Cartel Enforcement with Uncertainty About Costs
What cartel agreements are possible when firms have private information about production costs? In order for a cartel agreement to work it must take into account the incentives for firms to misrepresent their cost information and it must provide sufficient reward so that no firm wishes to defect. For private cost uncertainty we characterize the set of cartel agreements with side payments that can be supported as Bayesian Nash equilibria. We show that if defection results in either Cournot or Bertrand competition the incentive problems in large cartels are severe enough to prevent the cartel from achieving the monopoly outcome. In contrast, with common cost uncertainty, the incentive problems become less severe in large cartels, allowing perfect collusion.
We would like to thank Richard Kihlstrom, participants at the Conference on Theoretical Industrial Organization at the University of Pennsylvania, and participants of the Applied Microeconomics Workshop at Stanford University for valuable comments. We are grateful to Northwestern University for their hospitality and to the Sloan Foundation and the National Science Foundation for support. Published as Cramton, Peter C., and Thomas R. Palfrey. "Cartel enforcement with uncertainty about costs." International Economic Review (1990): 17-47.
Submitted - sswp619.pdf