DP2557 In-House Competition, Organizational Slack and the Business Cycle

Author(s): Rudolf Kerschbamer, Yanni Tournas
Publication Date: September 2000
Keyword(s): Capacity, Competition, Demand Fluctuations, Slack
JEL(s): D20, D82, F23, L22
Programme Areas: Industrial Organization
Link to this Page: cepr.org/active/publications/discussion_papers/dp.php?dpno=2557

This paper analyses the impact of variations of product demand on the amount of internal slack in multi-plant firms in a model in which facilities can produce output at a privately known cost up to a previously-determined capacity level. In such a model, the amount of slack in the firm is shown to be pro-cyclical. Indeed, as capacity constraints become tighter in booms, slack increases in booms, because the power of in-house competition is reduced, while the opposite is true in downturns. Also, in downturns the firm may use high-cost facili-ties even when low-cost plants are not running at capacity.