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Authors:

• Yongmin CHEN
  University of Colorado at Boulder

• Michael H. RIORDAN

This paper uncovers an unnoticed connection between exclusive contracts and vertical organization. The combination of vertical integration and exclusive contracts results in the exclusion of an equally (or even more) efficient upstream competitor and the increase of downstream prices. Neither of these practices alone achieves these anticompetitive effects. By raising the marginal costs of downstream rivals under exclusive contracts, the vertically integrated firm raises its own marginal opportunity cost as well. The ex post effect is a cartelization of the downstream industry. The analysis concerning a downstream duopoly extends to a "spokes" model and a circle model of multiple downstream competitors.