3 - Platform Strategies

Question 1

The 3-step procedure for managing network effects:

Answer 1

1. Actors - identify economic agents who want to interact and convince them to become users.
2. Linkage - Figure out how the participation of some users creates (or destroys) value for other users of the platform
   3- Leverage - Evaluate the relative strengths of the various network effects in order to activate them as effectively as possible.

Question 2

Input force vs output force:

Answer 2

Input force comes from an increase in participation in one group. Output force is the increase in the other group, resulting from the positive CGNE operating through the platform.

Question 3

What is the objective in the leverage step?

Answer 3

To maximize output force (that will depend on the strength of the CGNE) and minimize the effort needed to exert the input force. So the RULE is to select the group with largest output force in relation to its input force (ratio) and start with this group.

Question 4

What is an example of the leverage step, i.e., maximizing output force? (hint: Primark, night clubs etc)

Answer 4

In a shopping mall it can be good to attract a flagship store like Primark or HM because this will attract more consumers, and when consumers are present, other stores want to establish in the mall as well –> positive loop.

And for night clubs - attract women first.

BUT the input force is typically more costly, ex costly to get Primark into the mall and you need to attract women with discounts.

Question 5

What affects the cost of attracting the input?

Answer 5

Depends on the input’s:

• outside options (affects price elasticity)
• stand-alone benefits that you offer (that is not affected by the network size)
• WGNE - if there are high WGNE it’s easier to attract.
• marginal costs -choose the input group with the lowest cost.

Question 6

What is super important when launching a platform?

Answer 6

To create and manipulate the EXPECTATIONS because if no one believes this platform will have users, no one will join - null equilibrium. But if sufficiently amount of people believe in it, you might be able to attract the critical mass and reach the high equilbrium.

Question 7

Marquee strategy.

Answer 7

Attract users with large CGNE, for example Primark in a mall or a famous DJ on a festival.
- Disadv = costly.

Question 8

Solving chicken egg - Strategy of offering high stand-alone value:

Answer 8

Provide value to users even if no one else is on the platform. Ex DVD player in the Blu-Ray product.

Question 9

Commitment strategy:

Answer 9

Platforms can make large upfront investments to signal that it’s safe for a group to join the platform. This is common if the users face high switching costs. Ex Microsoft’s launch of the Xbox - committed to spend a lot on promoting the Xbox and sell it at a low price.

Question 10

Divide-and-conquer pricing strategy:

Answer 10

Two-sided platforms can set diff prices for each group. Divide = “buy” the participation of one group. Conquer = make the other group pay to interact.

Question 11

How can the platform set prices to ensure that all joins the platform in the Divide and conquer strategy?

Answer 11

Since multiple equilibria is possible where there is both (0,0) and (Ns, Nb), the platform must make sure that (0,0) does not occur. So they have to set prices so that all buyers join even if no sellers join and vice versa. If they can attract one of the group with certainty, they can then raise the price for the other group. They have to choose one “subsidy side” and one “money side”.

Question 12

In which 4 scenarios is the platform more likely to overcome the chicken-and-egg problem in the divide-and-conquer strategy?

Answer 12

1. Stronger total CGNE (high Betas and Ns).
2. Larger intrinsic benefits (r)
3. Smaller outside options (small u’s).
4. Lower marginal costs (small c’s).

Question 13

Why is observability of the divide-and-conquer strategy important?

Answer 13

Because if the platform chooses to subsidize buyers, the sellers must know that buyers are subsidized, otherwise they will not expect a high Nb and hence the value and attractiveness for the sellers to join (and pay their fee) will not be worth it.

Question 14

What is a likely outcome of two firms COMPETING with the divide and conquer strategy? (i.e. undifferentiated platforms)

Answer 14

It is likely that they pressure the prices down so much that they drive profits in the market down to zero –> hence only one platform will manage –> the market tips in favor of a single platform.

(also more likely to tip when network effects are strong, just as with the one-sided platforms).

Question 15

Give example of piggyback strategy (that you tap onto existing network)

Answer 15

For ex what Paypal did on Ebay, they started offering their payment services on Ebay, and then they could expand because the network had reached its critical mass.

Question 16

Describe the strategy “focus on narrow market”

Answer 16

You start in a small market where you know you can easily build a network. Ex a certain region. Then when it has proven successful, it’s easier to expand.

Question 17

Describe the strategy “start as a pipeline”

Answer 17

When you have a traditional business where you start integrating one side - for Amazon started with selling books and then invited buyers to make reviews.

Question 18

Pricing by standard monopoly as an established firm - rearranging the derivative of the profit function leads to a Learner index, what is that?

Answer 18

It is the markup that monopolies can set (a measure of market power that the firm has). This is in turn equal to the inverse elasticity of demand, which we denote 1/n = how much will demand change when prices change?

Question 19

What does the profit-maximizing fees (P) depend on in an established monopoly?

Answer 19

• the cost of providing access (+c)
• the network benefit that each group exert on the other side of the platform (-vnb, -pins)
• a factor related to the sensitivity of participating on the platform w/r to price (Ns(us)/N’s(us))

Question 20

How does monopoly platforms adjust their prices with the Lerner index?

Answer 20

Markups are set as if there were lower cost than just c, because we take c minus the benefit that a seller/buyer gets from the presence of the other side. So they internalize the CGNE, because for ex when the seller attracts an extra user on the other side, this generates profits for the platform, and therefore the seller should not pay for this.

Question 21

Higher elasticity implies…?

Answer 21

Lower margins! So the platform can charge higher prices for the less sensitive side of he platform. –> Platforms relies on an asymmetric fee structure to maximize profits.

Question 22

Prices tend to be lower on the side of that platform that… (2 things)

Answer 22

1. have a higher price-elasticity of participation

2. exterts a larger CGNE on the other side.

Question 23

Net surplus of a buyer/seller who joins the monopoly platform, us =

Answer 23

For a seller:
us= nb*pi-Ps+rs-thaos
So, the net surplus is the profit they make from each buyer on the platform, minus the access fee, plus the stand alone benefit, minus the opportunity/transport cost of joining the platform.

And the same for buyer but the other way around with the s and b.

Question 24

The number of buyers/sellers decrease with the price of… ?

Answer 24

With the access fee they have to pay themselves AND the access fee that other side has to pay - because this indirectly reduces the benefit of themselves.

Question 25

If we instead have competing platforms (no monopoly), what is the important thing regarding demand?

Answer 25

That the demands are interrelated!
the number of buyers joining platform i depends on the sellers joining platform i as well. For each extra seller that joins, there is v/t additional buyers too.
So, the CGNE will affect the pricing!

Question 26

When will the market tip in a setting with competing platforms?

Answer 26

When the CGNE are relatively stronger than the differentiation, thaos*thaob

Question 27

What does the price (P) depend on in a setting with competing platforms? 3 components.

Answer 27

1. The marginal cost (+c)
2. Product differentiation (+thao)
3. Value to the platform of additional buyers/sellers that one additional seller/buyer attracts.

Question 28

With competing platforms, which side of the individual platform will be subsidized and which pay a higher fee?

Answer 28

The side of the market that exerts a stronger network effect on the other side tends to be subsidized (as with monopoly), and the side with high product differentiation rends to pay a higher fee.

Question 29

Profits in equilibrium with competing platforms increase/decrease with…?

Answer 29

Increase in the degree of product differentiation and decrease in the strength of the CGNE. This is because network effects make buyers and sellers more valuable to attract and therefore intensify price competition.

Question 30

Why is the reduction in price even more pronounced in the setting of competing platforms rather than monopoly?

Answer 30

Because we still internalize the effect that the participation of one side has on the other side, BUT we also need to consider that a lost seller/buyer on one side will join the competing platform, making it harder to keep the same number of buyers. In monopoly, a lost seller does not directly mean fewer buyer because the buyers have nowhere else to go, but here the have, so we value their participation higher in competing situaitons.

Question 31

What is most competitive: singlehoming or mutlihoming?

Answer 31

Singlehoming! Because just as with the competition vs monopoly case –> when users can multihome, a lost seller does not directly mean fewer buyers. but with singlehoming, this can be the case –> prices tend to be lower for singlehoming side (buyers) and higher for multihoming side (sellers)

Question 32

What determines the number of competing platforms?

Answer 32

The strength of the cross-group network effects relative to the degree of differentiation (transport costs, thao), because if these network effects are stronger, the market will tip in favour of one platform, but if the perceived differentiation is large enough, multiple platforms can compete.

Question 33

Three types of pricing that platforms can use:

Answer 33

1. Membership/subscription fees (to access the platform)
2. Usage/transaction fees (when they use the platform)
3. Freemium model

Question 34

When is it good to use membership/subscription fees and what are the challenges:

Answer 34

Good to use if platform provides high value, if a typical user will engage in several transactions and when facilitating payments are hard. But the challenge is that the chicken-egg problem becomes even more severe.

Question 35

Benefits and challenges of using usage/transaction fees:

Answer 35

Benefits: users don’t need to pay anything before they actually make a transaction on the platform.
Challenge: must provide enough value to both sides, otherwise they will find ways to make the transaction outside the platform. And the platform need to manage and monitor transactions.

Question 36

3 types of usage/transaction fees:

Answer 36

1. Commission - fixed amount/percent of the transaction
2. Listing fee - sellers pay a fee to list their products
3. Lead fee - when buyers post request and sellers pay in order to make a bid

Question 37

When is it good to use the freemium?

Answer 37

When basic service hardly can be monetized. Typically when users share low value items or when transactions are non-monetary.

Question 38

Two main types of rules that platforms consider:

Answer 38

1. Regulation of access - who is allowed to join the platform?
2. Regulation of transactions - what are users allowed to do on the platform?

Question 39

What is the challenge regarding who can join the platform? And how can they solve this?

Answer 39

That the platform does not only want to attract high quantity of users but also high quality - the composition of users matter. They can for ex user screening to attract the ‘right’ ones.

Question 40

Why is it important to also regulate the behaviour on the platform?

Answer 40

Because negative behavioural externalities tend to reduce the value of the platform for all users. Less willing to join and less willing to interact. Trust is important.

Question 41

Why is it a problem that platforms are often anonymous?

Answer 41

Because the likelihood of discrimination increases. By providing user information in profiles, users have the opportunity to interact based on this information, ex Airbnb.

Question 42

The trade-off of providing profile elements?

Answer 42

Positivt: to increase trust
Negative: facilitates discriminatory behavior.