Imperfect competition in an oligopsonistic setting : A study on the German raw milk market

Agricultural markets are best characterized as oligopsonistic markets; usually many farmers face only few manufacturers. The raw milk market in Germany exhibits a high concentration of dairy processors opposed to a large number of dairy farmers. In such a market structure, concerns regarding buyer market power are often raised. Therefore, the German federal cartel authority conducted a sector survey on the raw milk market investigating buyer market power of dairy processors. The inquiry concluded that the competition on the raw milk market is imperfect due to high concentration of dairy processors, high market transparency regarding neighboring dairies’ prices, limited switching possibilities of farmers to other processors due to long-term contracts and the obligation to supply the entire production quantity. This supply obligation in combination with long-term contracts may lead to market foreclosure as there is no freely available milk on the market (FCO 2012).<br /> The objective of this thesis is to analyze imperfect competition on the raw milk market in Germany focusing on (i) market foreclosing effects of contracts (ii) estimating buyer market power of the dairy industry in the federal states and (iii) analyzing the effects of the spatial nature of the market on dairies’ price setting.<br /> The methodologies applied to elaborate on the objective of this thesis comprise game theoretic modelling to analyze the effects of contracts, empirical estimation of market power in the framework of the conjectural variation approach, and a spatial economics approach to investigate dairies’ pricing behavior depending on space. For the empirical analyses a data set on processors’ and farmers’ characteristics for the time span 2001-2012 is used.<br /> The results of the theoretical analysis show that long-term contracts in combination with the supply obligation can foreclose markets under certain assumptions on farmer’s risk attitude and probability of rival’s entry. The estimation of the market power parameter in the framework of the conjectural variation approach results in evidence for an oligopsonistic market structure in six federal states and also on the national level. The spatial investigation shows that space is especially important for cooperatives and results in different effects in the North and the South of Germany. The findings give insights into the competitiveness and behavior of the German raw milk market which are important regarding the ongoing concentration of the dairy processors and the increasing volatility of raw milk prices.