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Two-Sided Platforms: Pricing and Social Efficiency

  • Andrei Hagiu
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    This paper models two-sided market platforms, which connect third-party suppliers (developers) of many different products and services to users who demand a variety of these products. From a positive perspective, our model provides a simple explanation for the stark differences in platform pricing structures observed across a range of industries, including software for computers and an increasing number of electronic devices, videogames, digital media, etc. We show that the optimal platform pricing structure shifts towards making a larger share of profits on developers when users have a stronger preference for variety and also when there is uncertainty with respect to the availability, or a limited supply, of third-party (high-quality) products. From a normative perspective, we show that the increasingly popular public policy presumption that open platforms are inherently more efficient than proprietary ones -in terms of induced product diversity, user adoption and total social welfare- is not justified in our framework. The key welfare tradeoff is between the extent to which a proprietary platform internalizes business-stealing, product diversity and indirect network effects and the two-sided deadweight loss it creates through monopoly pricing.

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    Paper provided by Research Institute of Economy, Trade and Industry (RIETI) in its series Discussion papers with number 04035.

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    Length: 45 pages
    Date of creation: Dec 2004
    Date of revision:
    Handle: RePEc:eti:dpaper:04035
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    1. Simon P. Anderson & Stephen Coate, 2005. "Market Provision of Broadcasting: A Welfare Analysis," Review of Economic Studies, Oxford University Press, vol. 72(4), pages 947-972.
    2. Marc Rysman, 2004. "Competition Between Networks: A Study of the Market for Yellow Pages," Review of Economic Studies, Oxford University Press, vol. 71(2), pages 483-512.
    3. Jean-Charles Rochet & Jean Triole, 2002. "Platform Competition in Two Sided Markets," FMG Discussion Papers dp409, Financial Markets Group.
    4. Josh Lerner & Jean Tirole, 2004. "Efficient Patent Pools," American Economic Review, American Economic Association, vol. 94(3), pages 691-711, June.
    5. repec:oup:restud:v:43:y:1976:i:2:p:217-35 is not listed on IDEAS
    6. Richard Schmalensee, 2001. "Payment Systems and Interchange Fees," NBER Working Papers 8256, National Bureau of Economic Research, Inc.
    7. Steven C. Salop, 1979. "Monopolistic Competition with Outside Goods," Bell Journal of Economics, The RAND Corporation, vol. 10(1), pages 141-156, Spring.
    8. David S. Evans & Andrei Hagiu & Richard Schmalensee, 2004. "A Survey Of The Economic Role Of Software Platforms In Computer - Based Industries," Discussion papers 04032, Research Institute of Economy, Trade and Industry (RIETI).
    9. Michael R. Baye & John Morgan, 2001. "Information Gatekeepers on the Internet and the Competitiveness of Homogeneous Product Markets," American Economic Review, American Economic Association, vol. 91(3), pages 454-474, June.
    10. Pashigian, B Peter & Gould, Eric D, 1998. "Internalizing Externalities: The Pricing of Space in Shopping Malls," Journal of Law and Economics, University of Chicago Press, vol. 41(1), pages 115-42, April.
    11. Jean-Charles Rochet & Jean Tirole, 2014. "Platform Competition in Two-Sided Markets," CPI Journal, Competition Policy International, vol. 10.
    12. 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.
    13. Stahl, Dale O, II, 1988. "Bertrand Competition for Inputs and Walrasian Outcomes," American Economic Review, American Economic Association, vol. 78(1), pages 189-201, March.
    14. Mark Armstrong, 2006. "Competition in two‐sided markets," RAND Journal of Economics, RAND Corporation, vol. 37(3), pages 668-691, 09.
    15. Church Jeffrey & Gandal Neil & Krause David, 2008. "Indirect Network Effects and Adoption Externalities," Review of Network Economics, De Gruyter, vol. 7(3), pages 1-22, September.
    16. Andrei Hagiu, 2004. "Two-Sided Platforms: Pricing and Social Efficiency - Extensions," Discussion papers 04036, Research Institute of Economy, Trade and Industry (RIETI).
    17. Wright, Julian, 2003. "Optimal card payment systems," European Economic Review, Elsevier, vol. 47(4), pages 587-612, August.
    18. N. Gregory Mankiw & Michael D. Whinston, 1986. "Free Entry and Social Inefficiency," RAND Journal of Economics, The RAND Corporation, vol. 17(1), pages 48-58, Spring.
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