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Indirect Network Effects and Adoption Externalities

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  • Church Jeffrey

    ()
    (Department of Economics, University of Calgary)

  • Gandal Neil

    (Department of Public Policy, Tel Aviv University and CEPR)

  • Krause David

    (Economic Analysis, Bell Canada)

Abstract

Can indirect network effects lead to adoption externalities? If so, when? We show that in markets where consumption benefits arise from hardware/software systems, adoption externalities will occur when there are (i) increasing returns to scale in the production of software, (ii) free entry in software, and (iii) consumers have a preference for software variety. The private benefit of the marginal hardware purchaser is less than the social benefit since the marginal hardware purchaser does not internalize the welfare improving response of the software industry, particularly the increase in software variety, on inframarginal purchasers when the market for hardware expands.

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Bibliographic Info

Article provided by De Gruyter in its journal Review of Network Economics.

Volume (Year): 7 (2008)
Issue (Month): 3 (September)
Pages: 1-22

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Handle: RePEc:bpj:rneart:v:7:y:2008:i:3:n:1

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  1. Spence, Michael, 1976. "Product Selection, Fixed Costs, and Monopolistic Competition," Review of Economic Studies, Wiley Blackwell, vol. 43(2), pages 217-35, June.
  2. Economides, Nicholas, 1989. "Desirability of Compatibility in the Absence of Network Externalities," American Economic Review, American Economic Association, vol. 79(5), pages 1165-81, December.
  3. Jeffrey Church & Neil Gandal, 1992. "Integration, Complementary Products, and Variety," Journal of Economics & Management Strategy, Wiley Blackwell, vol. 1(4), pages 651-675, December.
  4. Nicholas Economides, 1997. "The Economics of Networks," Brazilian Electronic Journal of Economics, Department of Economics, Universidade Federal de Pernambuco, vol. 1(0), December.
  5. Jeffrey Church & Neil Gandal, 2000. "Systems Competition, Vertical Merger, and Foreclosure," Journal of Economics & Management Strategy, Wiley Blackwell, vol. 9(1), pages 25-51, 03.
  6. Michael L. Katz & Carl Shapiro, 1994. "Systems Competition and Network Effects," Journal of Economic Perspectives, American Economic Association, vol. 8(2), pages 93-115, Spring.
  7. Joseph Farrell & Garth Saloner, 1985. "Installed Base and Compatibility With Implications for Product Preannouncements," Working papers 385, Massachusetts Institute of Technology (MIT), Department of Economics.
  8. Church, J. & Gandal, N., 1991. "Complementary Network Externalities and Technological Adoption," Papers 5-91, Tel Aviv.
  9. Chou, Chien-fu & Shy, Oz, 1990. "Network effects without network externalities," International Journal of Industrial Organization, Elsevier, vol. 8(2), pages 259-270, June.
  10. Church, Jeffrey & Gandal, Neil, 1992. "Network Effects, Software Provision, and Standardization," Journal of Industrial Economics, Wiley Blackwell, vol. 40(1), pages 85-103, March.
  11. Dixit, Avinash K & Stiglitz, Joseph E, 1977. "Monopolistic Competition and Optimum Product Diversity," American Economic Review, American Economic Association, vol. 67(3), pages 297-308, June.
  12. Carmen Matutes & Pierre Regibeau, 1988. ""Mix and Match": Product Compatibility without Network Externalities," RAND Journal of Economics, The RAND Corporation, vol. 19(2), pages 221-234, Summer.
  13. Katz, Michael L & Shapiro, Carl, 1986. "Technology Adoption in the Presence of Network Externalities," Journal of Political Economy, University of Chicago Press, vol. 94(4), pages 822-41, August.
  14. S. J. Liebowitz & Stephen E. Margolis, 1994. "Network Externality: An Uncommon Tragedy," Journal of Economic Perspectives, American Economic Association, vol. 8(2), pages 133-150, Spring.
  15. Farrell, Joseph & Saloner, Garth, 1986. "Standardization and variety," Economics Letters, Elsevier, vol. 20(1), pages 71-74.
  16. Katz, Michael L & Shapiro, Carl, 1985. "Network Externalities, Competition, and Compatibility," American Economic Review, American Economic Association, vol. 75(3), pages 424-40, June.
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Citations

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Cited by:
  1. Oz Shy, 2011. "A Short Survey of Network Economics," Review of Industrial Organization, Springer, vol. 38(2), pages 119-149, March.
  2. Kevin J. Boudreau & Andrei Hagiu, 2008. "Platform Rules: Multi-Sided Platforms as Regulators," Harvard Business School Working Papers 09-061, Harvard Business School.
  3. Church, Jeffrey & Gandal, Neil, 2012. "Direct and indirect network effects are equivalent: A comment on “Direct and Indirect Network Effects: Are They Equivalent?”," International Journal of Industrial Organization, Elsevier, vol. 30(6), pages 708-712.
  4. María Fernanda Viecens, 2009. "Pricing strategies in two-sided platforms: The role of sellers’ competition," Working Papers 2009-11, FEDEA.
  5. Slivko, Olga, 2012. "Direct and indirect subsidies in markets with system goods in the presence of externalities. Preliminary version," Working Papers 2072/211631, Universitat Rovira i Virgili, Department of Economics.
  6. Andrei Hagiu, 2004. "Two-Sided Platforms: Pricing and Social Efficiency," Discussion papers 04035, Research Institute of Economy, Trade and Industry (RIETI).
  7. Dachrahn Wu & Ming Chang & Mei-Hua Chang, 2008. "Market coverage and “love of software variety” in the supporting services approach," Netnomics, Springer, vol. 9(2), pages 77-86, October.
  8. Mª Mercedes Carmona Martínez & Leonarda García Jiménez, 2007. "Difusión del uso de Internet en España. ¿Existe una brecha digital entre Comunidades Autónomas?," Revista de Estudios Regionales, Universidades Públicas de Andalucía, vol. 3, pages 193-228.
  9. Simone Scholten & Ulrich Scholten, 2012. "Platform-based Innovation Management: Directing External Innovational Efforts in Platform Ecosystems," Journal of the Knowledge Economy, Springer, vol. 3(2), pages 164-184, June.
  10. Pollock, R., 2009. "General Network Effects and Welfare," Cambridge Working Papers in Economics 0915, Faculty of Economics, University of Cambridge.

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