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Product differentiation on a platform: the informative and persuasive role of advertising

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  • Dries DE SMET
  • Patrick VAN CAYSEELE

Abstract

Both sides of a two-sided market are usually modeled as markets without product differentiation. Often however,it will be profit maximizing to differentiate one or two sides in two or more types. In a simple theoretical model,inspired by Yellow Pages,we show that this decision crucially depends on the appreciation of these differentiated types by the other side. We argue that this consists of two parts: first, a preference for informative advertisement by users and second, the effect of persuasive advertisements on users. The relation between both effects drives the monopolist decision to engage in product differentiation. We test this conceptual framework in an empirical investigation of Yellow Pages. We find that Yellow Pages publishers offer large ads even though users don't value them at all. The economic rationale for this is that each advertisement type contributes directly (by the price paid for it) and indirectly (by increased usage) to revenues. Large ads are mainly set for this direct contribution, small ads for this indirect contribution. If a platform can choose the size, it will make the size difference between small and large ads as large as possible, in order to attract as much users as possible, but also to induce self selection among advertisers.

Suggested Citation

  • Dries DE SMET & Patrick VAN CAYSEELE, 2010. "Product differentiation on a platform: the informative and persuasive role of advertising," Working Papers Department of Economics ces10.03, KU Leuven, Faculty of Economics and Business, Department of Economics.
  • Handle: RePEc:ete:ceswps:ces10.03
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    Keywords

    two-sided markets; product differentiation; Yellow Pages; advertising;

    JEL classification:

    • D42 - Microeconomics - - Market Structure, Pricing, and Design - - - Monopoly
    • L12 - Industrial Organization - - Market Structure, Firm Strategy, and Market Performance - - - Monopoly; Monopolization Strategies
    • L86 - Industrial Organization - - Industry Studies: Services - - - Information and Internet Services; Computer Software

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