PLATFORM COMPETITION WITH ENDOGENOUS HOMING

Date01 August 2020
AuthorThomas D. Jeitschko,Mark J. Tremblay
DOIhttp://doi.org/10.1111/iere.12457
Published date01 August 2020
INTERNATIONAL ECONOMIC REVIEW
Vol. 61, No. 3, August 2020 DOI: 10.1111/iere.12457
PLATFORM COMPETITION WITH ENDOGENOUS HOMING
BYTHOMAS D. JEITSCHKO AND MARK J. TREMBLAY1
Michigan State University, U.S.A.; Miami University, U.S.A.
We consider two-sided markets in which consumers and firms endogenously determine whether they single-
home, multi-home, or exit the market. We find that the competitive bottleneck allocation in which consumers
single-home and firms multi-home is always an equilibrium. In addition, we find equilibria with multi-homing
and single-homing on each side of the market. However, unlike the standard pricing result where the side that
multi-homes faces higher prices, we find that lower prices coincide with multi-homing: agents find multi-homing
more attractive when faced with lower prices. We also show that endogenous homing can induce straddle pricing
which deters price undercutting between platforms.
1. INTRODUCTION
The market structures in which platforms operate vary considerably in terms of the participa-
tion decisions that agents make. When several platforms offer competing services, participants
of the market may join only one platform (called single-homing), or they may patronize sev-
eral platforms (called multi-homing). For the smartphone industry, the majority of consumers
single-home and only own one platform although most content (apps, videos, and music) are
available on all platforms. With video game consoles, many consumers own more than one
console and thus multi-home, whereas others single-home and own only one—resulting in a
mixed-homing configuration. Similarly, there are many games that are available on a single
console, whereas many others are available across consoles.1
Despite the prevalence of mixed-homing configurations where single-homing and multi-
homing agents exist on each side of the market, the literature on platform competition generally
abstracts from the issue of endogenous homing by exogenously fixing agent homing decisions
prior to platform pricing decisions. This seminal literature has then largely focussed on other
critical issues in these markets. Many, for instance, consider the potential coordination issues
across the two sides of the platform. Caillaud and Jullien (2003) assume that coordination
favors the incumbent platform; otherwise platforms may fail to gain a critical mass, that is,
“fail to launch.” They argue this solves the “chicken and egg” problem of each side’s action
depending on the other side’s action. Hagiu (2006) shows the chicken and egg problem does not
occur when sides join platforms sequentially; and Jullien (2011) investigates this further over
a broader class of multi-sided markets. Ambrus and Argenziano (2009) show how prices can
Manuscript received April 2019; revised February 2020.
1We thank Rakesh Vohra and the three anonymous referees that reviewed our article. We also thank John Asker,
Irina Baye, Daniel Belton, Emilio Calvano, Jay Pil Choi, Andrei Hagiu, Andres Hervas-Drane, Justin Johnson, Byung-
Cheol Kim, Tobias Klein, Marius Schwartz, Liad Wagman, Jay Wilson, Lei Xu, and the audiences at the Fall 2013
Midwest Theory Meetings, the 2015 DC IO day, the Royal Economic Society 2015 Conference, the Twelfth An-
nual International Industrial Organization Conference, and the Fifth Annual Conference on Internet Search and
Innovation for their helpful comments. Please address correspondence to: Mark J. Tremblay, Farmer School of Busi-
ness, Miami University, 800 E. High St., Room 2017 Oxford, OH 45056 U. S. A. Phone: +1 513 529 4320. E-mail:
tremblmj@miamioh.edu.
1For example, Bungie, Sega, and Valve Corporation have all developed some video games that are exclusive to
a particular console; whereas Blizzard, Electronic Arts, and Ubisoft primarily develop games that are available for
all consoles.
1281
C
(2020) by the Economics Department of the University of Pennsylvania and the Osaka University Institute of Social
and Economic Research Association
1282 JEITSCHKO AND TREMBLAY
endogenize heterogeneity and steer agents to asymmetric allocation configurations; and Karle
et al. (forthcoming) consider how the structure of competition within the firm side of the market
determines whether all agents tip to one platform or whether the market is segmented between
the two platforms.2
When exogenous homing decisions are assumed, allocation-specific pricing decisions occur:
exogenously fixed multi-homers face high prices as platforms do not compete for them (due
to the fact that, by assumption, they join both platforms), whereas exogenously fixed single-
homers (who must be dislodged from a rival before they can be acquired as new customers)
face low prices. Moreover, postulating universal single- or multi-homing on one side precludes
observed allocations in which there is a mix of single- and multi-homing agents on the same side
of the platform. To understand how prices relate to equilibrium homing decisions requires a
model where platforms set prices prior to endogenous homing decisions made by consumers and
firms.
We consider platform competition in which consumers and firms observe platform pricing
before endogenously deciding whether and how many platforms to join. We show that dif-
ferent allocations of consumers and firms emerge in equilibrium, including the mixed-homing
allocation not seen in the previous literature. In addition, we find that sufficiently low prices
induce multi-homing and that certain allocations with multi-homing on one side require that
the price on that side be sufficiently low. These results highlight how lower prices coincide with
multi-homing and higher prices coincide with single-homing. We also identify conditions that
are required for certain allocations to exist as equilibria, and we show that industries where
a particular allocation occurs match the equilibrium conditions for that allocation. We show
this alignment between equilibrium conditions and real world industries for several platform
markets including those for smartphones, game consoles, video streaming, and sharing econ-
omy services.
Finally, we also show how two homogeneous platforms might avoid the Bertrand Paradox.
This is possible in platform markets, contrary to traditional markets, because undercutting
certain prices that earn profit might not be optimal in a two-side market. In particular, plat-
forms can both garner participation using straddle prices (two-sided prices where one price is
greater than its corresponding marginal cost whereas the other price is below its marginal cost)
that discourage undercutting. In this case, an undercutting price deviation, where the under-
cutting platform tips the market and garners all participation, results in additional revenues
on the side of the market with a positive margin side but also results in additional costs from
the side of the market with a negative margin. It is possible that the additional costs outweigh the
additional revenues so that price undercutting is not desirable and profitable price constellations
are attainable.3
Previous literature that has considered endogenous homing includes Armstrong and Wright
(2007), who extend Armstrong (2006) and show how the common “competitive bottleneck”
equilibrium, in which all consumers single-home and all firms multi-home, can endogenously
arise. The result stems from a model with horizontally differentiated platforms (i.e., the
Hotelling framework) in which for high transportation costs all agents single-home, whereas
for low transportation costs all agents multi-home. Although these allocations are observed in
2In addition to the primary participation decision, the role of beliefs and information play an important role in
determining the equilibria as examined by Hagiu and Hałaburda (2014), who consider “passive” price expectations
on one side in contrast to complete information about prices on the second side, and Gabszewicz and Wauthy (2014)
who also consider active and passive beliefs in determining platform allocations, or Hałaburda and Yehezkel (2013),
who show how multi-homing alleviates coordination issues tied to asymmetric information. In a normative analysis,
Weyl (2010) and White and Weyl (2016) fully mitigate coordination issues through insulating tariffs in which prices are
contingent upon participation, thus resolving failure-to-launch and multiple equilibrium concerns.
3Ambrus and Argenziano (2009) also discover the possibility of straddle pricing equilibria in the form of orthogonal
straddle prices. We find that, in addition to orthogonal straddle prices, symmetric straddle pricing equilibria are also
possible with endogenous homing.

To continue reading

Request your trial

VLEX uses login cookies to provide you with a better browsing experience. If you click on 'Accept' or continue browsing this site we consider that you accept our cookie policy. ACCEPT