Digital Monopolies and Oligopolies Notes
Digital Monopolies and Oligopolies
13.1 Definition of Market Types
Market Type: Refers to the sales of a particular good or service, not the company selling it.
Multisided Markets: Interactions exist between different markets served by a platform.
Monopoly (Definition 13.1): Only one seller of a good with no substitutes.
In the digital economy, many "monopoly" products are offered at zero cost.
Supply-demand curves are meaningless because the marginal cost is zero and independent of production volume (see Chap. 6).
Types of Monopolies:
De jure monopoly: Protected against competition by law.
Natural monopoly: Best served by a single supplier; shared markets may lead to higher prices and less effective production.
De facto monopoly: One company has captured almost the whole market with high barriers to entry.
Natural vs. De Facto Monopolies:
Fixed telecommunications infrastructure can be a natural monopoly due to infrastructure costs.
Facebook is not a natural monopoly (multiple competing platforms wouldn't necessarily cause additional costs or reduce versatility), but a de facto monopoly.
Territorial Cartel: Operates as a monopoly within a region (e.g., telephone operators before market liberalization).
Example: AT&T split into regional operating companies ("Baby Bells") in 1982, which formed Bellcore to share telecommunications research costs.
Oligopoly (Definition 13.2): Only a few sellers of the same product.
Actions by one competitor can change market composition.
Duopoly: A market with only two competitors.
Firms must be aware of each other's actions (price, marketing).
Examples of Oligopolies in the Digital Economy:
Mobile network operators in each country.
Visa and MasterCard in the international credit card market.
Microsoft and Apple for operating systems.
Intel and AMD for desktop computer CPUs.
ARINC and SITA for ground station-to-aircraft communications in Europe.
Monopolistic Competition (Definition 13.3): Many sellers offering differentiated products (e.g., shoes, restaurants, cars).
Products serve the same purpose but are unique and not exact substitutes.
Prices from one supplier are generally independent of other suppliers' prices.
Examples: Smartphones, PCs, television sets; streaming services can be a mix of monopolistic competition and oligopoly.
Perfect Competition (Definition 13.4): Theoretical model with many sellers and buyers with perfect information.
Actions of a single competitor do not change market composition.
Products are indistinguishable, no transaction costs, no externalities.
Almost perfect competition exists in commodity markets.
In the digital economy: Digital freelance services (webpage design, etc.).
Buyer-Side Considerations:
Market behavior can be determined by the number of buyers.
Relevant in multisided platforms.
Monopsony (Definition 13.5): Many sellers, one buyer.
In digital economy: Content providers rely on a monopsony provider for distribution.
A monopsony controls the whole market, buying content cheaply and reselling at a profit.
Example: YouTube (de facto) with producers, viewers, and advertisers as customer groups.
YouTube acts as a channel for producers to distribute videos to viewers free of charge.
Revenue is generated by advertisers.
Advertising market can be considered an oligopoly or monopolistic competition.
Oligopsony (Definition 13.6): Many sellers, few buyers.
Example: Music streaming market with Spotify, Apple Music, and SoundCloud.
Customers are single artists and producers.
E-book publishers also form an oligopsony.
Strategy involves competing as both buyer and reseller of content.
Table 13.1: Market Types Summary
Lists market types (Monopoly, Oligopoly, Monopolistic competition, Perfect competition, Oligopsony, Monopsony) including the number of sellers, number of buyers, barriers to entry, and examples in the digital economy.
Fig. 13.1: Market types
A figure representing the market types
13.2 Formation of Monopolies
Historical Context: Telecommunications businesses were often government-granted monopolies until 1998 in Europe.
Deregulation: Introduced competition, but fairness was regulated to prevent incumbents from misusing market power.
Emergence of New Monopolies: Despite regulations, monopolies like Facebook, YouTube, and Twitter have emerged as de facto monopolies.
Natural Monopoly (William Baumol's Definition): "[A]n industry in which multi-firm production is more costly than production by a monopoly" (Baumol et al., 1982).
Implies 100% market share.
De Facto Monopoly: May not have 100% market share but holds nearly so over a long period.
Path Dependence and Network Effects: Strong network effects can lead to one competitor capturing most of the market (e.g., Facebook vs. Myspace).
Facebook surpassed Myspace in 2008 and became a de facto monopoly.
Membership in one social network doesn't exclude membership in others.
Lock-In: Makes it difficult for newcomers to capture market share from a de facto monopoly.
Cost Factors: Inefficient incompatible standards (e.g., VHS vs. Betamax) can lead to a de facto monopoly.
Filmmakers producing two versions of the same film for two incompatible media is expensive.
Bandwagon effects (visibility in ads and shops) favor one technology.
Misconceptions: Companies with large market shares (e.g., Google) are sometimes mistaken for de facto monopolies.
Google has 92% of the search engine market, but there is still considerable room for competition.
The web browser market is dominated by Google Chrome (64%), but not a de facto monopoly.
Value vs. Cost: The increasing gap between value and cost as more users adopt a digital service contributes to the formation of de facto monopolies.
Many digital services have zero marginal cost.
Value increases linearly with the number of users (Metcalf's law).
This results in a value surplus, providing companies with a strong financial position.
Digital companies often have high-profit margins (25%-50%).
The profit margin can be used for growth purposes, such as developing and improving existing services, creating new services, and/or acquiring competing or supplementary businesses.
Fig. 13.2: Difference in value as a function of units produced
Illustrates the difference between value and average cost and emphasizes the increasing gap as production volume increases.
Case Study 13.1: Creation of a Monopoly: Facebook
Facebook evolved from Facemash, initially for Harvard students, expanded to other universities, and became universally available in 2008.
It surpassed Myspace in users by 2009 (exceeding 500 million users in July 2010).
Facebook became a monopoly in the social services business.
Growth driven by strong network effects, creating lock-in with high barriers to entry.
Barriers are psychological: users don't want to lose information and network of contacts.
Primary service is free, increasing entry barriers for competitors.
Facebook extracts data about users for sale to marketers.
Facebook faces competition on advertisements, leading in usage by marketers.
13.3 Formation of Oligopolies
Examples: Mobile communications and streaming services.
Mobile Communications: Deregulated in Europe in 1992, leading to two or three operators per country with GSM licenses.
Competition was enhanced by resellers and mobile virtual network operators (MVNOs).
The mobile market is not big enough to support numerous operators, becoming an oligopoly.
Reasons for Oligopoly in Mobile Communications:
Limited frequency spectrum for mobile communications.
High costs to build and manage mobile network infrastructures.
Licensing authorities require network coverage of a certain percentage of the population.
Streaming Services: Serving information providers and content receivers.
Key providers: Spotify, Apple Music, and SoundCloud.
Oligopsony side: Capturing artists and record labels on exclusive contracts.
Oligopoly side: Capturing listeners using different business models (freemium, communities, vast library).
Competition Between Oligopolies: Decisions by one stakeholder may impact prices, competition, and market shares.
Prisoner's Dilemma: Competitors may fall into the prisoner's dilemma trap.
Payoff matrix illustrates pros and cons of changing or maintaining prices.
Nash equilibrium: Both firms lower prices, benefiting users but reducing revenues.
Fig. 13.3: Payoff matrix for the prisoner’s dilemma game
Illustrates the payoff matrix for the prisoner's dilemma game for a duopoly.
Iterated Prisoner's Dilemma: The game is played several times.
Price wars: Competitors try to follow each other's actions (e.g., gasoline stations).
In the early days, mobile communication operators offered subsidized phones, but the practice changed as the market matured.
Operators then offered complex subscription packages to differentiate themselves.
Case Study 13.2: The Mobile App Duopoly
Apple's App Store and Google Play dominate the mobile app market.
Apps are designed for iPhones (iOS) and Android smartphones.
App Store has approximately 15% of the international smartphone market; Google Play has approximately 85%.
Some apps are available for both, some for only one.
Google Play was designed for independent app developers.
Both app stores contain approximately the same number of apps.
Apple acquires 66% of revenues; Google acquires 33%.
iPhone users spend more on paid apps than Android users.
The apps duopoly is more complicated because there is no simple relationship between market shares and revenues.
Table 13.2: Mobile apps statistics
Lists the number of mobile apps, mobile apps revenues, mobile apps downloads, and revenue per download for the App Store and Google Play.
13.4 Conclusions
Dominating Market Forms: De facto monopolies and oligopolies.
De Facto Monopolies: Emerge in markets with strong positive network effects.
They build huge barriers, making it nearly impossible for new entrants to compete.
Standard economic theory is not applicable when services are offered for free.
Oligopolies: Formed in markets with room for only a few competitors or where a few dominate (e.g., mobile network operations, streaming services).
Markets may become monopolistic competition if suppliers can differentiate their products.
Multisided Platforms: Digital enterprises are often multisided platforms serving interacting markets.
A company may be a monopoly in one market and an oligopoly in another.
Services may be offered for free to one group, while others pay.
Decisions in one market segment depend on decisions in another.
Monopsony and Oligopsony: Appeared in the digital economy (e.g., streaming services buying content from artists).
Questions:
Facebook is a multisided platform offering services in several market segments; three of them are social networking services, advertisements, and third-party services. How will you characterize each of them?
The credit card market is served by two-sided platforms. Who are the two customer groups served by credit card companies? What type of market do they represent?
Why can we model the advertisement market of enterprises in the digital economy both as an oligopoly and as a market with monopolistic competition?
Answers:
Social networking, de facto monopoly; advertisements, monopolistic competition because there are several competitors offering different advertisement services to different user segments (see also Question 3); third parties, oligopsony buying content from third parties and reselling it to social networking consumers.
The customer groups are card users and merchants. Both user groups are buying the service from the companies. Since there are few credit card companies, both markets are oligopoly markets.
The advertisement market in the digital economy is dominated by a few big companies and several small ones. The market may then be modeled as an oligopoly since it is only the companies with large market shares in the advertisement market that can manipulate the evolution of the market. On the other hand, the total advertisement market also contains a large number of non-digital companies (e.g., newspapers and journals) reaching different segments of the population. The advertisement market can then also be modeled as a market with monopolistic competition because each stakeholder may offer marketers access to different segments of the population (e.g., different age groups) and to special interest groups.
References:
Baumol, W. J., Panzar, J. C., & Willig, R. D. (1982). Contestable markets and the theory of industry structure. Harcourt Brace Jovanovich.
Blair, I. (2019). Mobile app download and usage statistics. BuildFire.
Nelson, R. Global app revenue topped $18 billion last quarter, up 23% year-over-year. Sensor Tower. October 10, 2018.
Zuckerberg makes it official: Facebook hits 500 million members. TechCrunch. July 4, 2010.