Exclusion Through Speculation

An earlier version of this paper was published as TILEC discussion paper 2010-027, http://ssrn.com/abstract=1651112Many commodities are traded on both a spot market and a derivative market. We show that an incumbent producer may use purely financial derivatives to extract rent from a potential entrant. It can do so by selling derivatives to a large buyer for more than his expected production level. This exclusionary scheme comes at the cost of inefficiently deterring entry and creating too much risk for the buyer. We further show that it can still be used when contracts are offered anonymously through a broker, as the incumbent can signal its identity by adjusting the contracting terms.Bert Willems’ work was funded under a Marie Curie Intra European Fellowship (PIEF-GA-2008-221085