Conjectural Variation Models and Supergames with Price-Competition in a Differentiated Product Oligopoly.

Conjectural variation models are popular in empirical research as they infer the degree of market power from real data. IO-theorists, however, disapprove it for lack of theoretical foundation, arguing that dynamic reactions are forced into a static model with the strategy space and time horizon only loosely defined. The presented model follows an idea put forward by Cabral (1995) and demonstrates that the CV-model can be interpreted as the joint profit maximising steady state reduced form of a price setting supergame in a differentiated product market under optimal punishment strategies. For the symmetric two firm case the CV-parameter is shown to cover the full range of possible outcomes depending on product differentiation, market growth, bankruptcy risk and the discount rate.