The Potato Salad Effect: The Impact of Competition Intensity on Outcomes in Crowdfunding Platforms

Abstract

Crowdfunding platforms are peer-to-peer two-sided markets that enable amateur entrepreneurs to raise money for their ventures over the Internet. However, in allowing practically anyone to enter, such markets risk being flooded with low-quality offerings, a situation that might be detrimental to the success of higher-quality products. We empirically investigate the implications of such a situation, referred to as a “market of lemons”. We analyze a quasi-natural experiment in the form of an exogenous media shock that occurred on Kickstarter.com. The shock was followed by a sharp increase in the number of campaigns, particularly low-quality ones, offered on the supply side of the market; no such increase was observed on the demand side of the market (backers who contribute to campaigns). These unique conditions enable us to estimate how crowdfunding platforms are affected by the presence of an atypically large number of low-quality campaigns, while controlling for temporal trends and seasonal effects. We use two novel identification strategies to show that, in line with theory, a market of lemons significantly decreases the revenue of successful campaigns. However, campaign quality moderates this effect, such that the performance of the highest-quality campaigns is unaffected. We discuss theoretical implications as well as managerial implications for entrepreneurs.