The bigger the stickier : asymmetric adjustment to negative demand shocks

Abstract

This article studies the response to unanticipated demand shocks in a simultaneous competition duopoly model, where adjustment is simultaneous as well it has no cost and it is characterized by a single choice to adjust or not previous plans. In line with former analyses, responses are asymmetric in two dimensions: firms always react to positive demand shocks while they may not react to negative ones and, when demand shocks are negative and small-sized, only a single firm adjusts its previous decisions. Since in the baseline model firms are identical, it is undetermined which firm will adjust its decisions. Allowing for different marginal costs generates a third type of asymmetry: There are medium-sized negative shocks such that only the firm with higher marginal costs adjusts its price or quantities. This result suggest that the bigger firm is less willing to modify its plans after the shock. This result is robust to other demand specifications and does not depend on the shock being unanticipated. Furthermore, the analysis suggest that it is possible for a negative shock to reduce market concentration, but this situation is not likely.