Investment timing and predatory behavior in a duopoly with endogenous exit

This paper investigates the interplay of investment irreversibility and endogenous exit in a duopoly with aggregate demand uncertainty. Endogenous exit and investment irreversibility produce predatory behavior in very competitive industries in which prices react strongly to changes in quantity and in which capacity increases are not too costly. When the market is in decline, firms increase capacity in order to subsequently monopolize this market upon a further decrease in demand. Predatory behavior is particularly likely to occur if fixed costs of operation are substantial. Large uncertainty has the opposite effect and makes predatory behavior less prevalent. Predation occurs as investment irreversibility gives commitment power to delay one's own exit and to promote the exit of a competitor. This explains predatory behavior in a duopoly without invoking reputation, network effects, or learning effects.