1992 Reports

Why did big coffee seek regulation? A theory of dynamic monopsony pricing without commitment

McLaren, John

Coffee beans must be roasted before they can be used by consumers. The roasting industry is highly concentrated, so that the large firms in it have market power over the beans they buy. This creates a potential time inconsistency problem: at planting time, roasters would like to promise planters a remunerative price but that will not be credible given roasters' incentives to push the price down at harvest time. It is argued that this problem survives in an infinite horizon; a folk theorem exists but it is fragile. Finally, it is shown that an intervention akin to the International Coffee Agreement (ICA) can help solve the time inconsistency problem. This may help explain the agitation of roasting firms for the establishment of the ICA, which would otherwise appear to run counter to their interests.