92817 - Economic Analysis of Business Strategic Decisions

Learning outcomes

This course considers a broad array of business strategies that firms adopt when they compete with rivals, or when they decide to collaborate. In particular, it aims to combine a sound theoretical analysis of strategic decisions along with their managerial implications. On the one hand, the economic theory of strategic behaviour often neglects the real context in which firms operate. On the other hand, the simple analysis of case studies may lead only to a partial interpretation of such strategic behaviour. By taking this course, participants will understand both the economic rationale and the practical implications of adopting different business strategies in contexts such as: strategic innovation, competitive advantage, standard adoption and compatibility, network effects, and coopetition.

Course contents

1. Pricing strategies and market segmentation

This part of the course discusses the strategies that firms may adopt in order to segment markets and, potentially, extract more consumer surplus by effectively selling at different prices to different consumers.

The availability of different price discrimination strategies depends on how well a firm knows its consumers’ willingness to pay and which type of tariff instruments it can use.

The effects that these various forms of price discrimination have on profits and on welfare depend crucially on the degree of competition in the industry. In monopolistic industries, more information and a wider range of tariff instruments can only increase the firm’s profits (at the expense of consumer surplus, the effect on welfare being ambiguous). In oligopolistic industries (or in monopoly markets in which the monopolist lacks commitment power), however, it is much less clear whether more information and more instruments translate into higher profits. The positive surplus-extracting effect of price discrimination may be offset by its negative competition-enhancing effect.

2. Asymmetric information on product quality/markets for experience goods

Here, we examine products and services with characteristics that can only be ascertained upon consumption because they are difficult to observe in advance. We talk here of experience goods.

Managing experience goods is the day-to-day concern of large firms selling consumer goods. These firms frequently introduce new branded products. They are always interested in convincing consumers that the new product satisfies their wants. Perhaps the main challenge when launching a new product is that consumers do not observe the quality of the product, as is typically the case with experience goods. Similarly, firms that enter an otherwise perfectly competitive industry with a patented product (or, alternatively, open new markets with a proprietary technology) often produce an experience good.

These markets are characterized by asymmetric information as consumers have less information than the producers about product quality. In such markets, firms have to convince consumers that their products are of high quality. To this end, firms can use a variety of marketing instruments.

3. Strategic incumbency and entry decisions

If entry barriers in an industry are sufficiently large, entry is said to be blockaded for additional firms. In some markets, entry barriers are at a level that only a single firm can enter. In such a situation, the single incumbent firm can behave as a monopolist without fearing entry. In contrast, for lower entry barriers, entry is a threat that the incumbent cannot ignore. Facing potential entry, the incumbent will thus react strategically with a view either to make entry unprofitable or, at least, to minimize the harm that entry causes. Entry is said to be deterred in the former case, and accommodated in the latter.

Because an incumbent is already established in the industry, it has the advantage of being able to act before a potential entrant decides whether or not to enter. However, acting before is not sufficient to influence the entrant’s decision: the incumbent must also act in a credible way. A threat to make the entrant’s life impossible or hard if it enters can only be effective if this threat is turned into a commitment. That is, the incumbent’s action must modify its incentives in such a way that if entry was to happen, it would be in the incumbent’s best interest to carry out the threat.

To achieve such commitment, the incumbent will invest prior to entry and in an irreversible way in some strategic variable that will affect its future conduct and, thereby, the profits the entrant could attain upon entry. It may also affect directly the entry cost so that this cost becomes endogenous.

4. Vertically related markets

Firms that sell products usually require inputs, which are produced by other firms in an upstream industry (which again may require inputs from other firms). This leads to a vertical supply chain that is needed to produce a final product.

Inputs are often provided by firms with market power. We then have to take the whole vertical supply chain into account to understand how markets function. For instance, can upstream firms deny competitors access to their distribution channel, for example, because they have signed an exclusive dealing contract with their retailers? Also, what are the effects of vertical mergers?

 

Prerequisite knowledge

Industrial economics - Master's level [https://www.unibo.it/en/study/phd-professional-masters-specialisation-schools-and-other-programmes/course-unit-catalogue/course-unit/2023/492161] and Microeconomics - Master's level [2024/2025 MODELING INDIVIDUAL BEHAVIOUR — University of Bologna (unibo.it) [https://www.unibo.it/en/study/phd-professional-masters-specialisation-schools-and-other-programmes/course-unit-catalogue/course-unit/2024/492155]

Readings/Bibliography

Belleflamme, Paul, and Martin Peitz. Industrial organization: markets and strategies. Cambridge University Press, 2015.

Teaching methods

During the lectures, the presentation of theoretical issues will be complemented by critical discussion of case studies and/or recent academic publications.

Assessment methods

Students will be assessed based on four weakly problem-sets, and a final in-class exam.

The final examination aims at evaluating the achievement of the following goals:

- knowledge of the models discussed in class

- ability to use the acquired knowledge to solve practical exercses.

The problem sets will be published on the course' e-learning platform.

In the problem-sets (accounting for 5% of the mark each) students will have to comment or interpret graphs, figures and equations from the studies discussed in class, or briefly summarize the results. For the problem-sets teamwork is allowed but in the end each student will have to hand in his own answer, and “carbon-copied” works will be strongly penalized.

The final exam (80% of the mark) will last 2 hours, and will include a set of 6 questions of increasing complexity, covering both the mathematical/analytical aspects of the models discussed in class and their interpretation.

The maximum possible score is 30 cum laude, in case all answers are correct, complete and formally rigorous.

The grade is graduated as follows:
<18 failed
18-23 sufficient
24-27 good
28-30 very good
30 e lode excellent

The exam will be held in the computer lab. Questions will be randomly extracted from a predefined set, so the exam content will be different for each student. In case online exams will be envisaged by the University of Bologna, the structure of the written exam is the same. The exam will be run through Zoom and Exams Online (EOL). Detailed instructions on how to manage and hand in the online exam are available on the course page on the VIRTUALE platform.

In the final exam students may use calculators (but not other electronic devices), but they may not communicate with others, consult notes, books, or other written material. Any attempt to violate these rules will result in the student's exclusion from the exam.

At the end of the course, students have the opportunity to choose one paper at the frontier of the literature and briefly discuss it in a short presentation. The presentation is optional, and can lead to a marginal increase (or decrease) of the final grade.

Teaching tools

Case studies will be discussed to introduce each topic.

Lecture notes will be made available before each class on the Virtuale platform.

The four problem sets will also be published and graded on Virtuale.

Office hours

See the website of Maria Bigoni