Spatial Competition:
Why do grocery stores, repair shops, and restaurants always seem to exist in groups instead of being spread evenly throughout a community? While there are several factors that might go into deciding where to place your business, clusters of similar companies can be explained by a very simple story called Hotelling’s Model of Spatial Competition.
Imagine that you sell ice cream at the beach. Your beach is long and you have no competition. Where would you place your cart to sell the most products? The answer would be in the middle so you serve as many people as possible.
One day you show up at work just as your cousin Teddy is arriving at the beach with an ice cream cart selling the same type of ice cream as you are. You decide that you will cut the beach in half so your customers don’t have to walk too far so you set up your cart a quarter mile south of the beach center, right in the middle of your territory and so does Teddy. With this agreement everyone south of you buys ice cream from you and everyone north of Teddy buys from him, and the 50% of the beachgoers in between walk to the closest cart. Game theorists consider this as a socially optimal solution. It minimizes the maximum number of steps any visitor must take in order to reach an ice cream cart.
The next day you see Teddy has set up his cart in the middle of the beach. You return to your location a quarter mile south of center and get the 25% of customers to the south of you.
Teddy still gets all of the customers north in Teddy territory, but now you split the 25% of people in between the two carts. Day three of the ice cream wars, you get to the beach early, and set up right in the center of Teddy territory, assuming you will serve the 75% of beachgoersto your south leaving your cousin to sell to the 25% of customers to the north. When Teddy arrives he sets up just south of you stealing all of the southerly customers, leaving you with a small group of people to the north. Not to be outdone, you move 10 paces south of Teddy to regain your customers.
When you take a mid-day break Teddy shuffles 10 paces south of you, and again steals back all the customers to the far of the beach. Like this both of you continue to periodically move south towards the bulk of the ice cream buyers, until both of you eventually end up at the center of the beach, back to back each serving 50% of the ice cream hungry people.
Nash Equilibrium:
At this point you and your cousin have reached the Nash Equilibrium, the point where neither of you can improve your position by deviating from your current strategy. So if shops and service points are spread throught the area they serve the customer better but this leaves businesses vulnerable to aggressive competition. In the real world customers do not just come from one direction and businesses are free to compete with marketing strategies.
Transcripted By Benazir Elahee Munni