Entry deterring effects of contractual relations in the dairy processing sector

Abstract

The European Commission has launched the so-called “milk package” in October 2012 that allows Member States to require compulsory written contracts between milk producers and investor-owned processors. We argue that compulsory contracts have anticompetitive effects when they are exclusive in the sense that they comprise the obligation to supply to the contractor only. The objective of this paper is to set up a game theoretic model to analyze imperfect competition on the raw milk market that may result from entry deterring effects of exclusive contracts between dairy producers and processors. Building on the antitrust literature, the model incorporates the specific characteristics of the milk market and considers the risk attitude of milk producers and uncertainty of a rival dairy’s market entry. Under certain combinations of probability of the rival’s market entry and risk aversion of the producer, an incumbent can deter market entry by offering an exclusive contract.