A surprising example of block pricing with heterogeneous demand

My wife and I just got back from holiday in Europe, and stopped in the duty-free store at Auckland Airport to pick up some bottles of gin for my mother-in-law. The price was $45 for one bottle, $69 for two bottles, or $95 for three bottles.

Standard block pricing (as described in this post) calls for the seller to sell at a declining marginal price per unit. In this case, the first bottle is $45, and the second bottle is $24 (for a total of $69 for two bottles). However, the third bottle is $26 (for a total of $95 for three bottles). Did the duty-free store get its block pricing wrong?

Certainly, their pricing is inconsistent with the standard block pricing story, because the third bottle should be less expensive (or, at least, not more expensive) than the second bottle. However, as Nobel Prize winner George Stigler noted, the pricing strategies that we see in the real world are likely to be those that work fairly well (otherwise, the strategy wouldn't persist and we wouldn't see them). So, there must be something about this pricing strategy that makes it work.

I think that the duty-free store is doing a bit of a mix of block pricing and menu pricing. Menu pricing is a form of price discrimination, where consumers sort themselves into those who are high-demand consumers and low-demand consumers. Low-demand consumers buy one bottle (or perhaps two), and pay a relatively high price per unit, while high-demand consumers buy three bottles and pay a lower price per unit.

Now, as I noted in this post, block pricing doesn't typically work when there is heterogeneous demand, because low-demand consumers are unaffected by block pricing (they buy the same quantity as if there was no block pricing), while high-demand consumers may buy more of the good, but spend less overall (because of the lower price per unit). The duty-free store avoids this negative outcome because consumers can only buy three bottles of gin duty-free. If they buy any more than that, they have to pay duty on the additional bottles. So, that effectively caps the number of bottles that high-demand consumers can buy to three. So, the high-demand consumers are stopped from buying four, or five, or six, or twenty bottles at the lower price. That means that the high-demand consumers may buy more bottles than if there wasn't block pricing, but they don't end up spending less overall.

That also helps explain why the third bottle can be priced a little higher than the second. A plausible interpretation is that the two-bottle deal is designed to attract moderate-demand consumers, while the three-bottle deal is aimed at the highest-demand consumers who are constrained by the duty-free limit. If that is the case, then the store does not need the third bottle to be cheaper than the second. Instead, it needs the three-bottle bundle to be attractive to a different group of buyers than the two-bottle bundle or a single bottle. Again, this points to menu pricing as part of the explanation.

So, while the duty-free store isn't conducting block pricing exactly as I describe in my ECONS101 class, we can nevertheless puzzle out what they are doing. And it makes sense, even if it is surprising to see a seller that is able to use block pricing when there is heterogeneous demand.

Price discrimination in tourism... French tourist attractions edition

The latest development in pricing at French museums should be familiar to my ECONS101 students, or to regular readers of this blog. As reported by the New Zealand Herald back in January:

France is hiking prices for non-Europeans at the Louvre this week, provoking debate about so-called “dual pricing”.

From Wednesday local time, any adult visitor from outside the European Union, Iceland, Liechtenstein and Norway will have to pay €32 ($64) to enter the Louvre – a 45% increase – while the Palace of Versailles will up its prices by €3...

Other state-owned French tourist hotspots are also hiking their fees, including the Chambord Palace in the Loire region and the national opera house in Paris. 

This form of pricing is, of course, known as price discrimination - offering the same product (in this case, museum entry) to different consumers for different prices. Price discrimination works when the seller has consumers with heterogeneous demand for their product. That means that some consumers have more elastic demand for the product (and are more price sensitive), while other consumers have less elastic demand for the product (and are less price sensitive). The seller charges a higher price to the consumers who are less price sensitive.

Why do foreigners have less elastic demand for tourist attractions? As I noted in this post back in 2014, there are two reasons. First, consumers tend to have less elastic demand for goods with few close substitutes. There are few substitutes for visiting the Louvre (or other tourist attractions), making demand less elastic. Arguably, for foreign tourists there are fewer close substitutes to the Louvre. Locals can do all sorts of things with their time, but tourists tend to want to go to tourist attractions while on holiday. Second, the significance of price in the total cost of the good is lower for foreign tourists than for locals. Foreign tourists have usually also travelled a long way at great cost to get to France, so the cost of entry into the Louvre is pretty small in the overall cost of their holiday, making demand less elastic. For locals, the cost of the ticket to the Louvre is probably most of the total cost of attending, so a change in the ticket price would have a greater effect on whether they go (making demand more elastic).

The New Zealand Herald article focuses attention on the ethics of price discrimination, noting that:

Trade unions at the Louvre have denounced the policy as “shocking philosophically, socially and on a human level” and have called for strike action over the change, along with a raft of other complaints.

That criticism is not trivial, because museums are not just profit-maximising firms - they also have a public-access mission, so charging more can look inconsistent with their public access goal. However, it is important to recognise that price discrimination is not illegal or even necessarily immoral, and may provide greater support for the long-term goals of the museum.

Price discrimination is in fact relatively common at tourist attractions (see the links at the end of this post), especially in developing countries but also increasingly in developed countries like New Zealand. And:

Britain has long had a policy of offering universal free access to permanent collections at its national galleries and museums.

But the former director of the British Museum, Mark Jones, backed fee-paying in one of his last interviews in charge, telling the Sunday Times in 2024 that “it would make sense for us to charge overseas visitors for admission”.

Society should want museums to remain sustainable. However, funding purely by taxes doesn't ensure sustainability, which is one reason that museums charge entry fees in the first place. And since museums are charging an entry fee anyway, it is right to consider what is the 'best' entry fee. There is no reason why that entry fee needs to be the same for locals and foreigners. After all, locals likely already pay for the upkeep of the museum through their taxes, so having a lower price for locals (as many tourist attractions do) is in that sense a fairer option. Price discrimination therefore has fairness in its favour, in addition to being a way of increasing profits for the museum, increasing its financial sustainability.

Read more:

• Are tourism operators in NZ missing a trick?
• Price discrimination in tourism... India edition
• Price discrimination and the Great Walks
• Hamilton Gardens' entry fee for tourists as a form of price discrimination
• Te Papa Tongarewa embraces price discrimination, but other tourism operators are still missing the trick

This week in research #122

Here's what caught my eye in research over the past week:

• Prati and Senik (with ungated earlier version here) propose a rescaling of happiness data using retrospective and current life evaluations, and show using their rescaled data that, among other results, the happiness of Americans has substantially increased from the 1950s to the early 2000s
• Johannesen and Muchardt (open access) test whether female scholars in economics are held to higher standards than males in the US and Europe, and find no evidence that standards are higher for females across faculty appointments, network invitations, grant awards, and editor appointments
• Choi finds that adding a healthcare copayment of $1 in Korea reduces monthly outpatient visits by 10 percent, with effects concentrates in low-value care, such as the inappropriate use of antibiotics
• Ozsoy and Rodríguez-Planas (with ungated earlier version here) find that students who took advantage of a flexible grading policy at Queen's College (City University of New York) during the COVID-19 pandemic underperformed once the policy was no longer available, with a cumulative GPA 0.11 standard deviations lower in Spring 2021 than in Fall 2019 relative to the change in performance of students who never used the policy
• Alonso-Armesto, Cáceres-Delpiano, and Lekfuangfu (open access) find substantial gains in mathematics and science achievement, concentrated among male students and those from lower socioeconomic backgrounds when the minimum legal drinking age increases from 16 to 18 years
• Mitra (with ungated earlier version here) finds that more educated mayors in Italy boost public investment, especially in the education sector, without compromising the fiscal stability of the municipalities

Blame it on the rain (on open day), or campus tour weather and university choice

The University of Waikato Open Day is coming up next month. We'll have thousands of prospective students on campus for most of the day, learning about their study options, attending mini-lectures, talking to current staff and students, and collecting lots of free stuff that we give away. Many people question the value of these open days. Do they make a difference to students' choice of university? Undoubtedly, for some students at the margin they will make a difference. And from my experience, open days can affect some students' subject choice.

One thing that open days provide prospective students is a 'vibe' for their potential study location. This is where I might criticise open day, because it really is almost nothing at all like a 'normal' university day, so it doesn't give prospective students any idea what university is really like. The 'vibe' might also be affected by elements beyond the university's control, like the weather. How important is the weather? This recent NBER Working Paper by Olivia Feldman, Joshua Hyman, and Matthew McGann (all Amherst College), provides some idea. They look at the effect of weather on the day that a student undertakes a campus tour at an unnamed "institute of higher education" (IHE) on whether the student subsequently applies and/or enrols at that IHE, finding that weather affects applications but not enrolment. The campus tour is a more limited version of our open day:

Tours are typically given by current students and involve the guide walking the participants around campus for about an hour while sharing information about the institution, academics, student life, campus dormitories, academic buildings, dining halls, and sports and recreational facilities.

Feldman et al. use administrative data on all campus tours between summer 2016 and fall 2024, along with hourly weather data from The Weather Channel, and data on where each student subsequently enrolled from the National Student Clearinghouse. They report that overall:

28.8 percent of participants apply to the institution, and 2.2 percent ultimately enroll.

In their main analysis, Feldman et al. apply a simple OLS regression model, with application (or enrolment) at the focal IHE as the dependent variable, and weather variables (cloudy, rainy, and several temperature ranges to capture hot and cold days) as the explanatory variables of interest. They find that there is:

...a 1.7 percentage point (5.9%) lower application rate when the tour is cold, a 2.3 point (8.0%) lower rate when the tour is warmer, and a 2.9 point (10.1%) lower rate when the tour is hot. Further, cloudy tours reduce the application rate by 1.4 percentage points (4.9%), and tours with precipitation reduce it by 2.4 points (8.3%).

Those effects on applications are quite large in context. However, when Feldman et al. look at the effect on enrolment (rather than just application) they find statistically insignificant effects (albeit using several different composite variables for 'bad weather' as the explanatory variable of interest, rather than individual weather variables as in the earlier analysis).

My takeaway from this paper is that students’ choice of university is fairly resilient to the effects of weather on the day of their campus tour. While poor weather may reduce the chances that a student applies to a particular university, it doesn’t seem to have much effect on whether they ultimately enrol there. Of course, this is evidence from a single US institution, and may not easily translate to the New Zealand context. Still, extending these results to open days suggests that while the ‘vibe’ on the day might affect whether a student applies to the University of Waikato, and the weather contributes to that vibe, it probably isn’t an effect that we should worry too much about.

University enrolments fluctuate from year to year, and there are lots of variables that affect them. One thing this study suggests is that, while rain on open day might dampen spirits, it probably isn't the major cause of low enrolments. So, if the numbers are down, we needn’t blame it on the rain (on open day).

[HT: Marginal Revolution]

The short-run impact of the Russian invasion of Ukraine on the euro-ruble exchange rate

When Russia invaded Ukraine in February 2022, one of the immediate consequences was a reduction in financial flows between Russia and the rest of the world due to international sanctions and Russia's own emergency capital controls (see here). Among other effects, this led to a decrease in the demand for euros and other foreign currencies (from Russians) and a related increase in the demand for rubles. Those changes should be observable in the data on the euro-ruble exchange rate. We should expect to see an appreciation of the ruble relative to other currencies.

Indeed, that is what this recent article by Sagiru Mati (Near East University) and co-authors, published in the Journal of Policy Modeling (sorry, I don't see an ungated version online), reports. They use a time series econometric model and data on the euro-ruble exchange rate from 1 January 2020 to 11 October 2022, testing for a change in the exchange rate after 24 February 2022 (when Russia invaded Ukraine).

Mati et al. don't find a step change in the level of the euro-ruble exchange rate. However, they do find a change in the rate of appreciation/depreciation in the exchange rate. Before the conflict, the ruble was losing value (depreciating) at an average rate of 0.04 percent per day. However, after the conflict, the ruble appreciated at an average rate of 0.21 percent per day (this averages out an initial steep decline in the exchange rate, followed by a rapid depreciation. This is shown in Figure 3(a) from the paper (although note that this graph shows the exchange rate in terms of the number of rubles per euro, so an appreciation of the ruble is a decline in the graph, while a depreciation is the reverse):

In other words, as expected the ruble began appreciating after the conflict, presumably due to an increase in the demand for rubles. The consequences of this appreciation include that Russian exports become more expensive for foreigners to buy (if priced in rubles, because more euros would be required for the same purchase) or less profitable for Russian exporters (if priced in euros, because the same quantity of euros would convert to fewer rubles). On the other hand, imports become less expensive for Russian consumers (if priced in euros, because fewer rubles would be required for the same purchase) or more profitable for exporters to Russia (if priced in rubles, because the same quantity of rubles now converts to more euros). Of course, sanctions on Russia extended to trade flows, so those potential changes were mostly moot.

International markets, including exchange rate markets, are frequently shifted by geopolitical shocks. Here is a case where the shock (the Russian invasion of Ukraine) had a largely predictable effect on the exchange rate.

Book review: Cloud Empires

The libertarian ideal of the internet was that it was a place without borders, without gatekeepers, and without government control. However, the modern internet falls well short of that ideal. In the physical world, it is typically governments that make and enforce the rules. However, online it is increasingly large and undemocratic platform firms that make the rules and enforce them. That is the general idea underlying Vili Lehdonvirta's 2022 book Cloud Empires, which I just finished reading.

Lehdonvirta tracks in detail how we ended up in the current situation, noting that:

The Internet was supposed to free us from powerful institutions. It was supposed to cut out the middlemen, democratize markets, empower individuals, and birth a new social fabric based on self-organizing networks and communities instead of top-down authority. "We will create a civilization of the mind in Cyberspace... more humane and fair than the world your governments have made before."... This is what Silicon Valley's visionaries promised us. Then they delivered something different - something that looks a lot like government again, except that this time we don't get to vote.

Lehdonvirta outlines how the platform firms have essentially replicated the process by which governments established rules, because of the same underlying necessity to maintain control. He uses numerous examples including Amazon, eBay, and cryptocurrencies such as Bitcoin and Ethereum, to illustrate his points. These case studies demonstrate the challenges, and the close corollary between the economic institutions established by the platform firms and those established by governments. Lehdonvirta notes that the key difference between governments and platform firms is in the political institutions. Platform firms lack the accountability that is inherent in political systems, and there is little prospect of overturning the 'government' of a platform. Even the most autocratic state risks revolution in a way that is to a large extent impossible for users to achieve within a platform environment.

While Lehdonvirta does a great job of outlining the issues, where the book falls short is in terms of the solutions. The subtitle of the book promises to tell us, "how we can regain control". Lehdonvirta's solution is a 'bourgeois revolution', of the kind that western countries experienced through the late Middle Ages. The growing urban middle class ('burghers') developed significant resources and gradually pushed back against the local lords, helped by powerful allies in the Church and often the monarchy as well. These coalitions led to more devolution of political power and authority, and eventually to the modern political institutions we observe today.

Lehdonvirta notes that, with some creative licence, it is possible to imagine a similar dynamic playing out on the platforms. However, while he devotes a great deal of effort in explaining the problems and linking them to real-world case studies, he doesn't expend the same effort on his proposed solution. The reader receives a few, almost cursory, observations about how a 'bourgeois revolution' may play out in certain situations. I felt like the book needed a more detailed explanation, linking the solution to embryonic real-world efforts and charting a path forward for them. Although speculative, a 'road map' for advocates of returning some power to the platform users would have added significant value to the book.

Aside from that small gripe, I really enjoyed this book, and it was a good follow-up to reading the more textbook treatment of platforms found in The Business of Platforms (which I reviewed last week).

This week in research #121

Here's what caught my eye in research over the past week (a quiet week, as I have been travelling in Europe):

• Three articles published in the prestigious journal Nature by Miske et al., Aczel et al., and Tyner et al., investigate the replicability of research results in social and behavioural sciences (a very important set of papers that have garnered a lot of attention)
• Mišák (open access) investigates the impact of temperature on soccer team performance, and finds that attacking efficiency is enhanced in warmer conditions, leading to increased goal productivity and improved shot conversion rates, defensive performance appears to weaken in warmer conditions, with a decrease in defensive pressure and passing accuracy, and player aggression follows an inverted U-shaped pattern in relation to temperature

The impact of the 2023 Bud Light boycott on alcohol purchases

When a consumer stops buying a particular product for some reason (for example, if a product becomes unavailable), do they switch their spending to another product within the same category, or do they reallocate their spending across all available goods and services? The consumer choice model (or the constrained optimisation model for the consumer) suggests that the consumer should reallocate across all possible goods and services, rather than transferring the exact proportion of spending to the closest substitute product.

This recent article by Aljoscha Janssen (Singapore Management University), published in the journal Economics Letters (ungated earlier version here) provides an interesting test of that expected response. The context is the 2023 boycott of Bud Light in the US:

The boycott began in early April 2023 after Bud Light partnered with a transgender creator, prompting calls from conservative media to avoid the brand... Viral content amplified the message, and the manufacturer responded with advertising that emphasized traditional Americana themes... Sales declines emerged not only in conservative areas but also in regions without strong ideological leanings...

Janssen uses data from the NielsenIQ Consumer Panel from 2021 to 2023, which tracks spending by between 40,000 and 60,000 US households. Janssen drops households that did not buy alcohol, and then categorises the remaining households into three groups based on Bud Light purchases: (1) 'Bud Light households' (that purchased 18 litres of Bud Light in both 2021 and 2022); (2) 'Bud Light-dominant households' (that purchased at least twice as much Bud Light as other beers, in addition to purchasing at least 18 litres of Bud Light in both 2021 and 2022); and (3) 'Non-Bud Light beer households' (that purchased at least 18 litres of light beer in both 2021 and 2022, of which less than one-third was Bud Light). Janssen reports that:

In the full sample there are 34,470 alcohol-purchasing households; 585 qualify as Bud Light households and 439 of those are Bud Light-dominant, while 5130 are non-Bud Light beer households.

Janssen analyses monthly purchase data using a difference-in-differences approach, essentially comparing the difference in purchases between different treatment and control groups before and after the Bud Light boycott in April 2023. In practice, the comparisons show very similar results for the impact on Bud Light purchases, purchases of other beer, and total alcohol purchases. Specifically, Janssen finds that:

Across all designs, treated households reduce Bud Light by roughly 160 ounces per month (34%–37% of their pre-boycott Bud Light volume)...

Households partially replace Bud Light with other beer: other-beer purchases rise by 70–90 ounces per month. The offset is meaningful but incomplete relative to the Bud Light shortfall...

Net of substitution, total ethanol declines by about 3–4 fl-oz per month among treated households, a 5.5–7.5% drop. Converting with 0.6 fl-oz per U.S. standard drink, this equals roughly 5.0–6.7 drinks per month per treated household...I find no significant changes in wine or spirits, indicating that switching is almost entirely within the beer category.

So, the boycott led households on average to purchase less Bud Light (as you might expect from a boycott). They bought a greater quantity of other beer products, but the increase in other beer purchases was less than half the decrease in Bud Light purchases, meaning that consumers substituted to other non-beer products. Consumers also didn't switch entirely to other alcohol products, as total alcohol purchases declined. Instead, some spending appears to have shifted away from alcohol altogether. In other words, consistent with the consumer choice model, when consumers stopped buying (or reduced their purchases of) Bud Light, they reallocated their spending across all goods and services, not just switching their spending to the closest substitute to Bud Light (other beers).

Does this offer anything meaningful for advocates of reduced alcohol consumption? Probably not in any direct sense. These were fairly unusual circumstances, and consumer boycotts of particular alcohol products are uncommon. It is hard to imagine advocates or policymakers being able to engineer similar boycotts on a regular basis in order to reduce alcohol consumption. However, the findings do suggest a broader possibility. Interventions that reduce purchases of particular alcohol products, especially those associated with high levels of alcohol-related harm, may lead to at least some reduction in overall alcohol purchases, rather than consumers simply switching one-for-one to the nearest substitute. That said, this study is about purchases rather than consumption, and more evidence from other types of interventions would be needed before drawing firm policy conclusions.

Taylor Swift, look what you made fans buy

Taylor Swift released 27 versions of her 2025 album The Life of a Showgirl. That sounds excessive, but it offers a nice lesson in economics and pricing strategy, specifically price discrimination.

Price discrimination occurs when a firm charges different prices to different groups of consumers for the same good or service, and where the price differences do not arise from a difference in costs. One form of price discrimination is 'versioning', where the firm offers different versions of a product that each cost the same to produce, but which appeal to different groups of consumers (with different price elasticities of demand). Consumers that are more price sensitive (and have more elastic demand) would buy the version of the product that is less expensive, while consumers that are less price sensitive (and have less elastic demand) would buy the more expensive version.

We saw an extreme example of versioning last year, executed by the astute economist Taylor Swift. Paul Crosbie (Macquarie University) wrote about it in this article in The Conversation last October:

The Life of a Showgirl was released in dozens of formats, with physical and digital editions tailored to different levels of commitment.

In total, over the first week, there were 27 physical editions (18 CDs, eight vinyl LPs and one cassette) and seven digital download variants.

A range of covers, coloured vinyl, bonus tracks and signed inserts turned one album into a collectable series rather than a single product. Other artists – such as the Rolling Stones – have used this strategy before, but rarely at this scale or with such an intense response from fans.

Taylor Swift fans who are more price sensitive will have tended to buy the less expensive version of the album. More price-sensitive fans will include those who have lower incomes (where the album price is a higher proportion of their income) and those who are more casual Taylor Swift fans (where there are more substitutes available that they might prefer to spend their income on).

Taylor Swift fans who are less price sensitive will have tended to buy the more expensive premium version of the album. Less price-sensitive fans will include those who have higher incomes (where the album price is a smaller proportion of their income) and those who are more diehard Taylor Swift fans (where there is no close substitute for the latest Taylor Swift album).

Crosbie questions whether it is possible to have too many versions of a product. In this case, 27 versions do seem like a lot. It could be a very effective means of segmenting the market. However, that works best if each buyer only buys one version. There will be some fans who bought more than one version, and perhaps a substantial number who bought several. A non-trivial proportion of the most diehard fans probably own all 27 physical editions of the album.

This matters because the usual rationale for price discrimination through versioning is that consumers sort themselves across the available versions - the casual fans buy the standard version, while the diehard fans buy the premium one. But if some consumers buy multiple versions, the strategy is doing more than just segmenting the market. It is also encouraging multiple purchases from the same buyer. In that case, the different versions are not just substitutes for one another, but for some fans they become collectibles, with each version they collect adding a bit of extra value through completeness, exclusivity, or identity. So, the economics of versioning for Taylor Swift are not only about price discrimination between consumers, but also about extracting more surplus from the most committed fans.

There is a limit to how many versions even the most diehard fan is willing to buy, and that limit arises because of diminishing marginal utility. In economics, utility is the satisfaction or happiness the consumer gets from the goods and services they consume. Marginal utility is the extra utility the consumer gets from consuming one more unit of a good or service. Diminishing marginal utility is the idea that marginal utility declines as the consumer consumes more of a good. In the context of Taylor Swift's album, Crosbie notes that:

The first version of an album brings a lot of satisfaction. The fifth or sixth brings less. Eventually, another version does not add enough enjoyment to justify the price. Fans begin to feel they have had enough.

It is clear that there is a balance to be found between maximising profits by price discrimination using versioning, and the number of versions that are offered when some consumers will want to buy multiple versions. Price discrimination can be an incredibly profitable pricing strategy for firms, including for Taylor Swift. Maintaining fan engagement and encouraging diehard fans to spend more by making the versions collectible are also important. As Crosbie notes in his article:

Instead of leaving that money on the table, the strategy turns passion into profit. The cost of creating extra covers or vinyl colours is small, but the willingness of fans to pay more for them is high. That is exactly where versioning pays off.

In theory, it should be possible to work out the optimal number of versions that maximises long-run profit. The profit-maximising number of versions is not necessarily the number that best segments the market for the purposes of price discrimination, because diehard fans may buy multiple versions. It seems likely that Taylor Swift is well aware of this. Would you be willing to bet she hasn’t gotten close to that optimum? I wouldn’t.

Facebook Marketplace forces a change in TradeMe's business model, but will it succeed?

TradeMe is one of the key examples that I use when teaching about platform markets in my ECONS101 class. But competition from Facebook Marketplace is causing TradeMe to change its business model, and those changes are risky.

The reason why TradeMe is such a good example is that, by attracting buyers and sellers to its platform in the 1990s, TradeMe managed to keep eBay out of the New Zealand market. How did that happen? In a platform market, the firm (in this case, TradeMe) acts as an intermediary that brings together two parties (in this case, buyers and sellers) who would not otherwise interact or easily connect. Buyers using TradeMe create value for sellers, and the more buyers there are, the more value is created. Sellers using TradeMe creates value for buyers, and the more sellers there are, the more value is created. Once TradeMe was set up and had attracted a large share of buyers and sellers, it would be difficult for any other platform to set up in competition with TradeMe. And so, eBay couldn't get a foothold in New Zealand, and TradeMe had an effective monopoly over online auctions for many years.

TradeMe profited by charging a 'success fee' to sellers of goods on the platform. Buyers faced no fees. This reflects the principle that a platform firm (like TradeMe) should set a lower price for access to the platform to whichever side of the market has demand that is more elastic, ceteris paribus. In this case, buyers have more elastic demand for access to TradeMe, as there are many other places that they might go to buy things. Sellers, on the other hand, had more inelastic demand for access to TradeMe because no other place had access to the same quantity of buyers. That is, until Facebook Marketplace appeared.

Facebook Marketplace doesn't charge fees to sellers. And through its links to Facebook users, there are a large number of potential buyers on Facebook Marketplace. And so, there is now a viable (and cheaper) alternative to TradeMe for sellers. And now, TradeMe has finally reacted to this competition, as reported in the New Zealand Herald last month:

Trade Me is removing success fees for casual sellers, in a move that one marketing expert says is probably a response to the growing power of Facebook Marketplace.

Sellers have usually been paying 7.9% of the final sales price of items sold via Trade Me.

But a new fee structure will remove them from next week and site spokeswoman Lisa Stewart said casual sellers would be better off.

It is making other changes at the same time: bank transfers will not be possible and Ping will be offered on every listing alongside cash and Afterpay, with a 2.19% transaction fee for the seller. This provides buyer protection up to $5000 if trades go wrong.

Buyers will also pay a new service fee based on the purchase price, if items are more than $20. This will be 99c for goods sold for $20.01 to $100, $1.99 for sales between $100.01 and $250 and $4.99 for items over $250. Stewart said 44% of trades were under $20.

It was a response to customer feedback and what was happening in the market, Stewart said...

Massey University marketing expert Bodo Lang said it was likely to be in response from growth in the use of Facebook Marketplace, which offers no protection for buyers but charges no fees.

With Facebook Marketplace available for sellers, seller demand for using TradeMe has become more elastic. While the 'success fees' have been eliminated, TradeMe will still profit from sellers through mandating the use of its payment service Ping. And notice that buyers will also now pay a 'service fee' to TradeMe on successful purchases over $20. TradeMe is now leveraging its market power to derive revenue from a complementary good (payment services) rather than the auctions themselves. This change makes TradeMe's business model resemble that of Facebook Marketplace. Meta derives revenue from Facebook Marketplace though selling advertising (on Facebook Marketplace, but also on Facebook), rather than deriving revenue directly from the sales on Facebook Marketplace.

It remains to be seen whether Trademe's new business model will be successful. I question the wisdom of charging a service fee to buyers. They are still the more elastic side of Trademe's platform market, and they have a cheaper option available in the form of Facebook Marketplace. TradeMe is banking on buyers valuing the protection that TradeMe offers them, which Facebook Marketplace does not. However, it isn't clear how much buyers value that protection, and if they don't value it in excess of the new service fee, then they will continue to exit to Facebook Marketplace. And if buyers show an increasing preference for Facebook Marketplace, it won't be long before sellers start to reduce their listings on TradeMe. And if that happens, the market could tip and TradeMe could very quickly find itself in an irreversible decline.

This week in research #120

Here's what caught my eye in research over the past week:

• Büyükeren, Makarin, and Xiong (with ungated earlier version here) find that the full-scale launch of Tinder led to a sharp, persistent increase in sexual activity among college students, but with little corresponding impact on the formation of long-term relationships or relationship quality
• Chollete et al. find that recreational marijuana legalisation by US states increases property crime, although the effect disappears when they control for state-specific time trends
• Picault (open access) describes a method to introduce authentic group projects in senior undergraduate economics courses

Book review: The Business of Platforms

As I teach my ECONS101 class, a platform market occurs when a firm acts as an intermediary and brings together two (or more) groups, who otherwise would not connect or easily interact (platform markets are also known as two-sided markets, because the intermediary brings together two sides of the market). We think of platforms as mostly an invention of the digital age, because most of the examples that come to mind (TradeMe or eBay, Facebook, the Android operating system) are digital platforms. But in truth, platforms are everywhere. Credit card companies are platform firms - they bring together merchants and cardholders. Malls are platform firm - they bring together stores and customers. And so on. Once you know what to look for, you recognise just how endemic platforms have become in the modern economy.

I was interested to learn more about the business of platforms, so a few years ago I bought the 2019 book The Business of Platforms by Michael Cusumano, Annabelle Gawer, and David Yoffie. I finally got around to reading it last month. It was not a moment too soon either. I was inspired by the book to greatly expand on the platform market content in my ECONS101 class, specifically in the topic we covered last week. I'm sure they won't thank me for adding to the quantity of ideas that they may be assessed on, but the material from the book added a lot of depth to what was previously a fairly cursory description of two-sided markets.

The importance of understanding platforms is exemplified by their growing importance in the (global) economy. Cusumano et al. write that:

In short, managers and entrepreneurs in the digital age must learn to live in two worlds: the conventional economy and the platform economy.

To that, I would add that consumers and policy makers also need to understand the fundamentals of platform markets. It is there that this book excels. Cusumano et al. provide a clear description of what platform markets are, the 'winner-take-all (or most)' nature of those markets, and the different types of platform markets. They use a wide array of examples to illustrate the concepts, from Android to YouTube, and everything in-between. I'm sure that they could have easily turned the exercise into a textbook treatment. However, the numerous examples they use give more depth and provide more interesting perspective than you would get from a textbook.

After outlining the basics over the first few chapters, the book turns to common mistakes that platform firms make. Many of their examples will be familiar as exemplars of business failure, such as how Microsoft first captured the browser market with Internet Explorer, before subsequently losing their dominance to Firefox and ultimately to Google's Chrome browser. Next, the book looks at how firms can develop a platform, again carefully illustrating the pitfalls of the different options available to firms with real-world examples.

Finally, the last section looks to the future of platforms, but also takes a more normative view, advocating that platform firms should "harness platform power, but don't abuse it". Cusumano et al. have written their book with managers and entrepreneurs in mind, and this last section is an appeal to those future leaders of platform firms. In particular, they focus on antitrust issues, privacy concerns, fairness towards the workforce ("not everyone should be a contractor", and in particular that firms should self-regulate. While this section does paint a picture of how platform firms can easily become bad actors, it seems unlikely to move the needle on platform firms' worst abuses.

Overall, I really enjoyed this book. It is rare these days that a single book adds significant new content to one of the papers I teach, and I really appreciated the clarity that Cusumano et al. bring to this topic, and the way they structured their ideas in a way that was easy to follow. If you are looking to understand platform markets, this book seems essential to me, and I highly recommend it.