Competing Retailers and Inventory : An Empirical Investigation of General Motors' Dealerships in Isolated U.S. Markets

We study the following question: how does competition influence the inventory holdings of General Motors' dealership operating in isolated U.S. markets? We wish to disentangle two mechanism by which local competition influences a dealer's inventory: (1) the entry or exit of a competitor can change a retailer's demand (a sales effect); (2) the entry or exit of a competitor can change the amount of buffer stock a retailer holds, which influences the probability a consumer finds a desired product in stock (a service level effect). Theory is clear on the sales effect - an increase in sales leads to an increase in inventory (albeit a less than proportional increase). However, theoretical models of inventory competition are ambiguous on the expected sign of the service level effect. Via a web crawler, we obtained data on inventory and sales for more than 200 dealerships over a six month period. Using cross-sectional variation, we estimated the effect of the number and type of local competitors on inventory holdings. We used several instrumental variables to control for the endogeneity of market entry decisions. Our results suggest that the service level effect is strong, non-linear and positive. Hence, we observe that dealers carry mory inventory (controlling for sales) when they face additional competition