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Question:

Does vertical integration leads to more efficiency or inefficiency for a firm?

for example, an iron and steel company aquiring a lease for an iron ore mine?

Answer:

It will lead to more efficiency. In this situation there is a wholesaler and a retailer (although you wouldn't necessarily think of an iron ore mine as a wholesaler). When there are two firms the wholesaler has a marginal cost and to make profits they have to sell above their marginal cost. The retailer has a marginal cost as well, in the simplest situation the marginal cost is the price that the wholesaler sets. The retailer will then set a price to the consumer above this price. When there is vertical integration the wholesaler now provides the product directly to the retailer and the only mark-up is to the consumer. The profit maximizing price to the consumer is lower than before (I'm not going to do the proof because it takes too long but the price goes from [3A + c] / 4, to [A + c] / 2, where c is the wholesaler's marginal cost and cA). However, vertical integration can also lead to anticompetitive effects. They can help facilitate price descrimination. It can also lead to oligopolies, one vertical merger could set off a string of other vertical mergers.

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