Working Paper: CEPR ID: DP1306
Authors: Ami Navon; Oz Shy; Jacques-François Thisse
Abstract: Using two standard location models, we investigate price competition and divergence from optimal product differentiation when consumer preferences are influenced by the number of consumers purchasing the same brand or shopping at the same store. Negative network effects tend to lessen competition and increase prices whereas positive network effects (bandwagon effects) make competition fiercer and lead to lower prices. Furthermore, in the duopoly case, an increase in total population may adversly affect the clients of a store despite the fact that they benefit from price cuts. Finally, under free entry, increasing the population may lead to a reduction in the equilibrium number of stores and always increases the divergence between the equilibrium and optimal numbers of stores.
Keywords: product differentiation; location; network effects; network externalities
JEL Codes: L1; R3
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| Positive network effects (D85) | Increased competition (L13) |
| Increased competition (L13) | Lower equilibrium prices (D59) |
| Negative network effects (D85) | Relaxed competition (L13) |
| Relaxed competition (L13) | Higher equilibrium prices (D41) |
| Increase in total population (J11) | Adverse effect on store's clientele under negative network effects (D85) |
| Increase in population (J11) | Decrease in equilibrium number of stores (D59) |