A Model for Value Co-Production and Cross-Producer Bundles

Abstract

Many markets feature an economic structure with value co-created by multiple producers whose outputs are sold as a common bundle by a producer-consortium or independent firm. Examples include in-home video entertainment, technology goods and services, multi-sourced data platforms, and patent pools. This paper develops an economic model to study demand, production choices, revenue-sharing, and relative market power in such markets. Producers in these markets are not rivalrous competitors in the usual zero-sum sense, because output of each casts an externality on production decisions of others and total market demand expands with total output, albeit with diminishing returns. This property allows multiple producers to flourish in equilibrium (vs. just one with the most favorable technological or cost structure), and more so when the market expands less quickly with total output. Equilibrium production quantities of competitors are strategic complements, yet competition between producers does manifest itself, e.g., if one acquires better production technology (i.e., makes value units at lower cost) then the equilibrium production levels of other producers are reduced. Insights are also derived for alternative market structures, e.g., producers have more output and earn higher profit when organized into a distribution consortium (e.g., Hulu, or consortia of zoos or museums) vs. relying on a separate retailer. Mergers between producers have similar effect. The formulation enables us to rigorously answer economic questions ranging from pricing, revenue sharing, and production levels in a static setting, to market dynamics covering both the causes and effects of changes in industry structure.