Matthew J Clayton, Bjorn N Jorgensen
ABSTRACT
We consider a two stage game where two firms first take positions in
each other's equity (cross holding) and next compete in an imperfect product
market. When the firms' products are substitutes, the optimal cross holding
involves a short position in the competitor's equity, resulting in an equilibrium
with larger quantities produced, lower firm and industry profits, and higher
consumer surplus than an equilibrium where short-selling is prohibited.
This provides a new rationale for short selling that does not rely on capital
market imperfections, such as taxes or private information. In contrast,
when two firms' products are complements, a long position in the competitor's
equity is optimal, yielding higher quantities and lower prices which results
in higher consumer welfare, and higher firm and industry profits.
Subject: Economics/Industrial Organization (Theoretical)
Clayton: (212) 998-0309 mclayton@stern.nyu.edu
Jorgensen: (617) 493-8787
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