Getting more third-party participants on board: Optimal pricing and investment decisions in competitive platform ecosystems

Abstract

In two-sided markets, hardware/software platforms meet the unified and personalized demands of consumers through hardware and software products respectively, forming their own ecosystems. For platform enterprises, how to drive third-party value creation through interface extensibility investment (typically on application programming interfaces, or APIs) under different pricing schemes, has become a critical issue under intensified competition. In this paper, we build game theoretic models in four platform competition scenarios (NR, NRT, IR, IRT) considering both investment decisions—no investment (N), investment (I), and pricing decisions—registration fee only (R), registration fee and transaction fee (RT), and analyze the competitive equilibrium in each scenario. Our results show that: (1) Although “reducing price” and “enhancing investment” are partial substitutes, platforms are still incentivized to implement both strategies. Contrary to the traditional wisdom, when platforms with investment charge both registration and transaction fees, the strengthening of cross-side network effect may lead to an increase in registration fee on both sides. (2) The improvement of interface extension effectiveness (cost reduction for developers per unit of investment from platforms) shifts more developers from single-homing to multi-homing, leading to fiercer market competition and thus lower platform profit in equilibrium. (3) Although implementing investment may not be optimal from the profit perspective, it does help platforms in securing a larger market share on the developer side. (4) The existence of same-side network effect enhances both side users’ incentive to enter the market; however, for the platforms, they should carefully mind the irrational price competition to avoid falling into profit-hurting traps.