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Abstract:
We analyze pricing strategies for digital information goods, such as those increasingly available via the Internet. Because perfect copies of such goods can be created and distributed almost costlessly, any single positive price for copies is likely to be socially inefficient. However, we show that, under certain conditions, a monopolist selling information goods in large bundles instead of individually may nearly eliminate this inefficiency. In addition, the bundling strategy can extract as profits an arbitrarily large fraction of the area under the demand curve for the individual goods while commensurately reducing consumers' surplus. The bundling strategy is particularly attractive when the marginal costs of the goods are very low, when the correlation in the demand for different goods is low, and when consumer valuations for the individual goods are of comparable magnitude. We also describe the optimal pricing strategies when these conditions do not hold; show how private incentives for bundling can diverge from social incentives; and describe a mechanism to recover information about the underlying demand for each individual good. The predictions of our analysis appear to be consistent with empirical observations of the markets for Internet and on- line content, cable television programming, and copyrighted music.

Abstract:
The Internet has significantly reduced the marginal cost of producing and distributing digital information goods. It also coincides with the emergence of new competitive strategies such as large scale bundling. In this paper, we show that bunding can create "economies of aggregation" for information goods if their marginal costs are very low, even in the absence of network externalities or economies of scale or scope.

We find that these economies of aggregation have several important competitive implications:

1. When competing for upstream content, larger bundlers are able to outbid smaller ones.

2. When competing for downstream consumers, the act of bundling information goods makes an incumbent seem "tougher" to single-product competitors selling similar goods. The resulting equilibrium is less profitable for potential entrants, and can discourage entry in the bundler's markets even when the entrants have a superior cost structure or quality.

3. Conversely, by simply adding an information good to an existing bundle, a bundler may be able to profitaby enter a new market and dislodge an incumbent who does not bundle, capturing most of the market share from the incumbent firm and even driving the incumbent out of business.

4. Because a bundler can potentially capture a large share of profits in new markets, single-product firms may have lower incentives to innovate and create such markets. However, bundlers may have higher incentives to innovate.

For most physical goods, which have non-trivial marginal costs, the potential impact of large-scale aggregation is limited. However, we find that these effects can be decisive for the success or failure of information goods. Our results have particular empirical relevance to the markets for software and Internet content.

Abstract:
Once purchased, information goods are often shared among groups of consumers. Computer software, for example, can be duplicated and passed from one user to the next. Journal articles can be copied. Music can be dubbed. In this paper, we ask whether these various forms of sharing undermine seller profit. We compare profitability under the assumption that information goods are used only by their direct purchasers, with profitability under the more realistic assumption that information goods are sometimes shared within small social communities. We reach several surprising conclusions. We find, for example, that under certain circumstances sharing will markedly increase profit even if sharing is inefficient in the sense that it is more expensive for consumers to distribute the good via sharing than it would be for the producer to simply produce additional units. Conversely, we find that sharing can markedly decrease profit even where sharing reduces net distribution costs. These results contrast with much of the prior literature on small-scale sharing, but are consistent with results obtained in related work on the topic of commodity bundling.

Abstract:
Online reputation mechanisms are emerging as a promising alternative to more established mechanisms for promoting trust and cooperative behavior, such as legally enforceable contracts. As information technology dramatically reduces the cost of accumulating, processing and disseminating consumer feedback, it is plausible to ask whether such mechanisms can provide an economically more efficient solution to a wide range of moral hazard settings where societies currently rely on the threat of litigation in order to induce cooperation. In this paper we compare online reputation to legal enforcement as institutional mechanisms in terms of their ability to induce cooperative behavior. Furthermore, we explore the impact of information technology on their relative economic efficiency. We find that although both mechanisms result in losses relative to the maximum possible social surplus, under certain conditions online reputation outperforms litigation in terms of maximizing the total surplus, and thus the resulting social welfare.

Online Reputation Mechanisms, Quality Assurance, Litigation, Internet, Game Theory, E-commerce, Information Technology

Abstract:
A cornerstone of the law and economics approach to standard form contracts is the 'informed minority' hypothesis: in competitive markets, a minority of term-conscious buyers is enough to discipline sellers from offering unfavorable boilerplate terms. The informed minority argument is widely invoked to limit intervention in consumer transactions, but there has been little empirical investigation of its validity. We track the Internet browsing behavior of 45,091 households with respect to 66 online software companies to study the extent to which potential buyers access the associated important standard form contract, the end user license agreement. We find that only one or two out of every thousand retail software shoppers chooses to access the license agreement, and those few that do spend too little time, on average, to have read more than a small portion of the license text. The results cast doubt on the relevance of the informed minority mechanism in a specific market where it has been invoked by both theorists and courts and, to the extent that comparison shopping online is relatively cheap and easy, suggest limits to the mechanism more generally.

Abstract:
Electronic brokerages on the Internet represent one of the most successful examples ofelectronic commerce, having captured over 20% of retail stock trades. According toeconomic theory, prices of commodities like securities should converge to one price in amarket with the transparency of the Internet. A review of published commissions foronline brokers shows that this "law of one price" does not appear to hold for thecommissions charged by retail brokers. In this paper we explore one possible explanationfor these differences in commissions. Specifically, we test whether the total cost oftrading, including commissions and savings based on the quality of execution, obeys thelaw of one price. In a carefully designed experiment, we simultaneously purchased orsold 100 share lots of stock using a voice-broker, an expensive online broker and aninexpensive online broker in each trial. We found relatively few price improvements,which are a measure of execution quality. The difference among brokers in obtainingprice improvements was not statistically significant. The brokers do exhibit statisticallysignificant differences in total trading costs; at a volume of 100 shares commission costsdominate execution quality. We explore the implications of the findings for larger lotsizes, choosing a broker, and electronic commerce in the brokerage industry.

Abstract:
This paper analyzes the impact of e-commerce on markets where established firms face competition from Internet-based entrants with focused offerings. In particular, we study the retail brokerage sector where the growth of online brokerages and the availability of alternate sources of information and research services have challenged the dominance of traditional brokerages. We develop a stylized game-theoretic model to analyze the impact of competition between an incumbent full-service brokerage firm with a bundled offering of research services and trade execution and an online entrant offering just trade execution. We find that as consumers' willingness-to-pay for research declines, the incumbent finds it optimal to unbundle its offering when competing with the online entrant. We also find that the online entrant chooses a lower quality of trade execution when faced with direct competition from the incumbent's unbundled offering. The analytical model motivates a unique field experiment placing actual simultaneous trades with traditional full-service and online brokers, to compare order handling practices and the quality of trade execution. In keeping with our analytical results, our empirical findings show a significant difference in the quality of execution between online brokerages and their full-service counterparts. We discuss the relevance of our findings for quality differentiation, price convergence and profit decline in a variety of markets where traditional incumbents are faced with changes in the competitive landscape as a result of e-commerce.

E-commerce, information asymmetry, unbundling, impact of IT