Compatibility and Market Structure for Network Goods,
Nicholas Economides, Stern School of Business
and
Frederick Flyer, NYU and Northwestern University

August 1997

Abstract

Firms that produce network goods have strong incentives to adhere
to common technical standards. However, adhering to common
standards decreases the horizontal differentiation between goods,
and that increases market competition. This paper analyzes how
these countervailing forces shape firms' decisions to comply to
common technical standards under oligopoly. In the model, firms'
outputs are identical in non-network characteristics, but firms can
adhere to different compatibility standards. Consequently, a
good's relative quality level is determined by the total sales of
compatible goods. The technical standards coalition structures
that form at equilibrium under this framework exhibit interesting
characteristics. In particular, coalitions that vary greatly in
total sales, profits, and prices often emerge, even though
underlying products and cost structures are identical across firms.

Key words: networks, network externalities, coalition structures, technical
standards, compatibility

JEL Classification: L1, D4