Dynamic Price Competition with Network Effects

Posted by D. Daniel Sokol

Luis M.B. Cabral, IESE Buxiness School, explores Dynamic Price Competition with Network Effects.

ABSTRACT: I consider a dynamic model of competition between two proprietary networks. Consumers die and are replaced with a constant hazard rate; and firms compete for new consumers to join their network by offering network entry prices. I derive a series of results pertaining to: a) existence and uniqueness of symmetric equilibria, b) monotonicity of the pricing function (e.g., larger networks set higher prices), c) network size dynamics (increasing dominance vs. reversion to the mean), and d) firm value (how it varies with network effects). Finally, I apply my general framework to the study of termination charges in wireless telecommunications. I consider various forms of regulation and examine their impact on firm profits and market share dynamics.