Today’s Nobel prize winner in economics, Jean Tirole (working with Rochet) is a pioneer in one of the most important new areas in the economy and economics, the study of platform markets. Platform markets, also called two-sided markets, are markets where a firm brings together two or more sides both of whom benefit by the existence of the platform and both of whom may (or may not) be charged. A trivial but telling example is the singles bar that brings together men and (usually) women. Other examples are the Xbox, a platform for game players and game developers, credit cards a platform for buyers and firms that accept that card, newspapers a platform for readers and advertisers, and malls a platform for customers and stores to meet. An important example for the internet age is that Google is a platform of search users and advertisers.
An key difficulty in these markets is that the price charged to one side of the market influences the demand on the other side of the market. The price a newspaper charges to readers, for example, influences the number of readers but that in turn influences the price that the advertisers, the other side of the market, are willing to pay to advertise in the newspaper. It further often happens that one side of the market is harder to “get” than the other and so the profit-maximizing prices on the two sides of the market are very different. One side of the market may even be “subsidized.” The price that newspapers charge readers, for example, is often much less than the cost of the newspaper. Or, to give another example, Microsoft makes money by selling its Xbox at close to cost or even below cost and charging game developers a fee for the right to write games for the Xbox and a royalty rate on their sales. Google finds it optimal to give its services away for free and just charge one side, the advertisers, for being on the platform.
Antitrust and regulation of two-sided markets is challenging because the two sets of prices may look discriminatory or unfair even when they are welfare enhancing. In a mall, for example, it’s often the largest firm (the anchor) that gets the lowest price (sometimes even zero!). Does this represent an unfair advantage that a large firm has over smaller rivals or is it a rational consequence of the fact that the anchor store may bring the most customers to the other, smaller stores in the mall so that the total package is welfare maximizing? Is Microsoft engaging in predatory pricing if it prices the Xbox at or below cost? A singles bar may have “ladies are free night”. Sexist? or good economics? Platform markets mean that pricing at marginal cost can no longer be considered optimal in every market and pricing above marginal cost can no longer be considered as an indication of monopoly power. The analysis also impacts such issues as network neutrality. People worry, for example, that firms like Netflix may be the anchor stores of the internet and get better prices as a result. But the analysis of platform markets suggests that this isn’t necessarily welfare reducing. As these examples indicate is easy to go wrong regulation these markets and in fact Rochet and Tirole urge caution in regulating platform markets.
See Tyler’s post below for much more on Tirole.