Profit-Raising Entry with Heterogeneous Incumbent Firms

Abstract

This paper studies profit-raising entry with heterogeneous incumbent firms. In a homogeneous-product Stackelberg model with two incumbent leaders and a follower entrant, entry always increases total output. However, profit effects depend on incumbent cost asymmetry. Because outputs are strategic substitutes, the inefficient incumbent contracts output more after entry, relaxing competition and allowing the efficient incumbent to gain. With intermediate entrant efficiency, entry raises the efficient incumbent’s profit, acting as a selection mechanism.