Positive Network Effects Research Articles

Research Note— Analyzing Pricing Strategies for Online Services with Network Effects

In this study, we model firms that sell a product and a complementary online service, where only the latter displays positive network effects. That is, the value each consumer derives from the service increases with the total number of consumers that subscribe to the service. In addition, the service is valuable only to consumers who buy the product. We consider two pricing strategies: (1) bundle pricing, in which the firm charges a single price for the product and the service, and (2) separate pricing, in which the firm sets the prices of the product and the service separately, and consumers self-select whether to buy both or only the product. We show that in contrast to the common result in the bundling literature, often the monopolist chooses not to offer the bundle (he either sells the service separately or not at all) although bundling would increase both consumer surplus and social welfare. Thus, underprovision of the service can be the market outcome. We also demonstrate that network effects may cause the underprovision of the service.

On File Sharing With Indirect Network Effects Between Concert Ticket Sales and Music Recordings

This article analyzes the interdependency between the market for music recordings on the one side and the market for concert tickets on the other side, assuming that there are positive indirect network effects both from the record market to ticket sales for live performances and vice versa. In a model with two interrelated Hotelling lines, prices in both markets are corrected downward when compared to the standard Hotelling model. In the integrated business model, file sharing has an ambiguous effect on firms' profitability. As file sharing can indirectly increase demand for live performances, overall profits can either increase or decrease, depending on the strength of indirect network effects. Finally, file sharing may induce firms to switch from the traditional business model with two separate firms to an integrated business model where one agency markets both records and concerts (so-called 360° deals).

A Contest Model of a Professional Sports League with Two-Sided Markets

SummaryThis paper develops a model of a professional sports league with network externalities by integrating the theory of two-sided markets into a two-stage contest model. In professional team sports, the competition of the clubs functions as a platform that enables sponsors to interact with fans. In these club-mediated interactions, positive network effects operate from the fan market to the sponsor market, while positive or negative network effects operate from the sponsor market to the fan market. We show that the size of these network effects determines the level of competitive balance within the league. If the market potential of the sponsors is small (large), competitive balance increases (decreases) with stronger combined network effects. We further deduce that clubs benefit from stronger combined network effects through higher profits and that network externalities can mitigate the negative effect of revenue sharing on competitive balance. Finally, we derive implications for improving competitive balance by taking advantage of network externalities. For example, our model suggests that an increase in the market potential of sponsors produces a more balanced league.

Revisiting the incentive to tolerate illegal distribution of software products

Motivated by the recent strategy switch of a large software producer, this paper revisits the trade-offs associated with tolerating illegal distribution of software products. Conventional wisdom is that a higher level of positive network effects justifies a tolerant approach on the part of software producers—because illegal distribution leads to more users, amplifies positive network effects, and creates a greater demand for the legal version. I show that this wisdom does not hold in the context of supporting illegal versions with patches. Patches are used for plugging security vulnerabilities as well as for distributing functionality changes. Software producers have the option of supporting illegal versions with either or both kinds of patches. I find that, even in the presence of strong positive network effects, the least tolerant approach of denying illegal versions both kinds of patches can be optimal.

Social Networks and the Decision to Insure

Using data from a randomized experiment in rural China, this paper studies the influence of social networks on the decision to adopt a new weather insurance product and the mechanisms through which social networks operate. We provided financial education to a random subset of farmers and found a large social network effect on take-up: for untreated farmers, having an additional friend receiving financial education raised take-up by almost half as much as obtaining financial education directly, a spillover effect equivalent to offering a 15% reduction in the average insurance premium. By varying the information available to individuals about their peers’ take-up decisions and using randomized default options, we show that the positive social network effect is not driven by the diffusion of information on purchase decisions, but instead by the diffusion of knowledge about insurance. We also find that social network effects are larger in villages where households are more strongly connected, and when people who are the first to receive financial education are more central in the social network.

On File Sharing with Indirect Network Effects between Concert Ticket Sales and Music Recordings

This paper analyses the interdependency between the market for music recordings on the one side and the market for concert tickets on the other side, assuming that there are positive indirect network effects both from the record market to ticket sales for live performances and vice versa. In a model with two interrelated Hotelling lines prices in both markets are corrected downwards when compared to the standard Hotelling model. In the integrated business model file sharing has an ambiguous effect on firms' profitability. As file sharing can indirectly increase demand for live performances, overall profits can either increase or decrease, depending on the strength of indirect network effects. Finally, file sharing may induce firms to switch from the traditional business model with two separate firms to an integrated business model where one agency markets both records and concerts (so-called 360 degree deals).

A Qualitative Exploration of the Economic and Social Effects of Microcredit among People Living with HIV/AIDS in Uganda

HIV medical care, including antiretroviral therapy (ART), is often successful in restoring physical health and functioning. But in developing countries, HIV medical care is often insufficient to achieve social and economic health, and hence innovative economic support programs are much needed. We conducted semistructured interviews with 30 adults receiving ART and microcredit loans operated by Uganda Cares. Using content analysis, we explored the impact of the microcredit loans on the economic, social, and psychological well-being of respondents. Most respondents indicated that the microcredit loans played a positive role in their lives, helped them to keep their children in school and sustain their families, and improved their self-esteem and status in the community. In addition, we also found significant positive knowledge spill-over and network effects in the program with regard to business management and support. However, more than half of the participants indicated experiencing repayment problems either personally or with other group members due to unexpected emergencies and sickness. These findings highlight that microcredit programs have the potential of being an economic support system for HIV clients trying to reestablish their livelihoods, especially in resource-constrained settings, though more research is needed to determine the overall economic viability of such programs.

Exploiting network effects in the provisioning of large scale systems

Online services today are characterized by a highly congestion sensitive user base, that also experiences strong positive network effects. A majority of these services are supported by advertising and are offered for free to the end user. We study the problem of optimal capacity provisioning for a profit maximizing firm operating such an online service in the asymptotic regime of a large market size. We show that network effects heavily influence the optimal capacity provisioning strategy, as well as the profit of the firm. In particular, strong positive network effects allow the firm to operate the service with fewer servers, which translates to increased profit.

Accounting choice, market failure, and regulation

PurposeThe purpose of this paper is to explain the adoption of consolidated accounting for New Zealand holding companies during the period 1946‐1957.Design/methodology/approachAn explanatory, multiple‐case, holistic case study is used to explain the relative increase in consolidated accounting adoption in New Zealand following passage of the Companies Act 1955, in spite of that accounting choice remaining voluntary under the legislation.FindingsThe explanation is subjected to replication tests for explanatory case studies, and is supported by the data from all 25 cases satisfying the criterion for inclusion in the study.Originality/valueThe explanation differs from the micro‐economic explanations of accounting choice in terms of firm characteristics which are generated within the positive accounting research paradigm. It utilizes findings from research in the economics of standardization which show that mechanisms for co‐ordinating the behaviour of market participants enable them to capture benefits of market externalities which would otherwise be unavailable because of market failure. The explanation is that: the low rate of pre‐legislation consolidated accounting adoption was due to a market failure around the accounting information which rendered unilateral adoption generally uneconomic; and the post‐legislation surge in adoption was due to passage of the Act resolving the market failure by overcoming a co‐ordination problem for potential adopters, enabling them to realise positive network effects and, therewith, net benefits of adoption.

Implications of Consumer Learning for Free Trials of Information Goods

The usefulness of a software product becomes obvious to consumers only after they get to experience it and, upon experiencing it, they may reach different conclusions regarding its true value. We examine the problem of designing free software trials under a general learning function. Our analyses lead to several new findings. We find that a time-locked trial is optimal only when the rate of learning is sufficiently large. It is not optimal in other situations, even when it has an overall positive effect on consumers’ valuations. We also find that positive network effects have a minimal impact on this optimality. Interestingly, we find that neither the optimal trial period nor the optimal price is monotonically increasing in the rate of learning. At moderate rates, the software manufacturer pursues a dual strategy of offering a longer trial as well as a lower price. At higher rates of learning, the manufacturer does the opposite. Our results are robust, and incorporating possibilities such as a trial providing a signal of quality or learning being correlated with prior valuation has little impact on their applicability.

An Empirical Investigation of Dual Network Effects in Innovation Project Development

As innovation project developers advance their knowledge through more project experience, cross-project learning is likely to enhance project performance. Past research has demonstrated positive contributions of developer networking at the macro (project) level. However, the network effects at the micro (project property) level have not been studied as much. To address this gap, we apply a network model to examine which project properties (e.g., the project's operating system and topic) generate positive or negative network effects in addition to the macro network effect when developers engage in multiple projects. In this dual (developer and property) network model, we theorize that positive network effects take place because of cross-project learning and knowledge exchange, whereas negative network effects can also occur due to time constraints and cognitive overloading. In addition to such dual network effects, we also consider such project success predictors as spatial and temporal reach opportunities for project users (scope of translations and project age) and human resources availability (developer team size). Our empirical application using open source software (OSS) data demonstrates that the presented model can effectively integrate both the dual network effects and non-network variables as factors influencing the commercial success of OSS projects.

Exploring Impact: Negative Effects of Social Networks

The sociological literature on social networks emphasizes by and large positive network effects. Negative effects of such networks are discussed rather rarely. This paper tackles negative effects by applying economic theory, particularly neoclassical theory, new institutional theory and the results from experimental economics to the concept of social networks. In the paper it is assumed that social networks are exclusive and since exclusiveness affects the allocation of resources, negative external effects may occur. The argument of the paper is that it is not only advantages for network members that need to be investigated but also the disadvantages for non-network members. The results have two implications. The first one is for economic policy, which often fosters social networking while ignoring their negative externalities. The second one is for network research that can benefit from a more rigorous application of economic theories.

Introduction: Issues in Network Economics

Networks play an increasingly important role in the world economy. Some markets exhibit positive network effects in which the value of a good or service increases with the number of consumers. These include telecommunications, video formats such as Blu-ray, many computer software packages, and online social networks like eHarmony and Facebook. There can also be negative effects, which are present when an increase in the number of users makes the good or service less valuable. This is especially common in the transportation sector of the economy, where congestion can be a problem. Markets with network effects pose difficult policy questions. When strong positive network effects are present, no more than a few firms will exist in the long run, and surviving firms are likely to have market power. Although the market will be statically inefficient, consumer value rises when each supplier serves a greater number of consumers. In addition, firms in emerging markets with rapid technological change, such as broadband service providers, must invest heavily in research and development in order to remain viable. In this setting, dynamic efficiency may be better served with just one or a few firms. The articles in this series address fundamental theoretical and policy issues that are related to network economics. The first paper by Oz Shy contains a survey of both the theoretical and empirical literature that is related to network economics. The literature in this area is both broad and deep. Shy focuses his discussion on the influence of network effects on consumer demand, competition, technological progress, and intellectual property. He also discusses issues related to social networking and eco-

Complementary Online Services in Competitive Markets: How Firms Should Adjust Their Strategies Due to Network Effects

A growing number of firms are strategically utilizing IT and the Internet to provide online services to consumers who buy their products. Online services differ from traditional services, such as maintenance services, because they often promote interactivity among the firm’s customers and exhibit positive network effects. In this paper, we model the competition between two firms that sell a differentiated product, when each firm can offer a complementary online service to its customers. We examine how the market equilibrium changes when the service exhibits network effects, and determine how firms should adjust their strategies to account for such effects. Specifically, we find that when the service exhibits network effects, a firm’s decision whether to offer the service depends on the competitor’s decision as well as on the competitor’s service quality. When the service does not exhibit network effects, this is not the case. In addition, if the service exhibits network effects the two firms may be caught in a Prisoner’s Dilemma; a situation that does not arise in the absence of network effect. We also show that technological progress that enhances the value of the network to consumers can reduce firms’ profits when both offer the service. An increase in the size of the market can also have a negative effect on profits when the service exhibits network effects, but not otherwise. Finally, unlike previous works on products with network effects, showing under-provision in the context of a monopoly, we show that both underand over-provision of services can arise in a competitive setting.

Analyzing Pricing Strategies for Online-Services with Network Effect

In this study, we model firms that sell a product and a complementary online service, where only the latter displays positive network effects. That is, the value each consumer derives from the service increases with the total number of consumers that subscribe to the service. In addition, the service is valuable only to consumers who buy the product. We consider two pricing strategies: 1) bundle pricing, in which the firm charges a single price for the product and the service; and 2) separate pricing, in which the firm sets the prices of the product and the service separately, and consumers self-select whether to buy both or only the product. We show that, in contrast to the common result in the bundling literature, often the monopolist chooses not to offer the bundle (he either sells the service separately or not at all) while bundling would increase consumer surplus and social welfare. Thus, under-provision of the service can be the market outcome. We also demonstrate that network effects may cause the under-provision of the service.

Behind the scenes of the telecommunications miracle: An empirical analysis of the Indian market

The paper analyzes the demand and supply characteristics of the Indian telecommunications market, with the aim of contributing to the debate on the effectiveness of universal access policies in developing countries. The discussion is supported by some empirical evidence derived from a small time-series-cross-section dataset, containing mainly information on the fixed-lines segment of the market. The analysis suggests that the price elasticity of demand for fixed lines might be sensibly higher than the levels usually found in developed countries, while the crucial role of income and other sociodemographic variables seems to be confirmed. The paper also studies the impact of cellular penetration on fixed-lines diffusion. The results suggest the existence of a (positive) network effect in low penetration areas, while substitution (displacement) seems to arise in the most developed ones. Finally, the paper analyzes the supply side of the market, to assess the impact of market competition on investment. Competition seemingly helps stimulating investment in the most developed areas, but does not seem to have a significant impact in the less developed ones.

Correlated Failures, Diversification, and Information Security Risk Management

The increasing dependence on information networks for business operations has focused managerial attention on managing risks posed by failure of these networks. In this paper, we develop models to assess the risk of failure on the availability of an information network due to attacks that exploit software vulnerabilities. Software vulnerabilities arise from software installed on the nodes of the network. When the same software stack is installed on multiple nodes on the network, software vulnerabilities are shared among them. These shared vulnerabilities can result in correlated failure of multiple nodes resulting in longer repair times and greater loss of availability of the network. Considering positive network effects (e.g., compatibility) alone without taking the risks of correlated failure and the resulting downtime into account would lead to overinvestment in homogeneous software deployment. Exploiting characteristics unique to information networks, we present a queuing model that allows us to quantify downtime loss faced by a rm as a function of (1) investment in security technologies to avert attacks, (2) software diversification to limit the risk of correlated failure under attacks, and (3) investment in IT resources to repair failures due to attacks. The novelty of this method is that we endogenize the failure distribution and the node correlation distribution, and show how the diversification strategy and other security measures/investments may impact these two distributions, which in turn determine the security loss faced by the firm. We analyze and discuss the effectiveness of diversification strategy under different operating conditions and in the presence of changing vulnerabilities. We also take into account the benefits and costs of a diversification strategy. Our analysis provides conditions under which diversification strategy is advantageous.

Mobile Networks as a Two-Sided Platform - Case Open Telco

Internet companies have utilized the benefits of open innovation and open APIs for a long time, but mobile operators are just entering the open domain with a concept referred to here as Open Telco. This paper investigates how open APIs can be applied to mobile networks in order to transform them from a one-sided into a two-sided platform where new business models can be utilized. The research method is based on a single case study using a representative usage scenario. The research framework, applied in this case study, was driven by the literature analysis. The research was started by creating a set of usage scenarios for analysis by an expert group. The most representative case was then selected for a closer examination with the results presented in accordance with the research framework. According to the results, the Open Telco concept creates an ecosystem that enables a two-sided platform. However, positive network effects require at least national coverage; developers want innovative pricing schema and novel payment services need changes for regulation. Finally, the research limitations are expressed, the proposals for the next steps are given, results are compared with the literature findings, and conclusions are drawn.

Network Effects and Land Redistribution: A Quasi-Natural Experiment in Zimbabwe

The paper investigates whether positive network effects may have existed between large-scale commercial farmers and small-scale communal farmers prior to the recent land redistribution in Zimbabwe. A difference-in-difference approach is used where measurement is carried out using several data sources including farm level, geographic and survey information for cotton farmers in Mashonaland Central. It tests whether the removal of large-scale farmers has resulted in a decline in productivity for those small-scale farmers close to redistributed land when compared to those with more distant farms. A significant negative productivity effect is found in addition to a country-wide negative redistribution effect in general (due mainly to wider economic and political instability over the last 10 years).

Free trial or no free trial: Optimal software product design with network effects

A common business strategy to promote product adoption in software industry is to provide a free trial version with limited functionalities of the commercial product to increase the installed user base. The increase of user base will lead to higher value of the software because of positive network effects. However, offering a free trial version may cannibalize some demand of the commercial software. This paper examines the tradeoff between network effects and the cannibalization effect, and aims to uncover the conditions under which firms should introduce the free trial product. We find that when network intensity is strong, it is more profitable for a software monopoly to offer free trial than to segment the market with two versions of different qualities. In addition, this paper solves the joint decision problem of finding the optimal quality for the firm’s free trial software and the optimal price of its commercial product.