Strategic bypass deterrence

Abstract

In liberalized network industries, competitors can either compete for service using the existing infrastructure (access) or deploy their own capacity (bypass). We revisit this make-or-buy problem making two contributions to the literature. First we analyze both the profit maximizing behavior of an incumbent and the welfare maximizing behavior when the entrant chooses between access and bypass. Second, we extend the baseline model studied in the literature by allowing for fixed costs of network installation. By analogy to the literature on strategic entry deterrence, we distinguish three régimes of blockaded bypass, deterred bypass and accommodated bypass depending on the entrant's unit cost. We show that the make-or-buy decision of the entrant is not necessarily technologically efficient: when bypass is chosen, it is always the cheapest option but access may be chosen when it is not cost effective. Keywords Make-or-buy • Access price • Bypass We are grateful to the editor, two anonymous referees, M. Armstrong, P. Belleflamme, C. Cambini, F. Etro, B. Lyons, K. Mizuno and conference participants at the IIOC (Washington) and EARIE (Roma) for helpful comments. This research was funded through the ARC Grant for Concerted Research Actions, financed by the French-speaking Community of Belgium.