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Abstract

This paper develops an extended Hotelling-type product and technology-differentiated model with two upstream and two downstream firms. The US upstream (respectively downstream) firm is technologically more advanced than the Chinese upstream (respectively downstream) firm. The locations of the upstream firms and the US downstream firm are fixed, and the Chinese downstream firm chooses its product location. The downstream firms compete with each other in US market. We aim to explore the conditions under which an international vertical merger between the Chinese downstream firm and the US upstream firm occurs and its welfare implications. We show that the incentive for the Chinese downstream firm to initiate a technology-acquiring international vertical merger crucially depends on the market conditions of the United States. As compared to exporting or domestic vertical merger, international vertical merger is by no means an optimal choice for the Chinese downstream firm when there is no negative demand shocks to US market. This result remains to hold when the US downstream firm also has the option of initiating a merger with the US upstream firm. Nevertheless, in the case of a negative demand shock, a profitable international vertical merger may occur. However, such mergers worsen the social welfare of the United States.