复旦大学：《产业经济学 Industrial Economics》教学课件_Industrial Organization 9 Network Externalities & 2-sided Markets

EFMD EQUIS CREDITED Industrial Organization Lecture 9 Network externalities s& 2-sided markets 學火旦 于 udan university

Binglin Gong Fudan University Industrial Organization Lecture 9 Network Externalities & 2-sided Markets

Introduction Some products are popular with individual consumers precisely because each consumer places a value on others usin ng the same good a telephone is only valuable if others have one too Each user of Microsoft Windows benefits from having lots of other windows users Users can run applications, e.g., Word on each other's computers More applications are written for systems with many users Network effects or network externalities reflect such situations in which each consumer's willingness to pay for a product rises as more consumers buy it

1 Introduction • Some products are popular with individual consumers precisely because each consumer places a value on others using the same good – A telephone is only valuable if others have one, too – Each user of Microsoft Windows benefits from having lots of other Windows users • Users can run applications, e.g., Word on each other’s computers • More applications are written for systems with many users • Network Effects or network externalities reflect such situations in which each consumer’s willingness to pay for a product rises as more consumers buy it

Network externalities Market structure is also affected by the presence of network externalities Strategic interaction in a market with network effects is complicated These markets are likely to contain a small number of firms even if there are limited economies of scale and scope

2 Network Externalities • Market structure is also affected by the presence of network externalities • Strategic interaction in a market with network effects is complicated • These markets are likely to contain a small number of firms – even if there are limited economies of scale and scope

Monopoly provision of a network Service An early model by rohlfs (1974)illustrates many of the issues that surround markets with network effects Imagine some service, say a cable network, where consumers hook up to the system but the cost of providing them service after that is effectively zero Provider is a monopolist charging a"hook up?"fee but no other payment The basic valuation of the product v, is uniformly distributed across consumers from 0 to $100. Consumer willingness to pay is fv, where f is the fraction of the consumer population that is served · TThe ith’ s consumer, s demand is 0 if fv, <p qi= 1if/v1≥P

3 Monopoly Provision of a Network Service • An early model by Rohlfs (1974) illustrates many of the issues that surround markets with network effects – Imagine some service, say a cable network, where consumers “hook” up to the system but the cost of providing them service after that is effectively zero • Provider is a monopolist charging a “hook up” fee but no other payment • The basic valuation of the product vi is uniformly distributed across consumers from 0 to $100. Consumer willingness to pay is fvi where f is the fraction of the consumer population that is served • The ith’s consumer’s demand is: 0 if fvi < p 1 if fvi  p qi D =

Monopoly provision of a network 2 Consider the marginal consumer with basic valuation v=pf The firm will serve all consumers with valuations> v Solving for the fraction fof the market served we have f=1-v/100=1-p/100f So, the inverse demand function is: p=100f(1-t)

4 Monopoly Provision of a Network 2 • Consider the marginal consumer with basic valuation v  pf ~ • The firm will serve all consumers with valuations  v ~ • Solving for the fraction f of the market served we have: f = 1 - /100 ~ v = 1 – p/100f • So, the inverse demand function is: p = 100f(1 – f)

Monopoly provision of a network 3 The inverse demand curve ha both upward and downward sloping parts. This means that there are two possible values for the fraction of the market served at any price p S/unit=p 25 $2222 20 15 10 0 00.2f10.40.6f0.81 5

5 Monopoly Provision of a Network 3 • The inverse demand curve ha both upward and downward sloping parts. This means that there are two possible values for the fraction of the market served at any price p. $/unit = p 0 0.2 0.4 0.6 0.8 1 f 25 20 15 10 5 0 $22.22 fL fH

Monopoly provision of a network 4 The rohlfs model makes clear many of the potential problems that can arise in markets with network effects 1. The market may fail altogether Suppose the firm must set a fee over $30 perhaps to cover fixed costs Network will fail even though it is socially efficient When half the market is served, the customers hooking up have vi 's that range from $50 to $100 or fv, values that range from $25 to $50 Average value is then $37.50, well above S30 But as p rises to $30, f falls and so does average willingness to pay There is no price at which sufficient numbers of consumers sign on that yields an average willingness to pay of $30

6 Monopoly Provision of a Network 4 • The Rohlfs model makes clear many of the potential problems that can arise in markets with network effects • 1. The market may fail altogether – Suppose the firm must set a fee over $30 perhaps to cover fixed costs – Network will fail even though it is socially efficient • When half the market is served, the customers hooking up have vi ‘s that range from $50 to $100 or fvi values that range from $25 to $50 • Average value is then $37.50, well above $30 • But as p rises to $30, f falls and so does average willingness to pay • There is no price at which sufficient numbers of consumers sign on that yields an average willingness to pay of $30

Monopoly provision of a network 5 2. There are multiple equilibria At p< $25, there is more than one equilibrium value off At p=$2222 both f (p)=1/3 and fN(p)=2/3 are possiblef values Lower fraction may be unstable(tipping This group is comprised of consumer with top one-third of v values The addition of one more consumer will raise willingness to pay sufficiently that consumers with the next highest third of v, values will be willing to pay and we will move to the fy equilibrium The loss of one consumer will lower the willingness to pay of that same top one-third and demand will fall to zero at p=$2222

7 Monopoly Provision of a Network 5 • 2. There are multiple equilibria – At p < $25, there is more than one equilibrium value of f – At p = $22.22 both fL (p) = 1/3 and fH(p) = 2/3 are possible f values – Lower fraction may be unstable (tipping) • This group is comprised of consumer with top one-third of vi values • The addition of one more consumer will raise willingness to pay sufficiently that consumers with the next highest third of vi values will be willing to pay and we will move to the fH equilibrium • The loss of one consumer will lower the willingness to pay of that same top one-third and demand will fall to zero at p = $22.22

Monopoly provision of a network 6 If the firm needs to serve more than one-third of consumers at a price of $2222 f, is called a critical mass Low or free introductory pricing Lease and guarantee that if critical mass is not reached, refund given Target large consumers with internal networks first 8

8 Monopoly Provision of a Network 6 – If the firm needs to serve more than one-third of consumers at a price of $22.22, fL is called a critical mass. • Low or free introductory pricing • Lease and guarantee that if critical mass is not reached, refund given • Target large consumers with internal networks first

Networks, Complementary services competition 2 Rohlfs model is a monopoly model but has clear insights for oligopoly setting Market may fail Competition will be fierce--a firm that fails to reach a critical mass isnt just smaller than its rival--it dies Multiple equilibria are possible--Betamax versus vhs or Blu-Ray versus AOD DVD format--either system may win Winning system is not necessarily the best one

9 Networks, Complementary Services & Competition 2 • Rohlfs model is a monopoly model but has clear insights for oligopoly setting – Market may fail – Competition will be fierce—a firm that fails to reach a critical mass isn’t just smaller than its rival—it dies – Multiple Equilibria are possible—Betamax versus VHS or Blu-Ray versus AOD DVD format—either system may win – Winning system is not necessarily the best one