Three-Sided Markets Consumers, Advertisers, and Content Providers on the Internet

Two-Sided Markets Media Consumers Content Providers Advertisers Payments Lower Price due to externality Higher Price due to externalityCompetitive wage Payola

Pricing in Two-Sided Markets Recall the Lerner Index for profit maximization: (P – MC)/P = -1/E p The externalities in 2-sided markets add or subtract from the price-cost margin relative to one-sided markets For consumers: (P – MC)/P + X c = -1/E p For advertisers: (P – MC)/P + X a = -1/E p X c is positive, while X a is negative

Three-Sided Markets Media, Website, or Platform Consumers Content Providers Advertisers Price ≥ 0 Price > 0 -∞ < Price < +∞ Payments

Pricing Three-Sided Markets The externalities in 3-sided markets add or subtract from the price- cost margin relative to one-sided markets For consumers: (P – MC)/P + X c = -1/E p For advertisers: (P – MC)/P + X a = -1/E p Two types of content providers – 1) those willing to buy access to consumers Such as music labels and current or prospective artists – 2) those unwilling to buy access Such as newspaper and magazine writers, TV news operations, etc. For content providers willing to buy access: (P – MC)/P + X p = -1/E p X c is positive – More consumers raises the demand for advertising X a is negative – More ads may reduce consumer demand X p is positive – More/better content attracts consumers, raises ad demand

Graphs Two-sided markets – Lower price to consumers increases ad demand Price ≥ 0 – Content providers generally unwilling to pay for access Three-sided markets – Content providers generally willing to pay for access – Lower price to consumers increases ad demand Price ≥ 0 – Lower price to content providers that increase ad demand price can be positive or negative (a payment to providers)

Cases and Examples Intermediary (media/website) chooses content – Radio Royalty rates for individual spins set by legislation Payola is a payment for access to consumers from competing content providers (low X p ) Intermediary and consumers choose content – Music Streaming Two-tiered Pricing for Consumers – Listen free with ads – Pay a fee to listen without ads (opportunity cost of X c ) – Could be price discrimination if fee > opportunity cost of X c Upfront fee paid to owners of back catalogs in lieu of royalties (high X p ) Royalties paid to other content providers (low X p ) Consumers choose content – iTunes Revenue sharing for content providers that have popular back catalogs (high X p ) Fee to others to have recordings listed (low X p ) – YouTube Video partners receive payments based on viewers and ad purchases (potential high X p ) – A form of revenue sharing No fee to consumers (high X c ) In which cases are content providers willing to pay for access to consumers? List the evidence for your position in each case.