DP4733 Balance of Power

Author(s): Jan Boone

Publication Date: November 2004

Keyword(s): pricing games , folk theorem , refinement of predicted outcomes , supergames , contestable market

JEL(s): C72 , D43 , L41

Programme Areas: Industrial Organization

Link to this Page: www.cepr.org/pubs/dps/DP4733.asp

This Paper argues that the efficiency distribution of players in a game determines how aggressively these players interact. We formalize the idea of balance of power: players fight very inefficient players but play softly versus equally (or more) efficient players. This theory of conduct predicts that entry by new firms leads to a less aggressive outcome if it creates a balance of power. A balance of power is created if more players get technologies that are close to the most efficient technology. Using a related argument, we show that an increase in entry costs can lead to more aggressive outcomes.