Avoiding Market Dominance: Product Compatibility in Markets with Network E®ects¤ Jiawei Chen Department of Economics University of California-Irvine Irvine, CA 92697 (949) 824-3189, -2182 (Fax)
[email protected] www.socsci.uci.edu/~jiaweic Ulrich Doraszelski Department of Economics Harvard University Cambridge, MA 02138 617-495-2896, -8570 (Fax)
[email protected] www.economics.harvard.edu/faculty/doraszelski Joseph E. Harrington, Jr. Department of Economics Johns Hopkins University Baltimore, MD 21218 410-516-7615, -7600 (Fax)
[email protected] www.econ.jhu/people/harrington September 13, 2008 ¤The comments of two anonymous referees, the editor, Mike Baye, Brian Viard, and seminar participants at Indiana (Kelley School of Business), Ohio State, Illinois, Antitrust Division of the U.S. Department of Justice, 2007 IIOC, and 2007 EARIE are very much appreciated. The second author gratefully acknowledges the hospitality of the Hoover Institution during 2006/07 and the third author expresses his gratitude to the Department of Economics of Harvard University where, during 2005/06, much of this work was done. 1 Abstract As is well-recognized, market dominance is a typical outcome in markets with network e®ects. A ¯rm with a larger installed base o®ers a more attractive product which induces more consumers to buy its product which produces a yet bigger installed base advantage. Such a setting is investigated here but with the main di®erence that ¯rms have the option of making their products compatible. When ¯rms have similar installed bases, they make their products compatible in order to expand the market. Nevertheless, random forces could result in one ¯rm having a bigger installed base in which case the larger ¯rm may make its product incompatible.