Capacity sharing, product differentiation and welfare

TLDR

The study constructs a duopoly with differentiated products to examine how capacity constraints and sharing affect profits, consumer surplus, and social welfare. The authors model three capacity scenarios—both firms fully capable, one firm constrained while the other has excess capacity unshared, and one firm constrained with the other sharing excess capacity—and analyze the resulting outcomes. Capacity sharing raises producer surplus and social welfare, mitigates welfare losses from constraints, but requires both firms to be profitable and appropriately priced; product differentiation influences outcomes but is limited by capacity constraints and sharing.

Abstract

This article constructs a duopoly market with product differentiation and analyses profits, consumer surplus and social welfare under three conditions: (a) two enterprises have sufficient capacity; (b) one enterprise has insufficient capacity, and another enterprise has excess capacity that is not shared; and (c) one enterprise has insufficient capacity, and another enterprise has excess capacity and engages in capacity sharing. Through comparison, the implementation conditions for and effects of capacity sharing and the role of product differentiation are revealed. The results show that capacity sharing helps increase producer surplus and social welfare. Capacity constraints reduce social welfare but can be solved by capacity sharing. Capacity sharing can only be realised when both enterprises are profitable, and the charge for capacity sharing should not be too high or too low. Product differentiation has impacts on output, profit, consumer surplus and social welfare, and these impacts are restricted by the existence of capacity constraints and capacity sharing.