Speculative constraints on oligopoly

Abstract

We examine an infinite horizon game in which producers’ output can be purchased by speculators for resale in a future period. The existence of speculators serves to constrain the feasible set of prices that can result from producers’ output game in each period. Absent speculation, producers play a repeated Cournot game with random demand. With speculative inventories possible, the game becomes a dynamic one in which speculative stocks are a state variable which firms can control via their influence on price. We employ collocation methods to find the unknown expected price and value functions required for computation of equilibrium quantities. We demonstrate that strategic considerations result in an incentive to sell to speculators that is non-monotonic in the number of producers: speculation has the largest effect on equilibrium prices and welfare for market structures intermediate between monopoly and perfect competition. Using a computed example, we demonstrate that the effect of speculative storage on the average price level can be substantial, even though the effects on social welfare can be ambiguous.