Title
Uniform and Competitive Capacity Allocation Mechanisms with Demand Competition: The Gaming Effect
Date of Original Version
10-2-2011
Type
Working Paper
Abstract or Table of Contents
We consider a supply chain in which multiple retailers source a common product from a supplier with limited capacity. When retailer orders exceed available capacity, the supplier allocates his capacity using some allocation mechanism. When retailers are local monopolists, it is well known that uniform allocation eliminates the "gaming effect" so that each retailer orders her ideal allocation in equilibrium. However, when two retailers engage in Cournot competition, a recent study has shown that uniform allocation fails to eliminate the gaming effect so that some retailer may inflate her order strategically. By examining a more general situation in which two or more retailers engage in Cournot competition, we establish exact conditions under which uniform allocation fails to eliminate the gaming effect. These conditions suggest that the gaming effect occurs due to the property of uniform allocation that favors smaller retailers. Building on this intuition, we construct a mechanism, called competitive allocation, that can eliminate the gaming effect. Without inflated orders from the retailers, the supplier's profit could be lower under competitive allocation than under uniform allocation, but we show that this is true only when a certain restrictive condition is satisfied. In contrast, competitive allocation generates higher average profits for the retailers and for the supply chain, hence reducing the inefficiency of the decentralized supply chain.