MASSACHUSE S IITUTE OF TECHNOLOGY Essays in Industrial Organization JUN 122018 by David Liu LIBRARIES Submitted to the Department of Economics ARCHIVES in partial fulfillment of the requirements for the degree of Doctor of Philosophy in Economics at the MASSACHUSETTS INSTITUTE OF TECHNOLOGY June 2018 @ David Liu, MMXVIII. All rights reserved. The author hereby grants to MIT permission to reproduce and to distribute publicly paper and electronic copies of this thesis document in whole or in part in any medium now known or hereafter created. Author ........ Signature redacted................... Department of Economics May 15, 2018 Certified by.....Signature redacted Glenn Ellison Gregory K. Palm Professor of Economics Thesis Supervisor Certified by... Signature redacted Nikhil Agarwal Castle Krob Career Development Assistant Professor of Economics Thesis Supervisor Accepted by .. Signature redacted Ricardo Caballero Ford International Professor of Economics Chairman, Departmental Committee on Graduate Studies 77 Massachusetts Avenue Cambridge, MA 02139 MITLibraries http://Iibraries.mit.edu/ask DISCLAIMER NOTICE Due to the condition of the original material, there are unavoidable flaws in this reproduction. We have made every effort possible to provide you with the best copy available. Thank you. The images contained in this document are of the best quality available. 2 Essays in Industrial Organization by David Liu Submitted to the Department of Economics on May 15, 2018, in partial fulfillment of the requirements for the degree of Doctor of Philosophy in Economics Abstract This thesis consists of three empirical essays in industrial organization. The first chapter examines the welfare effects of intertemporal price discrimination in market for airfare using a novel structural model of dynamic consumer search. I model how consumers search for airline tickets over time using data gathered from an internet travel agent. My model features sophisticated consumers with rational beliefs about future price movements who make optimal decisions based on their beliefs. Using data on daily price and quantity in monopoly markets, I estimate the demand for airfare and calculate consumer welfare. I compare welfare to a counterfactual market in which airlines cannot price discriminate. The second chapter quantifies the impact of company-wide incentive plans on total company performance. I identify five airlines that have introduced employee incentive programs that offer monthly bonuses to all company employees as long as the company achieves a certain performance level in flight on-time performance. I present evidence that these programs are effective at increasing employee performance in spite of the temptation to be a free rider. My analysis uses Mahalanobis matching to compare each route's performance with the best matching control flight, taking advantage of the large volume of flight data available. In the third chapter I examine the role of reputation in an online marketplace that specializes in unreliable products. Using data gathered from video game resale platform G2A, I examine how buyers and sellers utilize the wide array of reputation information available. I find that buyers on this platform have an understanding of their probability of encountering a negative transaction and will utilize more reputa- tion information in less reliable markets. Thesis Supervisor: Glenn Ellison Title: Gregory K. Palm Professor of Economics Thesis Supervisor: Nikhil Agarwal Title: Castle Krob Career Development Assistant Professor of Economics 3 4 Acknowledgments I am very grateful to my advisors, Glenn Ellison and Nikhil Agarwal, for their guid- ance through my journey. Glenn's constant support and advice has not only made me a better economist but also a better person, and I will always strive to follow in his example. I learned so much from Nikhil, and his insightful questions and feedback always pushed me to be a better researcher. To my friends and peers at MIT who have enriched my life, I am honored to have shared my time with you. I could not have done this without the support of my family. They has always been there for me with unwavering love and encouragement. Their strength has kept me going. 5 6 Contents 1 A Model of Optimal Consumer Search and Price Discrimination in the Airline Industry 9 1 Introduction ....... ............ ........... 9 2 M odel .... ........ ........ ........ ...... 13 2.1 Consumer Preferences ... ........... ....... 13 2.2 Consumer's Decision .... ........... ....... 15 3 D ata .... ............ ............ ....... 17 3.1 Data Sources .. .... .... .... ..... ... ......... 17 3.2 Summary Statistics ................. ...... 19 3.3 Markov Price Path ....................... 21 4 Estimation ........ ............ ........... 22 4.1 Individual Consumers . ........... ......... 24 4.2 Likelihood Estimation ........... .......... 25 5 Maximum Likelihood Estimation Results . ........... ... 26 5.1 Airline price estimation ................... .. 31 6 Counterfactual Simulations .. ........... .......... 32 6.1 No price discrimination . ................ .... 32 6.2 Price Commitment ............. .......... 36 6.3 Full information ................... ...... 37 7 Conclusion . ........ ....... ........ ........ 38 8 Appendix .. ........ ........ ........ ...... 39 8.1 Consumer Beliefs .... ........... ......... 39 8.2 Identification ........ ........... ....... 40 2 Effects of Airline Employee Incentive Programs on On-Time Perfor- mance 43 1 Introduction .. ......... ........ 43 2 Airline Incentive Program Background . ... 46 2.1 Continental Airlines ..... ..... 46 2.2 Other airlines ..... ....... .. 47 3 D ata ..... ................. 48 3.1 Data and Sample ..... ....... 48 3.2 Mahalanobis Matching ......... 49 3.3 Gaming of Delay ............ 52 4 Econometric Specification ........... 53 7 4.1 Difference in Differences Estimate 54 5 R esults .... .............. 55 6 Value of on-time performance ..... 58 6.1 D ata .. ..... ...... .. 60 6.2 Results ........ ...... 61 7 Conclusion ................ 62 3 Reputation in Disreputable Markets 65 1 Introduction ........... .... 65 2 D ata ................... 69 2.1 Background on Steam Platform . 69 2.2 Details on the G2A platform . 70 2.3 Data Gathering .... ..... 72 2.4 Summary statistics ...... 73 2.5 Feedback exogeneity ...... 77 3 Demand Estimation and Consumer Use of Reputation Data 77 3.1 Consumer Utility Model . ........ .. 78 3.2 Estimation of Reputation Effects ...... 79 3.3 Interaction of Reliability and Reputation . 81 4 Predicting future quality with historical data .... ....... .. 83 5 Do Consumers Read Written Feedback? Evidence From Mistaken Rat- in g s ..... ......... .......... ......... .. 85 6 Evidence of Strategic Seller Exit ........ ....... ..... 87 7 C onclusion ........ ............ ........... 91 8 Chapter 1 A Model of Optimal Consumer Search and Price Discrimination in the Airline Industry 1 Introduction The price of airline tickets fluctuates over the entire period of sales, with prices typi- cally rising as the departure date arrives. The price trend is attributed to intertem- poral price discrimination: heterogeneous consumers enter the market at different times, creating incentives for airlines to price discriminate. Consumers with higher valuations for flying tend to enter the market near the departure date, so airlines naturally raise prices to coincide with times of high demand. The welfare effects of price discrimination in this setting can be ambiguous, because price discrimination not only allows for higher prices but also allows for more efficient allocation of tickets. Price discrimination also induces more consumer search and associated search costs, which factor into welfare. The goal of this paper is to study the welfare effects of intertemporal price dis- crimination in the market for airline tickets. I model how forward-looking consumers search for airline tickets and estimate the welfare effects of intertemporal price dis- 9 crimination on the estimated consumer population. My model features consumers who have rational beliefs for how ticket prices may change in the future, which they combine with beliefs on their probability of flying as well as search costs to make a decision on what optimal day to search for tickets. Using price and quantity data on monopoly routes, I estimate demand and welfare under alternatives without price discrimination. I find that price discrimination's effect on allocation efficiency is overshadowed by the higher prices faced by consumers, resulting in a net decrease in consumer welfare. Two features of this market set it apart from commonly studied durable goods markets. One feature that makes this analysis tractable is that airline tickets have a fixed consumption date. This allows me to use backwards induction to solve for optimal strategies for both airlines and consumers. A second feature is the capacity constraints of airlines. In the short run, airlines have negligible marginal costs, and their objective is to maximize revenue by selling out on tickets for each flight. As a result, idiosyncratic shocks to demand can cause airfare to fluctuate over a short period. These price fluctuations give insight into consumer search behavior and the firm's profit maximization problem. In addition, the limited capacity means the declining price model commonly seen in durable goods models (Board and Skrzypacz (2013)) does not necessarily apply. For my primary data, I collect daily flight prices over the thirty day period