A Price Theory of Multi-Sided Platforms
By E. G LEN W EYL∗
Draft: October 6, 2009
I develop a general theory of monopoly pricing of networks. Platforms use insulating tariffs to avoid coordination failure, implementing any desired allocation. Proﬁt-maximization distorts in the spirit of Spence (1975) by internalizing only network externalities to marginal users. Thus the empirical and prescriptive content of the popular Rochet and Tirole (2006) model of two-sided markets turns on the nature of user heterogeneity. I propose a more plausible, yet equally tractable, model of heterogeneity in which users differ in their income or scale. My approach provides a general measure of market power and helps predict the effects of price regulation and mergers.
The pricing problems of payment and advertising platforms have much in common. Both seek to attract two distinct groups of users: AmEx needs cardholders and merchants while the New York Times recruits readers and advertisers. Because the value each group takes from using these services depends on the size of the other side of the market, the platform’s pricing and marketing strategies to each group are closely linked. Therefore policy directed at alleviating distortions caused by market power in these industries must take account of how interventions on one side affect welfare and platform behavior on the other.
∗ Harvard Society of Fellows and Toulouse School of Economics: 78 Mount Auburn Street, Cambridge, MA 02138, firstname.lastname@example.org. This paper was split off as one part of a previous working paper “Monopolies in Two-Sided Markets: Comparative Statics and Identiﬁcation”. I am grateful to el Ministerio de Hacienda de Chile and the Centro de Investigaci´ n Econ´ mica at the Instituto Tecnol´ gico Aut´ nomo de M´ xico (CIE-ITAM) which hosted me on a visit o
while I conducted parts of this research. The Harvard Milton Fund supported the last stage of this project and ﬁnanced the excellent research assistance provided by Will Weingarten, Alex White and especially Stephanie Lo. Ahmed Jaber and Dan Sacks also acted as research assistants with the permission of their employer Amy Finkelstein, to whom I am grateful for her generosity. I also appreciate the helpful comments and advice on this research supplied by Mark Armstrong, David Evans, Jeremy Fox, Andrea Hawkley, Alisha Holland, Scott Kominers, Luis Rayo, Bill Rogerson, Dick Schmalensee, Jesse Shapiro and seminar participants at the Banco de M´ xico, the Barcelona Graduate School of Economics, CIE-ITAM, e
Harvard University, IESE Business School, Northwestern University, T´ l´ com ParisTech Conference on the Economic ee
of Information and Communications Technology, the Toulouse School of Economics (TSE), University of Chicago, and University of California at Berkeley. I owe a special debt to Pai-Ling Yin for detailed discussions of the paper. All confusion and errors are my own.
THE AMERICAN ECONOMIC REVIEW
Yet despite credit cards and newspapers both being canonical two-sided markets, the economics of these industries seem intuitively quite different. Consumers most likely to carry AmEx are those who most value the opportunity to use the card. These loyal card-holders therefore value the participation of merchants more than those indifferent between AmEx and another payment form do. Given its limited ability to price discriminate, AmEx fails to fully internalize the preferences of loyal users, putting too little effort into attracting merchants and charging them a higher price than would be socially optimal. However when the costs of attracting card holders rise and therefore cardholder incentives fall, AmEx will tend to serve only users who value merchant participation more strongly, leading them to attract more merchants with lower fees. This logic is the basis of the burgeoning literature on two-sided market pioneered by Jean-Charles Rochet and...
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