Abstract: Cross-holdings will enhance the correlation of firms’ profits, which inevitably affects firms’ quantity competition and further changes the entry decision of the entrant firm together with the deterrence strategy of the incumbent firm. Based on sequential-game model and market entry model, we build up a two-period market entry model in which two firms in two separated markets intend to enter each other’s market to make profits. By backward induction and equilibrium analysis, this paper finds that, in equilibrium, the incumbent strategically offers the potential entrant a contract with positive bilateral cross-holdings to maintain monopoly, which results in a maximum joint profit for both firms. In this way, the entrant firm accepts the contract and stays out. Our results will be a powerful supplement to the traditional approach of entry-deterrence in the industrial organization theory, and also lay an important micro theoretical foundation for the research and formulation of competition and anti-monopoly policies.

Key words: cross-holdings, entry-deterrence, Cournot competition, joint profits, market equilibrium