Lock in and Switch: Asymmetric Information and New Product Diffusion

Abstract

Many new web-based services are introduced as free services. Depending on the seller’s business model, some remain free in the long run, while others switch to pay mode at some point in time. I characterize the relation between buyers and a new service seller when the former are uncertain about the latter’s business model. I derive a natural signalling equilibrium where the seller plays a “lock-in-and-switch” strategy, while buyers play a “wait-and-see” strategy. I show the equilibrium entails diffusion even though consumers are identical and equally aware of the new service’s existence.