ECON 142 UCI Industrial Organization Economics Research Paper

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Write a paper which should be related to industrious economic.

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Guidelines for Research Paper and Discussant Report
Econ 142CW Industrial Organization III
Prof. Jiawei Chen
1. Research Paper
For this course, I will accept three different types of original research papers: case study,
empirical analysis, or theoretical analysis. Your paper should have a clear link to what we cover
in this course (lectures and readings).
General Approach
(a) Focus on a common practice of modern firms
Examples: advertising, price discrimination
(b) Focus on a common feature of modern markets
Examples: role of new technology, government regulation
After choosing one of the two general approaches above, you should decide whether you want to
do a case study, an empirical analysis, or a theoretical analysis within that general approach.
(a) A Common Practice of Modern Firms
Select a firm practice that interests you. In preparation for undertaking the research, you should
evaluate the industries and major firms to which this practice appears to be important. Compare
and contrast: why is this practice more prevalent in one industry than another? Why does firm X
adopt this practice more than firm Y?
Brainstorming in this manner should lead you to some interesting research topics.
For a case study, you should examine a particular instance of this practice by a firm (or a select
group of firms) in an industry. In general, you should pick an instance where the practice raises
some public policy concerns. As you are choosing a single instance, I will expect a detailed,
micro-level analysis, along the same lines as the case studies presented in The Antitrust
Revolution.
For an empirical study, you should collect data on firms and/or industries in which these
practice occur in differing amount or form. Use the data to measure either the determinants of the
practice (what are the factors that lead firms to adopt this practice) or the impact of the practice
on firm/industry performance. An ideal paper would examine both. The main constraints would
be [1] the availability of relevant data and [2] familiarity with econometrics and econometrics
software.
For a theoretical study, you can do one of two things: you can either write a literature review
on the recent models proposed by academic economists to explain some aspect of the chosen
1
firm practice or write your own model (can and most likely will be an extension of an existing
model). The first option will require you to read and synthesize quite a few academic papers,
some of which will be technical in nature. The second option will require you to gain familiarity
with the analytical tools of modern economics, including constrained optimization and game
theory.
(b) A Common Feature of Modern Markets
This approach is similar to (a) above but focuses on a market feature instead of a firm practice.
Requirements
The outline should be approximately 2-3 pages and the paper should be approximately 12-15
pages (doubled-spaced, 12-point font, and 1-inch margins).
I expect the paper to be well-written. Properly document your paper and use formal citation
practices. As a warning, I will prosecute plagiarism to the fullest extent. I do not mind you using
research or information from another source as long as you properly cite it.
A good reference on how to properly cite your sources is the MLA Handbook for Writers of
Research Papers, available in the Langson Library Reference Collection. Related information is
also available online in the MLA Formatting and Style Guide provided by Purdue Online Writing
Lab, located at:
https://owl.purdue.edu/owl/research_and_citation/mla_style/mla_formatting_and_style_guide/ml
a_formatting_and_style_guide.html.
2. Discussant Report
The discussant report involves approximately 4-5 pages (doubled-spaced, 12-point font, and 1inch margins) summarizing a case study in the textbook or a paper listed in the references in the
textbook and offering comments and suggestions to help the author improve the paper. The
purpose is to develop your ability to critically evaluate research. Your report should be precise
throughout, but don’t be afraid to have strong opinions. Avoid making superficial comments or
only summarizing the paper—your report should ideally demonstrate the depth and breadth of
your knowledge in Industrial Organization.
Include the following in your report:
A. Summary. For example:
? What are the questions and goals of the paper?
? What is the theoretical/empirical framework being used?
? What are the most interesting ideas and results?
? How do they relate and compare to other research?
B. Comments. For example:
? Are the research questions interesting?
? Are the assumptions reasonable?
? Do the results answer the stated questions?
? Are the results generalizable?
2
C. Suggestions. For example:
? Are there alternative frameworks or approaches that are more suitable for the stated
questions?
? Using the present model, what other interesting questions can be answered? What other
results would you like to see?
? Are there important extensions that should be considered?
3
Switching Costs and Network Compatibility
Jiawei Chen
University of California, Irvine
Econ 142CW
Chen (University of California, Irvine)
Switching Costs and Network Compatibility
Econ 142CW
1 / 49
Network e¤ect
A product or service has network e¤ect (NE) if its value to a
consumer increases in the number of its users
mobile phone services (NE: discounts for on-net calls)
banking services (NE: branch and ATM networks)
etc.
Chen (UC Irvine)
Switching Costs and Network Compatibility
Econ 142CW
2 / 49
Two prominent features of network industries
Two prominent features of network industries: consumers’switching
costs and …rms’compatibility choices
(1) Switching costs (SC): consumers can switch between networks
but costly to do so
switching from one mobile phone network to another: pay early
termination fees
switching from one bank to another: needs to inform all relevant
parties (direct deposits, automatic payments, etc.)
etc.
According to Shy (2001), SC is one of the main characteristics of
network industries
Chen (UC Irvine)
Switching Costs and Network Compatibility
Econ 142CW
3 / 49
Two prominent features of network industries
(2) Firms sometimes make their networks compatible
Compatibility between two networks: the ability of consumers in
either network to enjoy network e¤ect from both networks
mobile phone service providers may extend their on-net calling
discounts to cover each other’s networks
banks may allow their customers to access their combined ATM
networks without extra fees
Chen (UC Irvine)
Switching Costs and Network Compatibility
Econ 142CW
4 / 49
This paper
investigate the e¤ects of SC on network compatibility
a dynamic duopoly model with an in…nite horizon
in each period, …rms choose both network compatibility and prices
numerically solve for a Markov perfect equilibrium of the model
study how SC a¤ect …rms’compatibility choices and social welfare
Chen (UC Irvine)
Switching Costs and Network Compatibility
Econ 142CW
5 / 49
Policies
Motivated by recent and growing trend of regulations that aim at
reducing SC in network industries
mobile number portability (MNP) was implemented in many countries
in recent years to reduce consumer SC in mobile phone industry
in the EU retail banking and payments systems markets, the European
Competition Authorities (ECA) recommends the implementation of
switching facilities and account number portability to lower SC
Many studies on the e¤ects of SC on market concentration and prices
Little is known about how a change in SC a¤ects …rms’network
compatibility choices (shared on-net calling discounts, shared ATM
networks, etc.)
Chen (UC Irvine)
Switching Costs and Network Compatibility
Econ 142CW
6 / 49
Findings
SC tend to induce compatible networks
Firms face a choice between two modes of competition
make their networks incompatible and …ght for market dominance
or make their networks compatible and peacefully share the market
SC incentivize …rms to harvest their locked-in consumers rather than
price aggressively for market dominance
tip the balance in favor of peaceful sharing
change the market from …erce competition and incompatible networks
to mild competition and compatible networks
Chen (UC Irvine)
Switching Costs and Network Compatibility
Econ 142CW
7 / 49
Findings
Welfare analysis:
In a network industry with high SC:
a public policy that reduces SC, by itself, does not lead to signi…cant
increase in total surplus
e¢ ciency gains from lowering SC o¤set by e¢ ciency losses from …rms
reducing the compatibility between their networks
Combining the policy with a mandatory compatibility policy can lead
to unambiguous and sizable e¢ ciency gains
such a combination makes it possible to have the best of both
worlds— low SC and compatible networks
an example of mandatory compatibility policy: ATM surcharge bans
Chen (UC Irvine)
Switching Costs and Network Compatibility
Econ 142CW
8 / 49
Empirical evidence
Empirical observations in some real-world industries provide anecdotal
evidence that supports the model predictions in this paper
Mobile number portability (MNP) was implemented in Hong Kong in
1999, which reduced consumers’SC
During implementation period, mobile phone service providers reduced
the compatibility among their networks (shared on-net calling
discounts) by adopting network-based discriminatory pricing schemes
Following the implementation of MNP, prices decreased sharply
Large …rms grew larger at the expense of smaller …rms, resulting in a
higher level of market concentration
These patterns are consistent with the model predictions
Chen (UC Irvine)
Switching Costs and Network Compatibility
Econ 142CW
9 / 49
Model
Discrete time with an in…nite horizon
Two …rms selling to a sequence of buyers with unit demands
At the start of a period, …rm i is endowed with an installed base
(users of its product), bi 2 f0, 1, . . . , M g
M is consumer population: upper bound on the sum of the …rms’
installed bases
Outside option (“no purchase”), indexed 0
b0 = M b1 b2
does not o¤er network bene…ts
Industry state: b = (b1 , b2 )
Chen (UC Irvine)
Switching Costs and Network Compatibility
Econ 142CW
10 / 49
Model
In each period, …rms engage in a two-stage game, choosing
compatibility in the …rst stage and prices in the second stage
di 2 f0, 1g: compatibility choice of …rm i, where di = 1 means
“propose compatibility”
Networks are “compatible” if and only if d1 d2 = 1
After compatibility is determined, …rms simultaneously choose prices
in the second stage
Chen (UC Irvine)
Switching Costs and Network Compatibility
Econ 142CW
11 / 49
Model
Demand in each period comes from a random consumer
r 2 f0, 1, 2g denotes the good that the consumer is loyal to
e.g. a consumer’s product dies and she returns to the market!loyal to
the brand that she previously has
Pr(r = j jb ) = bj /M
a larger installed base implies a larger expected demand from loyal
consumers
Chen (UC Irvine)
Switching Costs and Network Compatibility
Econ 142CW
12 / 49
Model
The utility that a consumer who is loyal to r gets from buying good i
is
vi + 1(i 6= 0)?g (bi + d1 d2 b i )
pi
1(r 6= 0, i 6= 0, i 6= r )k + ei
vi is the intrinsic product quality
…xed over time; common across …rms: vi = v , i = 1, 2
without loss of generality, set v = 0, but consider di¤erent values for v0
bi + d1 d2 b i is the e¤ective installed base of …rm i given the
compatibility choices d1 and d2
?g (.) captures NE
?
Chen (UC Irvine)
0 controls the strength of NE; g (bi ) = bi /M
Switching Costs and Network Compatibility
Econ 142CW
13 / 49
Model
The utility that a consumer who is loyal to r gets from buying good i
is
vi + 1(i 6= 0)?g (bi + d1 d2 b i )
pi
1(r 6= 0, i 6= 0, i 6= r )k + ei
pi denotes the price for good i; p0 is always zero
k 0 denotes SC
incurred if the consumer switches from one inside good to the other
ei is the consumer’s idiosyncratic preference shock for good i
TIEV, ind. across products, consumers, time!logit choice probabilities
Chen (UC Irvine)
Switching Costs and Network Compatibility
Econ 142CW
14 / 49
Model
Timing of the model:
…rms are endowed with installed bases b = (b1 , b2 )
depreciation then takes place (e.g. product death)
each unit of installed base ind. depreciates with probability ? 2 [0, 1]
…rms choose compatibility and then prices without knowing ei or r
consumer chooses the good that o¤ers the highest current utility
next-period state b 0 is determined according to depreciation and sale
Chen (UC Irvine)
Switching Costs and Network Compatibility
Econ 142CW
15 / 49
Types of equilibria
Three qualitatively distinct equilibria are found: Rising, Tipping, and
Compatibility
Chen (UC Irvine)
Switching Costs and Network Compatibility
Econ 142CW
16 / 49
Rising equilibrium
Rising equilibrium: when both NE and SC are weak
20
20
15
10
5
*
0
0
*
*
*
*
*
**
*
15
2.2
2
1.8
1.6
1.4
1.2
20
*
10
20
10
10
20
10
0 0
5
0
0
10
20
(1) Compatibility
reports the compatibility region in the state space
an asterisk indicates a state in which both …rms prefer compatibility
and therefore the networks are compatible
in a Rising equilibrium, networks are generally incompatible
Chen (UC Irvine)
Switching Costs and Network Compatibility
Econ 142CW
17 / 49
Rising equilibrium
Rising equilibrium: when both NE and SC are weak
20
20
15
10
5
*
0
0
*
*
*
*
*
**
*
15
2.2
2
1.8
1.6
1.4
1.2
20
*
10
20
10
10
10
0 0
20
5
0
0
10
20
(2) Firm 1’s policy function
plots …rm 1’s equilibrium price as function of the …rms’installed bases
relatively monotonic policy function
a …rm’s price rises in own installed base and falls in rival’s installed base
Chen (UC Irvine)
Switching Costs and Network Compatibility
Econ 142CW
18 / 49
Rising equilibrium
Rising equilibrium: when both NE and SC are weak
20
20
15
10
5
*
0
0
*
*
*
*
*
**
*
15
2.2
2
1.8
1.6
1.4
1.2
20
*
10
20
10
10
20
10
0 0
5
0
0
10
20
(3) Resultant forces
arrows show the expected movement of the state from one period to
the next
global convergence towards symmetric states
market dominance unlikely
Chen (UC Irvine)
Switching Costs and Network Compatibility
Econ 142CW
19 / 49
Types of equilibria
With non-trivial NE and/or SC, two types of equilibria occur
Tipping equilibrium
Compatibility equilibrium
These two types of equilibria are the focus of our attention
Chen (UC Irvine)
Switching Costs and Network Compatibility
Econ 142CW
20 / 49
Tipping equilibrium
Tipping equilibrium: when NE is strong and SC is modest
20
20
15
*
10
15
2
0
-2
10
20
5
0
0
20
10
*
10
20
10
0 0
5
0
0
10
20
(1) Compatibility
in a Tipping equilibrium, the networks are almost always incompatible
Chen (UC Irvine)
Switching Costs and Network Compatibility
Econ 142CW
21 / 49
Tipping equilibrium
Tipping equilibrium: when NE is strong and SC is modest
20
20
15
*
10
15
2
0
-2
10
20
5
0
0
20
10
*
10
10
0 0
20
5
0
0
10
20
(2) Firm 1’s policy function
intense price competition when …rms’installed bases are of comparable
size (deep trench along and around the diagonal)
away from the diagonal, competition softens
Chen (UC Irvine)
Switching Costs and Network Compatibility
Econ 142CW
22 / 49
Tipping equilibrium
Tipping equilibrium: when NE is strong and SC is modest
20
20
15
*
10
15
2
0
-2
10
20
5
0
0
20
10
*
10
20
10
0 0
5
0
0
10
20
(3) Resultant forces
industry tends to move away from diagonal once an asymmetry arises
industry converges to highly asymmetric states
market likely to be dominated by a single …rm
Chen (UC Irvine)
Switching Costs and Network Compatibility
Econ 142CW
23 / 49
Compatibility equilibrium
Compatibility equilibrium: when SC is strong
20
20
15
15
4
10
5
*
0
0
*
2
*
***
******
*****
*****
******
****
****
**
10
10
0
20
20
10
20
10
0 0
5
0
0
10
20
(1) Compatibility
networks are compatible when …rms have comparable installed bases
Chen (UC Irvine)
Switching Costs and Network Compatibility
Econ 142CW
24 / 49
Compatibility equilibrium
Compatibility equilibrium: when SC is strong
20
20
15
15
4
10
5
*
0
0
*
2
*
***
******
*****
*****
******
****
****
**
10
10
0
20
20
10
10
0 0
20
5
0
0
10
20
(2) Firm 1’s policy function
in compatibility region, prices are high, peaking at the point where
each …rm has half of the consumers
Chen (UC Irvine)
Switching Costs and Network Compatibility
Econ 142CW
25 / 49
Compatibility equilibrium
Compatibility equilibrium: when SC is strong
20
20
15
15
4
10
5
*
0
0
*
2
*
***
******
*****
*****
******
****
****
**
10
10
0
20
20
10
20
10
0 0
5
0
0
10
20
(3) Resultant forces
global convergence towards symmetric states
market dominance unlikely
Chen (UC Irvine)
Switching Costs and Network Compatibility
Econ 142CW
26 / 49
Switching Costs and the Type of Equilibrium
4
3
2
1
0
1
2
3
shows the type of equilibrium that occurs for di¤erent combinations
of ? (strength of NE) and k (SC)
R = Rising, T = Tipping, C = Compatibility
Chen (UC Irvine)
Switching Costs and Network Compatibility
Econ 142CW
27 / 49
Switching Costs and the Type of Equilibrium
4
3
2
1
0
1
2
3
when NE is modest (? 2): a Rising equilibrium at low SC and a
Compatibility equilibrium at high SC
when there is strong NE (? > 2): a Tipping equilibrium at low SC
and a Compatibility equilibrium at high SC
Chen (UC Irvine)
Switching Costs and Network Compatibility
Econ 142CW
28 / 49
Switching Costs and Compatibility
0.5
0
4
3
3
2
2
1
1
0
plots probability that networks are compatible (based on long-run
probability distribution of industry state) for di¤erent combinations of
? and k
Chen (UC Irvine)
Switching Costs and Network Compatibility
Econ 142CW
29 / 49
Switching Costs and Compatibility
0.5
0
4
3
3
2
2
1
1
0
when SC is low, probability of compatible networks is small for weak
NE and essentially zero for strong NE
this probability increases signi…cantly as SC increases
SC induces …rms to make their networks compatible
Chen (UC Irvine)
Switching Costs and Network Compatibility
Econ 142CW
30 / 49
Switching Costs and Market Concentration
0.7
0.6
4
3
3
2
2
1
1
0
changes in SC alter type of equilibrium in the market and …rms’
compatibility choices
one consequence is that the level of market concentration is a¤ected
this …gure shows expected long-run Her…ndahl-Hirschman Index (HHI)
a higher HHI indicates a more concentrated market
Chen (UC Irvine)
Switching Costs and Network Compatibility
Econ 142CW
31 / 49
Switching Costs and Market Concentration
0.7
0.6
4
3
3
2
2
1
1
0
when NE is modest (? 2), HHI is low throughout
when NE is strong (? > 2), HHI is high at low SC, but drops
signi…cantly at high SC
market is dominated by a single …rm at low SC (high market
concentration in a Tipping equilibrium)
but becomes fragmented at high SC (low market concentration in a
Compatibility equilibrium).
Chen (UC Irvine)
Switching Costs and Network Compatibility
Econ 142CW
32 / 49
Switching Costs and Price
2.5
2
1.5
4
3
3
2
2
1
1
0
increases in SC increase the average price substantially, for both small
NE and large NE
Chen (UC Irvine)
Switching Costs and Network Compatibility
Econ 142CW
33 / 49
Mobile number portability (MNP) in Hong Kong
Revisit the Hong Kong MNP example
the model and results in this paper o¤er a possible explanation
MNP!lower SC!changes equilibrium from Compatibility to Tipping
correspondingly: (1) …rms reduce compatibility between their
networks, (2) prices go down, and (3) level of market concentration
goes up
this is exactly what happened in Hong Kong when MNP was
implemented in 1999
provides anecdotal evidence that supports model predictions in this
paper
Chen (UC Irvine)
Switching Costs and Network Compatibility
Econ 142CW
34 / 49
Public Policies and Welfare
Evaluate two public policies in network industries related to SC and
compatibility
1
reduction in SC
mobile number portability in mobile phone industry
account number portability in banking industry
2
mandatory compatibility between di¤erent networks, such as shared
on-net calling discounts and shared ATM networks
Chen (UC Irvine)
Switching Costs and Network Compatibility
Econ 142CW
35 / 49
Public Policies and Welfare
4
1
0.5
0
30
30
C
MC
3
20
2
10
EC
20
B
A
10
PC
1
0
1
2
3
0
0
1
2
3
0
0
1
2
3
0
1
2
3
Each panel plots how an equilibrium outcome variable is a¤ected
when k (SC) is varied between 0 and 3
From left to right, the panels show probability of compatible
networks, producer surplus (PS), consumer surplus (CS), and total
surplus (TS), respectively
Chen (UC Irvine)
Switching Costs and Network Compatibility
Econ 142CW
36 / 49
Public Policies and Welfare
4
1
0.5
0
30
30
C
MC
3
20
2
10
EC
20
B
A
10
PC
1
0
1
2
3
0
0
1
2
3
0
0
1
2
3
0
1
2
3
In each panel, three compatibility regimes are considered:
1
2
3
endogenous compatibility (EC; dash-dot line): the laissez faire
regime; corresponds to the model that we have been analyzing so far
mandatory compatibility (MC; solid line): impose the condition that
networks are compatible
for comparison purposes, also consider prohibited compatibility (PC;
dotted line): impose the condition that networks are incompatible
Chen (UC Irvine)
Switching Costs and Network Compatibility
Econ 142CW
37 / 49
Public Policies and Welfare
4
1
0.5
0
30
30
C
MC
3
20
2
10
EC
20
B
A
10
PC
1
0
1
2
3
0
0
1
2
3
0
0
1
2
3
0
1
2
3
(1) Compatibility
under EC (dash-dot line), as SC is reduced from 3 to 0, …rms become
less likely to make their networks compatible
brings the industry farther away from MC (solid line) and closer to PC
(dotted line)
Chen (UC Irvine)
Switching Costs and Network Compatibility
Econ 142CW
38 / 49
Public Policies and Welfare
4
1
0.5
0
30
30
C
MC
3
20
2
10
EC
20
B
A
10
PC
1
0
1
2
3
0
0
1
2
3
0
0
1
2
3
0
1
2
3
(2) Producer Surplus and (3) Consumer Surplus
both PS and CS increase successively as we move from PC to EC to
MC
everything else equal, making networks compatible generates larger
bene…ts from network e¤ects
enlarges “economic pie” and allows both …rms and consumers to be
better o¤
Chen (UC Irvine)
Switching Costs and Network Compatibility
Econ 142CW
39 / 49
Public Policies and Welfare
4
1
0.5
0
30
30
C
MC
3
20
2
10
EC
20
B
A
10
PC
1
0
1
2
3
0
0
1
2
3
0
0
1
2
3
0
1
2
3
(2) Producer Surplus
reducing SC generally lowers PS under each of the three compatibility
regimes
as it becomes easier for consumers to switch, …rms focus more on
competing for each other’s customers and less on exploiting their
locked-in customers
higher intensity of price competition lowers …rms’pro…ts
Chen (UC Irvine)
Switching Costs and Network Compatibility
Econ 142CW
40 / 49
Public Policies and Welfare
4
1
0.5
0
30
30
C
MC
3
20
2
10
EC
20
B
A
10
PC
1
0
1
2
3
0
0
1
2
3
0
0
1
2
3
0
1
2
3
(3) Consumer Surplus
if we hold probability of compatible networks …xed (either MC or PC),
a reduction in SC unambiguously increases CS
however, under EC, e¤ect of a reduction in SC on CS becomes
ambiguous
two concurrent changes: reduction in SC, and the consequent reduction
in probability of compatible networks
while the former increases CS, the latter reduces it; net e¤ect
ambiguous
Chen (UC Irvine)
Switching Costs and Network Compatibility
Econ 142CW
41 / 49
Public Policies and Welfare
4
1
0.5
0
30
30
C
MC
3
20
2
10
EC
20
B
A
10
PC
1
0
1
2
3
0
0
1
2
3
0
0
1
2
3
0
1
2
3
(3) Consumer Surplus
Under EC
reducing SC from 3 to 0 decreases CS from 11.7 (point A) to 9.5
(point B)
Combine the reduction in SC with mandatory compatibility
CS increases signi…cantly from 11.7 (point A) to 23.3 (point C)
much bigger increase in CS from A to C than from A to B
Chen (UC Irvine)
Switching Costs and Network Compatibility
Econ 142CW
42 / 49
Public Policies and Welfare
4
1
0.5
0
30
30
C
MC
3
20
2
10
EC
20
B
A
10
PC
1
0
1
2
3
0
0
1
2
3
0
0
1
2
3
0
1
2
3
(4) Total Surplus
When SC changes, variation in PS is much smaller than variation in CS
So changes in TS (=PS+CS) are largely determined by changes in
CS!we observe patterns in TS similar to those in CS
Under EC: reducing SC from 3 to 0 decreases TS from 14.4 to 10.8
Combine the reduction in SC with mandatory compatibility: TS
increases signi…cantly from 14.4 to 25.3
Chen (UC Irvine)
Switching Costs and Network Compatibility
Econ 142CW
43 / 49
Public Policies and Welfare
Policy implication
a public policy that reduces SC, by itself, does not lead to substantial
increase in TS
e¢ ciency gains from lowering SC are o¤set by e¢ ciency losses from
…rms reducing compatibility between their networks
combining the policy with a mandatory compatibility policy can lead to
unambiguous and sizable e¢ ciency gains
such a combination makes it possible to have the best of both
worlds— low SC and compatible networks
Chen (UC Irvine)
Switching Costs and Network Compatibility
Econ 142CW
44 / 49
Conclusion
Investigate how consumer SC a¤ect …rms’compatibility choices and
social welfare in network industries
SC tend to induce compatible networks
A public policy that reduces SC also tends to make networks
incompatible, and results in small e¢ ciency gains at best
Combining the policy with a mandatory compatibility policy can lead
to unambiguous and sizable e¢ ciency gains
Call for further research on design and evaluation of public policies
related to SC and network compatibility
Chen (UC Irvine)
Switching Costs and Network Compatibility
Econ 142CW
45 / 49
Extensions
1. Forward-looking …rms and consumers
Dual dynamics (dynamics on both the supply side and the demand side)
How does consumers’forward-looking behavior a¤ect …rms’pricing and
compatibility choices?
Is market dominance more or less likely when consumers are
forward-looking?
How are CS, PS, and social welfare a¤ected?
Chen (UC Irvine)
Switching Costs and Network Compatibility
Econ 142CW
46 / 49
Extensions
2. Allow …rms to innovate
Each …rm invests in R&D to improve product’s intrinsic quality over
time
Is network size or product quality more important in determining
eventual winner in the market?
Which …rm tends to invest more in R&D, larger …rm or smaller …rm?
When products are made compatible, do …rms invest more or less in
R&D?
Chen (UC Irvine)
Switching Costs and Network Compatibility
Econ 142CW
47 / 49
Extensions
3. Endogenous SC
In real-world industries, some SC are exogenous and some are
endogenous
E.g., transaction costs, learning costs, and search costs are typically
exogenous, not much a¤ected by …rms’actions
In contrast, contractual commitments and loyalty programs are
endogenous, result of …rms’actions
This paper has focused on exogenous SC and abstracted from the
endogenous ones
Chen (UC Irvine)
Switching Costs and Network Compatibility
Econ 142CW
48 / 49
Extensions
3. Endogenous SC (cont.)
In some industries endogenous SC are an important factor
E.g. early termination fees in television and wireless contracts
In those industries …rms often face three decisions:
price of their good
endogenous component of their own good’s SC
compatibility choice
How do endogenous SC a¤ect …rms’pricing and compatibility
decisions, market structure, and ultimately, welfare in the economy?
Chen (UC Irvine)
Switching Costs and Network Compatibility
Econ 142CW
49 / 49

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Switching Costs and Network Compatibility

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