THE ECONOMICS OF SLOTTING CONTRACTS. Joshua D. Wright George Mason University Silicon Flatirons Law and New Institutional Economics Workshop June 4, 2009. This paper is co-authored with Benjamin Klein and appears at 50 J.L.E. 421 (2007) Empirical follow up piece for those interested:
THE ECONOMICS OF SLOTTING CONTRACTS
Joshua D. Wright
George Mason University
Silicon FlatironsLaw and New Institutional Economics Workshop
June 4, 2009
Slotting Contracts and Consumer Welfare, 74 Antitrust Law Journal 439 (2007).
Anticompetitive theories grounded in retail bargaining power and/or manufacturer exclusion of rivals do not explain the growth and prevalence of slotting contracts:
Frequently used by manufacturers and with small market shares
Most involve only short-term shelf space commitments
Significant economies of scale in manufacturing are absent for many grocery products where we observe slotting contracts
Anticompetitive theories do not explain the growth of supermarket slotting contracts in the 1980s
Slotting contracts solve incentive incompatibility involving retailer undersupply of promotion when there are little or no inter-retailer competitive effects from the supply of promotional shelf space
Retailers supply less than the joint profit-maximizing level of promotion because they do not consider the manufacturer profit margin on incremental sales
For many products
For Price Competition:
inter-retailer competitive effects offset the relatively small retail margin to approximately produce the optimum amount of retail price competition
(1)(PR – MCR) = (PW – MCM)
is much greater than
because there are
inter-retailer competitive effects
in addition to
inter-brand competitive effects
However, because promotional shelf space creates “impulse sales”, there are small inter-retailer demand effects
(3) (PR – MCR) < (PW – MCM)
The distortion is not present on all forms of non-price competition.
If consumers value the non-price service and will switch retailers in response to its supply, e.g., free parking, the joint profit-maximizing quantity will be supplied.
(PR – MCR) = (PW – MCM)
In these fairly general circumstances, the manufacturer will want the retailer to provide more promotional shelf space for its products than the retailer would otherwise provide and a separate contract for shelf space will be necessary.The greater the manufacturer margin compared to retailer margin, the greater is this distortion.
Because retailers do not adequately take account of manufacturer profitability on incremental sales in deciding on product shelf space allocation.
Even if every product had the same manufacturer margin and the same effect of shelf space on its impulse sales, each manufacturer would desire that increased promotional shelf space be provided for its products, increasing the value of retailer shelf space.
The Efficient Form of Slotting Contracts