Endogenous group formation

We examine the formation of groups in a simple oligopoly with a linear demand function. Firms simultaneously form groups - in response to each other" in order to reduce their costs and enhance their market shares. We assume that the management of each group has finite supervising limits. We also assume that the managerial compensation depends on own-profits as well as own-firm size. We establish the existence of a symmetric Nash equilibrium in which two groups are formed endogenously and as mutual best responses. The equilibrium groups are shown to be inefficient. We also note that asymmetric groups are formed in equilibrium if: Managements of these groups have asymmetric supervising limits. Managements of these groups have asymmetric preferences for group sizes.