DP10914 Demand-Driven Integration and Divorcement Policy

Author(s): Patrick Legros, Andrew Newman
Publication Date: November 2015
Keyword(s): OIO, reverse causality, theory of the firm, vertical integration
JEL(s): D23, D43
Programme Areas: Industrial Organization
Link to this Page: cepr.org/active/publications/discussion_papers/dp.php?dpno=10914

Industrial organization's concern with vertical integration has traditionally been limited to considering the effects on market outcomes, in particular product prices: they increase because integration enhances market power, or they decrease because it yields efficiency gains. This note offers a theoretical argument for reverse causality, from prices -- more generally, demand -- to integration. If, as many organizational theories in suggest, integration has positive effects on production efficiency and has any costs that are largely independent of output, then bearing those costs is more attractive when prices are higher, as when there is high demand. Therefore high prices lead to more integration. We discuss evidence for this reverse causality and its implications for regulation.