Competing for Search Traffic in Query Markets: Entry Strategy, Platform Design, and Entrepreneurship

E-commerce platforms guide consumers’ search traffic toward online retailers that are classified into different product categories. An online retailer can either list itself under a broad category to reap larger search traffic, or choose a narrow category, often a subcategory of a broad category, to target a niche audience. In collaboration with Taobao.com, China’s largest e-commerce platform, we exploit a change in the platform’s search algorithm to study online retailors’ location decisions in the digital world. In our framework, each market is defined by a search query, which matches an online retailer’s product either closely or distantly. The platform allocates search traffic into different categories, and online retailers compete for the search traffic in each product category with heterogeneous abilities to convert search traffic into revenue. Using detailed data on search queries, search exposure, and seller revenue, we find that an online retailer faces a tradeoff between market size and competition intensity, and a retailer is better at converting closely matched search traffic into revenues. By refining a broader category into narrow subcategories, the e-commerce platform gives retailers the flexibility to forgo higher volumes of search traffic in order to gain a better conversion rate. Eliminating category refinement would lead to about 17% revenue losses for sellers in product categories we study, with incidence mostly on sellers that specialize in niche products. Our results suggest that e-commerce platforms as entrepreneurial incubators can help small business owners thrive on the platform through targeted search traffic allocation.