R~D~s cuss~on 8414 19~~for NR.16~omic Research a er III IIII AIIII I I IIII II nVI I I I III II IVI I II I I II III Pebruary 1997 f (.~-rE~'r'n í~it fr~í~t:'~~~', . r t~t.,.r,. c~( ;~.,~!~t~~rt.~Lt~c~. C~:,èĨ SSN 0924-7815 Abstract This paper develops an equilibrium model of vertical foreclosure with the choice of input specifications. In this model, vertical foreclosure occurs as the upstream division of the integrated firm makes a specialized input for its sister downstream division while it

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... ould, as an independent firm, provide a generalized input. The changes in incentives with vertical integration can be explained by the externalities the choice of a specialized input entails; vertical integration allows the upstream firm to internalize the benefit of raising the rival firm's costs at the downstream level. The choice of a specialized input by the integrated firm serves as a natural commitment mechanism not to supply the rival downstream firms, and thus enables us to dispense with the controversial price commitment assumption in the literature. We derive conditions for equilibrium vertical foreclosure to occur and discuss its welfare consequences.