The paper deals with the problem of sustaining over time a coordinated outcome in a two-member channel of distribution. In a dynamic game of pricing and advertising, the carry-over effects of advertising efforts are summarized in a stock of advertising goodwill. A main result of the paper is that the coordinated outcome can be supported over time as an incentive equilibrium in which each channel member employs advertising straegies that are linear functions of the other channel member's advertising effort. The paper also studies the problem of how to share the gains of cooperative behavior. Here we suggest a dynamic profit allocation scheme which at any instant of time guarantees each channel member a share of the joint profit rate being no less than the profit rate he could obtain under noncooperation. This property, in combination with the incentive equilibrium, should induce channel members to implement their individual parts of the coordinated solution.
Published February 2000 , 34 pages