On the role of demand and strategic uncertainty in capacity investment and disinvestment dynamics

David Besanko, Ulrich Doraszelski*, Lauren Xiaoyuan Lu, Mark Satterthwaite

*Corresponding author for this work

Research output: Contribution to journalArticlepeer-review

8 Scopus citations

Abstract

Even mature industries seldom settle down into a long-run steady state. Fluctuations in demand disrupt the status quo and call for firms to adjust their capacities on an ongoing basis. We construct a fully dynamic model of an oligopolistic industry with lumpy capacity and lumpy investment/disinvestment decisions. In addition to uncertainty about the evolution of demand, a firm faces strategic uncertainty concerning the decisions of its rivals. We numerically solve the model for its Markov-perfect equilibria. For one set of parameter values, three equilibria exist, and while all of them have simple, intuitive structures, they exhibit widely varying patterns of response to demand shocks. At one extreme, one firm dominates the industry almost as a monopolist and changes its capacity to accommodate demand. At the other extreme, the larger firm keeps its capacity nearly constant while the smaller firm acts as the swing producer.

Original languageEnglish (US)
Pages (from-to)383-389
Number of pages7
JournalInternational Journal of Industrial Organization
Volume28
Issue number4
DOIs
StatePublished - Jul 2010

Keywords

  • Capacity investment and disinvestment
  • Demand uncertainty
  • Dynamic stochastic games
  • Markov-perfect equilibrium
  • Strategic uncertainty

ASJC Scopus subject areas

  • Industrial relations
  • Aerospace Engineering
  • Economics and Econometrics
  • Economics, Econometrics and Finance (miscellaneous)
  • Strategy and Management
  • Industrial and Manufacturing Engineering

Fingerprint Dive into the research topics of 'On the role of demand and strategic uncertainty in capacity investment and disinvestment dynamics'. Together they form a unique fingerprint.

Cite this