Competition in two-sided markets

Work by Wilko Bolt and me was recently published in the Nederlandsche Bank Working paper series. In the paper we look at pricing strategies of competing platforms operating in two-sided markets. Many markets are two-sided, i.e. serving two different types of customers: buyers and sellers (auctions, online trading platforms), card holders and merchants (credit cards) or lenders and borrowers (lending platforms). Two sided markets have been widely researched in the recent years. Our paper contributes to the understanding of competition and pricing dynamics in the case of Bertrand-type competition.

We argue that the reason for very skewed prices that we see in many of these markets (paying by card gets you bonus points but merchants need to pay up to 5% of the value of the transaction)… can be explained by the way the transactions are executed. Who chooses the platform when many platforms are available? We build an analytic model and solve it via best-reply dynamics in the case of two competing platforms. The outcome is that the side of the market who chooses which platform is used will have a negative price and the other side will be charged a higher positive price. Intuitively, platforms will be competing for the decision makers and will raise prices for the other side to maximize profits. The overall price level is lower than in a monopoly case, but higher than with perfect competition.

You can download the paper from here and the latest presentation of the paper from here.