Taking firms' margin targets seriously in a model of competition in supply functions

Abstract

This article deals with the integration of industry‐level markup targets into oligopoly theory. It proposes a behavioral competition model in which firms use the average cost‐plus price to determine their supplies. Specifically, firms are assumed to increase (resp., decrease) their supplies as the market price rises over (resp., falls below) this reference price. The equilibrium market outcome lies between those corresponding to Bertrand and Cournot competition. It depends on the industry's margin target, which determines the slope of firms' supply functions. The more significant the markup target is, the lower are the firms' equilibrium supplies at any price level and the higher is the equilibrium market price. An industry‐wide commitment to targeting a markup thus reduces competition in equilibrium. The reduction in competition is more pronounced than when firms commit to linear supply functions.