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Do common standards promote competition?

A market experiment.
Paolo Crosetto and Alexia
Gaudeul
INRA, Universit de Grenoble, France and
Friedrich-Schiller-Universitt Jena, Germany
June 26, 2014
Industrial Organization: Theory, Empirics and
Experiments
Alberobello, Italy
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Introduction (1)

Market experiment where rms can choose not only their


price but also whether to adopt a common standard.
Extension of the standard model of competition with
differentiated products (Perloff and Salop, 1985).
Part of the large family of models with two types of
consumers, naive and savvy (Salop and Stiglitz, 1977).

Common standard offers are favored by a portion of the


consumers (asymmetric dominance, attraction effect,
Huber et al., 1982; Huber and Puto, 1983).
We vary how many and how much this portion of consumers
prefer common standard offers (based on Crosetto and
Gaudeul, 2012).
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Introduction (2)

We nd divergent effects in treatments with full


information about competitors and in those with no
information.
In treatments with full information:
Early phases with strong competition and frequent adoption of a
common standard are followed by later phases with frequent
collusion.
Welfare decreases as the portion of savvy consumers increases.
In treatments with no information:
Firms are led to adopt the common standard more often as the
portion of savvy consumers increases.
This leads to an improvement in welfare for all consumers.
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Main idea and references (1)

Main idea:
We test the belief in the self-regulating nature of competitive
markets.
Will rms choose to compete head-on through
standardization or employ obfuscatory tactics by avoiding the
use of common standards?

Other experiments: Kalayci (2011); Kalayci and Potters


(2011); Shchepetova (2012); Sluijs et al. (2011).

Empirical work: Clrier and Valle (2013); Ellison and


Ellison (2009); Hossain and Morgan (2007); Wenzel
(2013).
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Main idea and references (2)

Consumer side: spurious complexity, obfuscation,


transparency, shrouding, confusion, consumer protection,
(soft) paternalism.
References: Carlin (2009); Chioveanu and Zhou (2013);
Ellison and Wolitzky (2012); Gabaix and Laibson (2006);
Gaudeul and Sugden (2012); Piccione and Spiegler (2012);
Sitzia and Zizzo (2009); Wenzel (2014).

Firms side: collusion, industrial organization, competition,


oligopoly, standardization and compatibility.
References: Aoyagi and Frchette (2009); Boone et al.
(2012); Bruttel (2009); Davis (2011); Dufwenberg and
Gneezy (2000); Dugar and Mitra (2009); Huck et al. (2000,
2004); Keser (1993, 2000); Wenzel (2014); Wright (2013).
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A model of competition with shrouding
(1)

Three rms, A, B and C.


Each rm i choose between its own standard and standard A.
Firms set their own prices p
i
, independently and without
knowing the choice of others.

Three types of consumers corresponding to each of the


three rms in the market.
Value for the goods is v +
ij
with i the type of the consumer
(A, B or C) and j the label of the rm (A, B or C).

ij
takes the value e > 0 if i = j , 0 else.
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A model of competition with shrouding
(2)
Table: Distribution of perceived value by consumers for the goods
of rms on the market.
Value for the good of

Firm A Firm B Firm C
Consumers of {
Type A v + e v v
Type B v v + e v
Type C v v v + e
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A model of competition with shrouding
(3)

e is to be interpreted as a bias for a specic rm


might arise out of genuine preference for its good,
or result of a mistake in the consumers assessment of the
value of the product of a rm.
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A model of competition with shrouding
(4)

(1 )% of consumers are naive and choose based on


v +
ij
p
i
.

% of consumers are savvy and buy based on the value


of
v +
ij
(1 CS
i
) p
i
(1 + (1 CS
i
)X) (0.1)

CS
i
= 1 if rm i adopted a common standard (CS), 0
else. X > 0 measures the penalty on non-CS offers.
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A model of competition with shrouding
(5)
Example

Firms A and B chose standard A, Firm C chose standard C.

A savvy consumer of type C chooses to buy from


argmax[v p
A
, v p
B
, v + e p
C
(1 + X)].

Maintains a preference for rm C (measured by e).

Counterbalanced by preference for common standard


offers: a penalty of X is applied to price p
C
.
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A model of competition with shrouding
(6)

Modeling inspired by patterns of consumer choice in


similar tasks.

See Crosetto P. and Gaudeul A. (2011): Do Consumers


Prefer Offers that are Easy to Compare? An Experimental
Investigation, Jena Economic Research Papers 2011-044.
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Example with no common standard (1)

Compute the quantity (surface).

Divide price by quantity.

Buy the cheapest product, keep what remains of budget.


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Example with a common standard (1)
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Treatments (1)
Table: Treatments in the experiment, with labels

0% 10% 20%
Limited information X
10%
L0
L11 L12
20% L21 L22
Full information X
10%
F0
F11 F12
20% F21 F22
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Best response dynamics (1)
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Simulations (1)
Table: Simulated results, effective price (mean, sd) and % of
periods with a CS.

0% 10% 20%
X
10% 1.63 (0.34)
NA
1.62 (0.34)
41%
1.56 (0.35)
42%
20%
1.59 (0.34)
40%
1.53 (0.36)
45%
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The experiment (1)

Run in November and December 2013 at the laboratory of


the Max Planck Institute of Economics in Jena.

300 subjects over 10 sessions, each with 30 subjects.

Each session lasted about 1 hour and 30 minutes overall


and participants earned 12 euros on average.

Each subject matched three times with different market


players (perfect stranger matching).

Each matching lasted several periods, random termination


time.
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The experiment (2)
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The experiment (3)
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The experiment (4)
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Some patterns (1)
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Some patterns (2)
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Some patterns (3)
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Some patterns (4)
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Experimental ndings (1)
1. Average revenues for rms by treatment.
2. Prevalence of collusion.
3. The link between collusion and non-adoption of a
common standard.
4. The link between competition and adoption of a common
standard.
5. Welfare analysis.
6. Individual differences in the strategies of rms.
7. Robustness tests.
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Experimental ndings (2)

Only when collusion was difcult to sustain (limited


information) was there any improvement in welfare for
consumers overall as and X increased.

No improvement in case with full information, due to two


counter-acting factors:
Periods with a CS became more competitive and/or more
frequent as and X increased, but
Periods with collusion and thus higher prices also became
more frequent.
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Revenues (1)
Table: Experimental results, effective price (mean, sd) and % of
periods with a CS.

0% 10% 20%
Limited
information
X
10% 1.76 (0.62)
40%
1.71 (0.57)
48%
1.62 (0.66)
54%
20%
1.67 (0.55)
57%
1.66 (0.60)
68%
Full
information
X
10% 1.86 (0.85)
33%
1.95 (0.83)
42%
2.05 (0.90)
44%
20%
1.77 (0.83)
40%
2.14 (1.06)
37%
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The prevalence of collusion (1)
Denition
We say a rm is colluding if it could have increased its prot
and lowered the prot of at least another rm by changing
its decisions given the decisions of its competitors in a given
period.

This is a reasonable denition IF collusion is established


(individual deviation).

As long as one rm did not conform to collusion, collusion


is not established.
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The prevalence of collusion (2)
Table: Experimental results, % of periods with all rms colluding
and price during those periods.

0% 10% 20%
Limited
information
X
10% 2.19
42%
2.02
56%
2.01
53%
20%
1.98
52%
1.84
69%
Full
information
X
10% 2.46
43%
2.29
60%
2.33
70%
20%
2.28
47%
2.51
65%
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The prevalence of collusion (3)

More periods with collusion when > 0 than when = 0.

Because more opportunities to undercut if > 0: not


taking advantage of this is deemed collusion.

Under limited information, rms appear as likely to


collude but that collusion is less effective
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Collusion and not adopting a CS (1)
Table: Correlation between not adopting a CS and collusion.
Firms colluding
0 1 2 3
Limited
information
Firms
with CS
0 1% 1% 20% 25%
2 0% 2% 16% 23%
3 0% 1% 4% 6%
Full
information
Firms
with CS
0 1% 2% 23% 35%
2 0% 1% 12% 17%
3 0% 0% 3% 5%
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Collusion and not adopting a CS (2)

Close link between collusion and not adopting a CS since


adopting a CS makes sense only if one wishes to undercut
another rm.
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Competition and adoption of a common
standard (1)
Table: Mean effective prices, by number of CS offers in the market
and by treatment.

0% 10% 20%
Limited
information
X
10%
1.83; 1.66; 1.66
1.87; 1.58; 1.38 1.81; 1.53; 1.08
20% 1.80; 1.58; 1.56 1.87; 1.59; 1.48
Full
information
X
10%
1.88; 1.82; 1.79
2.18; 1.66; 1.42 2.37; 1.71; 1.40
20% 1.88; 1.64; 1.53 2.47; 1.67; 1.37
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Competition and adoption of a common
standard (2)

Adoption of a CS was associated with punishment periods

Periods without a CS were periods of tacit collusion.

Not adopting a CS may have been seen/used as a signal


that one wished to collude.

The availability of a CS thus provided a coordination


mechanism that supported higher levels of collusion in full
information treatments.
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Welfare analysis (1)
Table: Price paid by savvy and by naive consumers, by treatment.

0% 10% 20%
Limited
information
X
10% 1.71
1.76
1.64
1.72
1.54
1.64
20%
1.57
1.68
1.54
1.69
Full
information
X
10% 1.82
1.86
1.88
1.95
1.98
2.06
20%
1.70
1.78
2.08
2.15
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Welfare analysis (2)

Under limited information, savvy consumers are the ones


who derive most benets from standardization

Under full information, savvy consumers suffer less than


naive consumers, but their own existence makes their own
situation worse.

The more savvy consumers there are and the stronger are
their preferences, the worse they fare under full
information.
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Analysis of strategies from the feedback of
subjects (1)

We collected a wide range of feedback from subjects


regarding the strategy they followed in the game as well
as information regarding their level of risk aversion,
perception of fairness and trust in others.
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Robustness checks (1)

Consider only phase 2 and 3.

Consider only the rst 9 periods in each phase to control


for time effect.

Consider only intermediary periods to control for initial


adjustments but also avoid end game effects.

Control for group and individual effects with panel


regressions.
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Conclusion (1)

Firms understand the benet of not adopting the common


standard and are able to collude in shrouding their offers.

This effect plays out when rms can see prices and
standards of other rms.

Paradoxical result whereby being able to choose to make


prices transparent to consumers could help collusion.
Not choosing a common standard served as a signal that one
wished to make peace with others.
Having more savvy consumers made the punishment phases
harder.
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