Friday, January 27, 2012

Experimentation in Two-Sided Markets

Posted by D. Daniel Sokol

Martin Peitz, University of Mannheim - Department of Economics, Sven Rady, University of Bonn, Centre for Economic Policy Research (CEPR), CESifo (Center for Economic Studies and Ifo Institute for Economic Research), and Piers Trepper, Ludwig Maximilians University of Munich describe Experimentation in Two-Sided Markets.

ABSTRACT: We study optimal experimentation by a monopolistic platform in a two-sided market framework. The platform provider faces uncertainty about the strength of the externality each side is exerting on the other. It maximizes the expected present value of its profi t stream in a continuous-time infi nite-horizon framework by setting participation fees or quantities on both sides. We show that a price-setting platform provider sets a fee lower than the myopically optimal level on at least one side of the market, and on both sides if the two externalities are of approximately equal strength. If the externality that one side exerts is suffi ciently weaker than the externality it experiences, the optimal fee on this side exceeds the myopically optimal level. We obtain analogous results for expected prices when the platform provider chooses quantities. While the optimal policy does not admit closed-form representations in general, we identify special cases in which the undiscounted limit of the model can be solved in closed form.

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