Competition on Inventory Availability and Price

Inventory availability has been widely recognized as an important leverage to enhance the competitive edge of a firm. We study the competition between two retailers who compete on both price and inventory availability. Competition on inventory availability may have important implications on firms' strategies, which has been under-explored in the literature. We develop a game-theoretic framework that integrates the newsvendor and Hotelling models to investigate such competition between retailers. We analyze the strategic interactions among the retailers and customers, and draw the following insights. First, contrary to intuition, the retailers may charge a higher price under competition than in the monopoly setting. A high price signals high product availability, thus facilitating the retailer to attract more customers in the presence of competition. It is well acknowledged that monetary compensation and inventory commitment can mitigate strategic customer behavior and improve a monopoly retailer's profit. In a competitive market, however, both monetary compensation and inventory availability would lead to a prisoner's dilemma. Although these strategies are preferred regardless of the competitor's price and inventory decisions, the equilibrium pro t of each retailer could be lower in the presence of monetary compensation or inventory commitment because either strategy would intensify the competition between retailers. In contrast to the widely held belief that market competition improves customer surplus in general, it may hurt customers in our setting. This is because competition may drive the retailers to charge higher prices to signal inventory availability. We also show that monetary compensation and inventory commitment strategies provide incentives for customers to patronize the retailers, thus mitigating the customer surplus loss caused by competition