Hotelling’s Model of Spatial Competition
Why do gas stations, coffeehouses and restaurants seems to gather around the same area instead of spreading around? Cornell spreads its dinning halls all around campus, but they are not competing with each other. Restaurants, on the other hand, seem to come in clusters. Why does that happen? Why do people in my neighborhood in my hometown have to walk to the same location to have dinner? Why don’t restaurants spread and don’t make me walk as much as I currently need to?
To simplify, let’s consider just a one mile street, aligned with the North-South. If there was one only restaurant at the middle, people would have to walk at most half a mile to the place. If there were just two identical restaurants, each located at 1/4 mile from each end, people would have to walk only a quarter mile to eat. But what if the one further North moved just 10 yards North from the other one? People that lived in the South quarter mile would still eat at the one most to the South. People that lived in the North half would still eat at the North one. But people that lived in the center-south area would now be closer to the north one.
After some analysis, we can see that the Nash equilibrium occurs when both restaurants are located close to each other at the center of the street. Therefore in this type of market, the competition forces the business move close to each other in order to be better off.
Reference:
http://ed.ted.com/lessons/why-do-competitors-open-their-stores-next-to-one-another-jac-de-haan