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When Does a Platform Create Value by Limiting Choice?

Authors: Casadesus-Masanell, Ramon - Harvard Business School
Halaburda, Hanna - Harvard Business School
Issue Date: 2010
Series/Report no.: NET Institute Working Paper;10-04
Abstract: We present a theory for why it might be rational for a platform to limit the number of applications available on it. Our model is based on the observation that even if users prefer application variety, applications often also exhibit direct network effects. When there are direct network effects, users prefer to consume the same applications to benefit from consumption complementarities. We show that the combination of preference for variety and consumption complementarities gives rise to (i) a commons problem (users have an incentive to consume more applications than the social optimum to better satisfy their preference for variety); (ii) an equilibrium selection problem (consumption complementarities often lead to multiple equilibria); and (iii) a coordination problem (lacking perfect foresight, it is unlikely that users will end up buying the same set of applications). The analysis shows that the platform can resolve these problems by limiting the number of applications available. By limiting choice, the platform may create new equilibria (including the socially efficient allocation), destroy Pareto-dominated equilibria, and reduce the severity of the coordination problem faced by users.
Appears in Collections:NET Institute Working Papers Series

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