Abstract
We study the dynamic optimization of platform pricing in industries with positive direct net-work externalities. The utility of the network for the consumer is modelled as a function of three components. Platform price and network size (participation rate) affect the consumer’s decision to join the platform. The platform operator is assumed to know the consumer’s sensitivities with respect to these components. In addition, consumer’s utility is a function of other attributes such as network privacy policies and environmental effects of the service. We assume that the distribution of these unobserved preferences in the potential customer base is known to the platform operator. We show analytically how the unobserved preferences affect the dynamic platform price design. Both static and rational expectations with respect to the platform participation are presented. We simulate an electricity market demand side management service application and show that the platform operator sets low prices in the launch phase. The platform operator can set higher launching prices if it can affect customers’ preferences, expectations or adjustment friction.
Highlights
Pricing decisions in industries with positive network externalities require careful analysis
For a profit maximizing monopolist, the main implications of positive network externality for the optimal price setting can be summarized as follows: first, pricing depends on how the consumers value the network externality and on consumers’ price sensitivity of demand; second, the price is set according to network size and is dynamic by nature, and third, the distribution of consumers’ unobserved preferences related to the service the network provides has a great impact on the dynamic price profile [27]
We show analytically that the price sensitivity of participation rate is related to the probability density function of the unobserved preferences, the participation adjustment factor, the network externality function and the consumers’
Summary
Pricing decisions in industries with positive network externalities require careful analysis. The utility of the network for the consumer is modelled as a function of three components Both the platform price and the network size (participation) affect the consumer’s decision to join the platform and the platform operator is assumed to know the consumers’ sensitivities with respect to these components. The DSM service provider has a better view of the total electricity demand the larger the network size (pool of households) is. We quantify the effect of unobserved preference distribution, consumer expectations and participation demand friction on the optimal pricing and on the network’s value.
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