JSTOR is a not-for-profit service that helps scholars, researchers, and students discover, use, and build upon a wide range of content in a trusted digital archive. We use information technology and tools to increase productivity and facilitate new forms of scholarship. For more information about JSTOR, please contact support@jstor.org.. Wiley and RAND Corporation are collaborating with JSTOR to digitize, preserve and extend access to The RAND Journal of Economics.Horizontal subcontracting agreements between rivalfirms, each of which is capable of producing and marketing its products independently, are common. This article explains this practice and evaluates its welfare implications. The analysis shows thatfirms with asymmetric convex costs can use horizontal subcontracting to allocate production more efficiently between them and consequently generate a mutually beneficial surplus. For a wide range ofparameters, this increase in production efficiency leads to an increase in industry output. The counterintuitive result is that welfare is thereby enhanced. In fact, even when industry output falls, welfare can still increase if production costs are sufficiently lowered.

We examine the effects that passive investments in rival firms have on the incentives of firms to engage in tacit collusion. In general, these incentives depend in a complex way on the entire partial cross ownership (PCO) structure in the industry. We establish necessary and sufficient conditions for PCO arrangements to facilitate tacit collusion and also examine how tacit collusion is affected when firms' controllers make direct passive investments in rival firms.

We examine the effects that passive investments in rival firms have on the incentives of firms to engage in tacit collusion. In general, these incentives depend in a complex way on the entire partial cross ownership (PCO) structure in the industry. We establish necessary and sufficient conditions for PCO arrangements to facilitate tacit collusion and also examine how tacit collusion is affected when firms' controllers make direct passive investments in rival firms. While horizontal mergers are subject to substantial antitrust scrutiny and are often opposed by antitrust authorities, passive investments in rivals were either granted a de facto exemption from antitrust liability or have gone unchallenged by antitrust agencies in recent cases (Gilo, 2000). This lenient approach toward passive investment in rivals stems from the courts' interpretation of the exemption for stock acquisitions "solely for investment" included in Section 7 of the Clayton Act.In this article we wish to examine whether this lenient approach of courts and antitrust agencies toward passive investments in rivals is justified. Like other horizontal practices (e.g., horizontal mergers), (passive) partial cross ownership (PCO) arrangements raise two main antitrust concerns: concerns about unilateral competitive effects and concerns about coordinated competitive effects. We focus on the latter and study the effect of PCO on the ability of firms to engage in tacit collusion. To this end, we consider an infinitely repeated Bertrand oligopoly model in which firms and/or their controllers acquire some of their rivals' (nonvoting) shares. This setting allows us to deal with the complexity generated by the chain effects of multilateral PCO. This complexity arises since, in general, the profit of each firm, both under collusion as well as under deviation from collusion, depends on the whole set of PCO in the industry and not only on the firm's own stake in rivals. Another advantage of this model is that PCO does not affect the equilibrium in the one-shot case. Consequently, the competitive effect of PCO comes only from its effect on the incentive of firms to engage in tacit collusion. We say that PCO arrangements facilitate tacit collusion if they expand the range of discount factors for which tacit collusion can be sustained.It might be thought that since PCO allows firms to internalize part of the harm they impose on rivals when deviating from a collusive scheme, any increase in the level of PCO in the industry will necessarily facilitate tacit collusion. This intuition, however, ignores the fact that PCO arrangements create an infinite recursion between the profits of firms that hold each other's shares, both under collusion and following a deviation from collusion. Consequently, PCO arrangements affect the incentive of each firm to collude in a complex and subtle way.Despite this complexity, we are able to prove that an increase in the stake of firm r in a rival firm s never hinders collusion. Moreover, we show that such an increase will surely facil...

The assumption that decision makers choose actions to maximize their preferences is a central tenet in economics. This assumption is often justified either formally or informally by appealing to evolutionary arguments. In contrast, we show that in almost every game and for almost every family of distortions of a player's actual payoffs, some degree of this distortion is beneficial to the player because of the resulting effect on opponents' play. Consequently, such distortions will not be driven out by any evolutionary process involving payoff-monotonic selection dynamics, in which agents with higher actual payoffs proliferate at the expense of less successful agents. In particular, under any such selection dynamics, the population will not converge to payoff-maximizing behavior. We also show that payoff-maximizing behavior need not prevail even when preferences are imperfectly observed.