nep-net New Economics Papers
on Network Economics
Issue of 2009‒11‒27
six papers chosen by
Yi-Nung Yang
Chung Yuan Christian University

  1. Switching Costs in Network Industries By Jiawei Chen
  2. Network Effects, Market Structure and Industry Performance By Rabah Amir; Natalia Lazzati
  3. A Dynamic Model of Network Formation with Strategic Interactions By König, Michael; Tessone, Claudio J.; Zenou, Yves
  4. Strategies in Social Network Formation By Anna Conte; Daniela Di Cagno; Emanuela Sciubba
  5. Lifetime Network Externality and the Dynamics of Group Inequality By Kim, Young Chul
  6. Testing Unilateral and Bilateral Link Formation By Comola, Margherita; Fafchamps, Marcel

  1. By: Jiawei Chen (Department of Economics, University of California-Irvine)
    Abstract: In network industries, switching costs have two opposite effects on the tendency towards market tipping. First, the fat-cat effect makes the larger firm price less aggressively and lose consumers to the smaller firm. This effect tends to prevent tipping. Second, the network-solidifying effect reinforces network effects by making a network size advantage longer-lasting and hence more valuable, thus intensifying price competition when networks are of comparable size. This effect tends to cause tipping. I find that when switching costs are high, the fat-cat effect dominates and an increase in switching costs can change the market from a tipping equilibrium to a sharing equilibrium. When switching costs are low, the network-solidifying effect dominates and an increase in switching costs can change the market from a sharing equilibrium to a tipping equilibrium. Policy intervention to remove switching costs in network industries may substantially reduce the likelihood of market tipping.
    Keywords: Switching Costs, Network Effects, Dynamic Oligopoly, Market Tipping, Pricing
    Date: 2009–10
  2. By: Rabah Amir (Department of Economics, University of Arizona); Natalia Lazzati (Department of Economics, University of Arizona)
    Abstract: This paper provides a thorough analysis of oligopolistic markets with positive demand-side network externalities and perfect compatibility. The minimal structure imposed on the model primitives is such that industry output increases in a firm's rivals' total output as well as in the expected network size. This leads to a generalized equilibrium existence treatment that includes guarantees for a nontrivial equilibrium, and some insight into possible multiplicity of equilibria. We formalize the concept of industry viability and show that it is always enhanced by having more firms in the market. We also characterize the effects of market structure on industry performance, with an emphasis on departures from standard markets. As per-firm profits need not be monotonic in the number of competitors, we revisit the concept of free entry equilibrium for network industries. The approach relies on lattice-theoretic methods, which allow for a unified treatment of various general results in the literature on network goods. Several illustrative examples with closed-form solutions are also provided.
    Keywords: Network effects, demand-side externalities, Cournot oligopoly, supermodularity.
    JEL: C72 D43 L13 L14
    Date: 2009–09
  3. By: König, Michael; Tessone, Claudio J.; Zenou, Yves
    Abstract: In order to understand the different characteristics observed in real-world networks, one needs to analyze how and why networks form, the impact of network structure on agents' outcomes, and the evolution of networks over time. For this purpose, we combine a network game introduced by Ballester et al. (2006), where the Nash equilibrium action of each agent is proportional to her Bonacich centrality, with an endogenous network formation process. Links are formed on the basis of agents' centrality while the network is exposed to a volatile environment introducing interruptions in the connections between agents. A remarkable feature of our dynamic network formation process is that, at each period of time, the network is a nested split graph. This graph has very nice mathematical properties and are relatively easy to characterize. We show that there exists a unique stationary network (which is a nested split graph) whose topological properties completely match features exhibited by real-world networks. We also find that there exists a sharp transition in efficiency and network density from highly centralized to decentralized networks.
    Keywords: Bonacich centrality; nested split graphs; network formation; social interactions
    JEL: A14 C63 D85
    Date: 2009–10
  4. By: Anna Conte (Max-Planck-Institut für Ökonomik); Daniela Di Cagno (LUISS Guido Carli); Emanuela Sciubba (Birkbeck College)
    Abstract: We run a computerised experiment of network formation where all connections are beneficial and only direct links are costly. Players simultaneously submit link proposals; a connection is made only when both players involved agree. We use both simulated and experimentally generated data to test the determinants of individual behaviour in network formation. We find that approximately 40% of the network formation strategies adopted by the experimental subjects can be accounted for as best responses. We test whether subjects follow alternative patterns of behaviour and in particular if they: propose links to those from whom they have received link proposals in the previous round; propose links to those who have the largest number of direct connections. We find that together with best response behaviour, these strategies explain approximately 75% of the observed choices. We estimate individual propensities to adopt each of these strategies, controlling for group effects. Finally we estimate a mixture model to highlight the proportion of each type of decision maker in the population.
    Keywords: network formation, experiments, mixture models
    Date: 2009–11–16
  5. By: Kim, Young Chul
    Abstract: The quality of one's social network significantly affects his economic success. Even after the skill acquisition period, the social network influences economic success through various routes such as mentoring, job searching, business connections, or information channeling. In this paper I propose that a social network externality which extends beyond the education period -- what I call a Lifetime Network Externality -- is important in explaining the evolution of between-group inequality in an economy. When the members of a group believe that the quality of their social network will be better in the future, more young group members invest in skill achievement because they expect higher returns on investment realized over the working period. As this is repeated in the following generations, the quality of the group's network improves over time. Combining the Lifetime Network Externality, which operates during the labor market phase of a worker's career, with the traditional concepts of peer and parental effects, which operate during the educational phase (Loury 1977), I suggest a full dynamic picture of group inequality in an economy with multiple social groups. I define a notion of Network Trap, wherein a disadvantaged group cannot improve the quality of its network without a governmental intervention, and I explore the egalitarian policies to mobilize the group out of this trap. This social capital approach suggests a positive effect of equality on economic growth in later stages of economic development and a positive effect of inequality in the early stage of economic development, consistent with Galor and Zeira (1993). Unlike the previous literature, the conclusion is derived without imposing the standard assumption of credit market imperfections. Therefore, this implies that equality, by helping disadvantaged groups to move out of the network trap, has a positive effect on economic development even in a matured economy without binding credit constraints, or in a society with public provision of schooling.
    Keywords: Lifetime Network Externality; Group Inequality; Network Trap; Social Capital; Economic Development
    JEL: D63 J60 J15 D85 J70
    Date: 2009–05–01
  6. By: Comola, Margherita; Fafchamps, Marcel
    Abstract: The literature has shown that network architecture depends crucially on whether links are formed unilaterally or bilaterally, that is, on whether the consent of both nodes is required for a link to be formed. We propose a test of whether network data is best seen as an actual link or willingness to link and, in the latter case, whether this link is generated by an unilateral or bilateral link formation process. We illustrate this test using survey answers to a risk-sharing question in Tanzania. We find that the bilateral link formation model fits the data better than the unilateral model, but the data are best interpreted as willingness to link rather than an actual link. We then expand the model to include self-censoring and find that models with self-censoring fit the data best.
    Keywords: network architecture; pairwise stability; risk sharing
    JEL: C12 C52 D85
    Date: 2009–08

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