Cartel Pricing Dynamics, Price Wars and Cartel Breakdown

This paper gives an unified explanation of some of the most widely known facts of the cartel\ud literature: prices gradually rise, then remain constant, there can be price wars and some cartels\ud break down. In this model consumers are loss averse and efficiency of a competitive fringe is not\ud publicly observable. In the best collusive equilibrium, the price expectation can be so low that loss\ud aversion makes consumers not buy at the maximal collusive price: firms then set a lower price that\ud rises in time with consumers’ expectations. This increasing price path is bounded from above by\ud the presence of the fringe. If the fringe sets a low price during a sufficient number of periods, there\ud can be price wars and collusion can eventually break down