A Theoretical and Empirical Investigation of Slotting Allowances in the Grocery Industry

This research examines the behavior of manufacturers and retailers in the presence of slotting allowances. Slotting allowances are fees manufacturers pay retailers to encourage them to carry a new product or allocate premium shelf space to a product. According to estimates, retailers collect billions of dollars in allowance payments annually. Using a four-stage game, I formulate a vertical structural model that endogenously models manufacturer, retailer, and consumer behavior. Manufacturers compete with each other, using slotting allowance payments, in order to obtain premium shelf space at retailer outlets. Retailers, given allowance offers, choose display configurations and then set retail prices. Consumers observe the display and retail prices and determine whether to purchase one or no units of the good. I estimate the model with a method of moments technique using IRI scanner data from the ketchup industry. In addition to estimating consumer taste parameters, the model yields predictions of the underlying wholesale prices and the slotting allowances each manufacturer offers the retailer. I use the parameter estimates to conduct counterfactual simulations of how agents might respond to different economic environments. Of the potential scenarios, one of the most informative predicts the effects (including welfare) when the use of slotting allowances is no longer permissible. * Many thanks to my dissertation advisors, Simon Anderson, Andrew Cohen, and Kenneth G. Elzinga, for their invaluable help and guidance. I would also like to thank Ronald W. Cotterill and the Food Marketing Policy Center for making the data available. I gratefully acknowledge financial support from the University of Virginia’s Bankard Fund for Political Economy. † Department of Economics, 114 Rouss Hall, University of Virginia, Charlottesville, VA 22904 (email: [email protected], web: http://www.people.virginia.edu/~adr2n)