibrium, option contracts, strategic commitment

JEL Classification: C73, D43, D44, G13, L13, L94

Suggested Citation

Holmberg, Par and Willems, Bert, Relaxing Competition Through Speculation: Committing to a Negative Supply Slope (November 12, 2012). TILEC Discussion Paper No. 2012-039, CentER Discussion Paper Series No. 2012-088, Available at SSRN: https://ssrn.com/abstract=2174359 or http://dx.doi.org/10.2139/ssrn.2174359

Par Holmberg (Contact Author)

Research Institute of Industrial Economics (IFN) ( email )

Box 55665
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Stockholm, SE-102 15
Sweden

Bert Willems

UCLouvain - LIDAM / CORE ( email )

Place Montesquieu, 3
Louvain-la-Neuve, 1348
Belgium

Tilburg University - Department of Economics - CentER & TILEC ( email )

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HOME PAGE: http://www.bertwillems.com

University of Toulouse 1 - Toulouse School of Economics (TSE) ( email )

Place Anatole-France
Toulouse Cedex, F-31042
France

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