Thursday, February 22, 2018

Bundles of Trouble: Can Competition Law Adapt to Digital Pricing Innovation?

Bronwyn E. Howell, Victoria University of Wellington - School of Management and Petrus H Potgieter, University of South Africa ask Bundles of Trouble: Can Competition Law Adapt to Digital Pricing Innovation?

ABSTRACT: A defining characteristic of the burgeoning digital economy is the extent to which providers offer their products and services to consumers in bundles. This is hardly surprising, as these products typically have a marginal cost of zero. If demand for the digital good is independent of demand for another product, both profit and total welfare will be higher when the goods are bundled and sold at a single price (Bakos & Brynjolfsson, 1999; Liebowitz & Margolis, 2009; Parker & Alstyne, 2005). Another defining characteristic of the digital economy, due in part to the economic properties of digital goods - notably zero margnal cost and the prezence of network effects - is the tendency towards the emergence of highly-concentrated, monopolistically-competitive markets and a pattern of rivalry resulting in competition ‘for the market’ and ‘winner-takes-all’ outcomes (Shapiro & Varian, 1999). What constitutes acceptable competitive behaviour in these markets likely differs substantially from that in markets for goods with standard economic characteristics, leading some to question whether the current tools used to specify and enforce competition laws are no longer suitable for governing commercial activity in a digital economy (Brennan, 2008; Carlton & Perloff, 2005; Evans & Schmalensee, 2013).

We contend that the increasing use of product bundling in a digital economy poses additional challenges to the effectiveness of competition law as currently applied. The Structure-Conduct-Performance (SCP) approach to analysing market interactions is limited by its narrow focus on individual product markets, defined using tests such as the Small but Significant Non-transitory Increase in Price (SSNIP). It is further restricted by the historic reliance upon quantitative econometric analysis of substitution effects in extant markets, which is ill-suited to capture the complexities in the interrelationshis between the demands for the different products in bundles, and which may become computationally intractable as the own- and cross-elasticities increase exponentially with the number of products in the bundle and providers in the market. Furthermore, classic econometric analysis cannot be used to assess potential competitive effects in markets where the bundles in question have yet to be offered. If competition authorities do not take the complexities of bundling into account in their decision-making, then potentially welfare-enhancing pricing innovations may be incorrectly prevented from proceeding, with consequent implications for the willingness of firms to engage in pricing innovation essential to the full realisation of economic benefits of the digital economy.

We propose a new approach to assist in understanding competition in the digital economy. Simulation and numerical analysis of hypothetical scenarios under different strategic choices by firms and consumer preferences offers a new way of evaluating questions of whether intervention is indicated in specific circumstances. This paper illustrates the potential of such an approach using a model based on the recent proposed merger between Sky Television and Vodafone. It draws extensively on the theoretical arguments and examples in two recent papers (Howell & Potgieter, 2017b, 2017a) and makes recommendations for both theory and practice as to how simulation analysis can be used to complement more conventional competition analyses.

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