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Differentiated Networks: Equilibrium and Efficiency

  • Rossella Argenziano

    ()

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. 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.
  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. Simon P. Anderson & André de Palma, 2000. "Product Diversity in Asymmetric Oligopoly: Is the Quality of Consumer Goods too Low?," Virginia Economics Online Papers 349, University of Virginia, Department of Economics.
  5. Anette Boom & Pio Baake, . "Vertical Product Differentiation, Network Externalities, and Compatibility Decisions," Papers 010, Departmental Working Papers.
  6. 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.
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