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Differentiated Networks: Equilibrium and Efficiency

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  • Rossella Argenziano

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Abstract

We consider a model of price competition in a duopoly with product differentiation and network effects. The value of a good for a consumer is the sum of a common and an idiosyncratic component. The first captures the vertical dimension of quality, the second captures horizontal differentiation. Each consumer privately observes his own value for each good, but cannot separate the common and the idiosyncratic component. Therefore, he has incomplete information about the value of the goods for the other consumers. After firms announce prices, consumers choose simultaneously which network to join, facing a coordination problem. In the efficient allocation, both networks are active and the firm with the highest expected quality has the largest market share. To characterize the equilibrium allocation, we derive necessary and sufficient conditions for uniqueness of the equilibrium of the coordination game played by consumers for given prices. The equilibrium allocation differs from the efficient one for two reasons. First, the equilibrium allocation of consumers to the networks is too balanced, since consumers fail to internalize network externalities. Second, if access to the networks is priced by strategic firms, then the product with the highest expected quality is also the most expensive. This further reduces the asymmetry between market shares and therefore social welfare.

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Paper provided by University of Essex, Department of Economics in its series Economics Discussion Papers with number 638.

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Date of creation: 18 Sep 2007
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Handle: RePEc:esx:essedp:638

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  1. Skrzypacz, Andrzej & Mitchell, Matthew F., 2005. "Network Externalities and Long-Run Market Shares," Research Papers 1879, Stanford University, Graduate School of Business.
  2. Anderson, Simon P & de Palma, Andre, 2001. "Product Diversity in Asymmetric Oligopoly: Is the Quality of Consumer Goods Too Low?," Journal of Industrial Economics, Wiley Blackwell, vol. 49(2), pages 113-35, June.
  3. Mathias Dewatripont & Lars Peter Hansen & Stephen Turnovsky, 2003. "Advances in economics and econometrics: the eighth world congress," ULB Institutional Repository 2013/9557, ULB -- Universite Libre de Bruxelles.
  4. Bruno Jullien, 2011. "Competition in Multi-sided Markets: Divide and Conquer," American Economic Journal: Microeconomics, American Economic Association, vol. 3(4), pages 186-220, November.
  5. Andre de Palma & Luc Leruth, 1989. "Equilibrium in Competing Networks with Differentiated Products," Discussion Papers 814, Northwestern University, Center for Mathematical Studies in Economics and Management Science.
  6. Baake, Pio & Boom, Anette, 2001. "Vertical product differentiation, network externalities, and compatibility decisions," International Journal of Industrial Organization, Elsevier, vol. 19(1-2), pages 267-284, January.
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Cited by:
  1. Suleymanova, Irina & Wey, Christian, 2011. "Bertrand competition in markets with network effects and switching costs," DICE Discussion Papers 30, Heinrich‐Heine‐Universität Düsseldorf, Düsseldorf Institute for Competition Economics (DICE).
  2. Jullien, Bruno & Pavan, Alessandro, 2013. "Platform Pricing under Dispersed Information," IDEI Working Papers 793, Institut d'Économie Industrielle (IDEI), Toulouse.
  3. Hagiu, Andrei & Hałaburda, Hanna, 2014. "Information and two-sided platform profits," International Journal of Industrial Organization, Elsevier, vol. 34(C), pages 25-35.
  4. Bruno Jullien, 2011. "Competition in Multi-sided Markets: Divide and Conquer," American Economic Journal: Microeconomics, American Economic Association, vol. 3(4), pages 186-220, November.
  5. Navarro, Noemí, 2012. "Price and quality decisions under network effects," Journal of Mathematical Economics, Elsevier, vol. 48(5), pages 263-270.
  6. Kerstan, Sven & Kretschmer, Tobias & Muehlfeld, Katrin, 2012. "The dynamics of pre-market standardization," Information Economics and Policy, Elsevier, vol. 24(2), pages 105-119.
  7. Laussel, Didier & Resende, Joana, 2014. "Dynamic price competition in aftermarkets with network effects," Journal of Mathematical Economics, Elsevier, vol. 50(C), pages 106-118.
  8. Frankel, David M., 2012. "Recurrent crises in global games," Journal of Mathematical Economics, Elsevier, vol. 48(5), pages 309-321.
  9. Griva, Krina & Vettas, Nikolaos, 2011. "Price competition in a differentiated products duopoly under network effects," Information Economics and Policy, Elsevier, vol. 23(1), pages 85-97, March.
  10. Vitor Miguel Ribeiro & João Correia-da-Silva & Joana Resende, 2014. "Nesting Vertical and Horizontal Differentiation in Two-Sided Markets," FEP Working Papers 535, Universidade do Porto, Faculdade de Economia do Porto.

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