Product Differentiation Through Exclusivity: Is There a One-Market-Power-Rent Theorem?

Posted by D. Daniel Sokol

Benjamin E. Hermalin, University of California, Berkeley and Michael L. Katz, University of California, Berkeley - Economic Analysis & Policy Group ask Product Differentiation Through Exclusivity: Is There a One-Market-Power-Rent Theorem?

ABSTRACT: In systems industries, combinations of components are consumed together to generate user benefits. Arrangements among component providers sometimes limit consumers’ ability to mix and match components, and such exclusive arrangements have been highly controversial. We examine the competitive and welfare effects of exclusive arrangements among system components in a model of relatively differentiated applications that run on relatively undifferentiated platforms. For a given set of components and prices, exclusive arrangements reduce consumer welfare by limiting consumer choice and raising equilibrium prices. In some cases, however, exclusivity raises consumer welfare by increasing the equilibrium number of platforms, which leads to lower prices relative to the monopoly outcome that would prevail absent exclusivity. We also show that there is no “One-Market-Power-Rent Theorem.” That is to say, exclusive deals with providers of differentiated applications can raise platforms’ margins without reducing application margins, so that overall industry profits rise.