Vertical Integration and Costs

Double marginalization

Occurs when both firms markup prices

Supply Chain

Process starting with raw materials, moving downstream to final goods.

Vertical integration

Producer integrates to change marginal cost

Pass through rate

Rate of wholesale price increase passed to consumers

Increased Costs of Vertical Integration

Rising costs due to expertise acquisition and managerial challenges.

Divestiture

Selling off business lines, often for antitrust approval.

Monopoly distributor

Sells to monopoly retailer

Notation

Symbols used to represent prices, costs, and demand in economic analysis.

Technological Interdependency

Technology requiring continuous input flow between production stages.

Forward Integration

Acquiring downstream productive capacity.

Backward Integration

Acquiring upstream productive capacity.

Apple Maps

Apple's navigation service developed after terminating Google Maps contract.

Transaction-Specific Asset

Asset dedicated to one purpose, not easily repurposed.

Assumptions

Basic premises for analysis, like constant marginal cost and no synergies.

Vertical Integration

Business strategy acquiring productive capacity upstream or downstream.

Retailer's marginal cost

Calculated as MC = PW + MCR

Vertical Entry

Entering another supply chain layer by purchasing assets like land.

Franchise fee

Fixed fee paid to manufacturer

Spot Markets

Immediate delivery markets without legal buyer-seller relationships.

Vertical foreclosure

Integrated firm restricts input to competitor

Contracts

Legal agreements specifying responsibilities between buyers and sellers.

Wholesale demand curve

Lies below retail demand curve by MCR

Resale price maintenance

Manufacturer restricts retail price

Perfectly Competitive Retail Market

Market structure where firms produce at P = MC for profit maximization.

Perfectly competitive retail distribution firms

Maximize profit by producing where P = MC

Vertical Merger

Merging with another firm at a different supply chain layer.

Non-linear pricing

Method to avoid double marginalization

Transaction Costs

Costs of using markets, including taxes and information costs.

Hold-Up Problem

When one party renegotiates terms after investment, affecting profits.

Derived Demand

Wholesale demand derived from retail demand, influenced by market structure.

Transfer Pricing

Within-firm price for transferred inputs affecting tax implications.

Outsourcing

Contracting outside suppliers for input production.

Synergies

Cost savings from eliminating duplicated services.