On Vertical Product Differentiation, Network Externalities and Compatibility Decisions: Existence of Incompatible Networks

Abstract

Market mechanism may or may not throw up compatibility in markets for systems where network effect arises due to complementarity of component parts of a system. We consider a game, where, in stage 1, the firms decide whether to standardise on a single technological platform or not and at the same time they choose the quality of their product. In stage 2, the firms compete in prices. We find that the firms' choice of quality and technological platform depends on the degree of product differentiation and the coefficient of network externality.

Keywords: Network Externality, Compatibility, Standardisation, Vertical Differentiation

JEL Classification: L13, L15, D43