On Sellers' Cooperation in Hybrid Marketplaces

Expert Economist Jorge Padilla co-authored a paper alongside Michele Bisceglia for the Journal of Economics and Management Strategy exploring the topic of sellers’ cooperation in hybrid marketplaces. In this paper, the authors assess the competitive and welfare effects of horizontal mergers and other joint selling agreements or collusive agreements among third-party sellers distributing through such platforms.

Abstract

Hybrid marketplaces, such as Amazon's and Zalando's stores or Apple's and Google's app stores, which distribute their own products and services in competition with those of third-party sellers, play a significant and growing role in the Internet economy. This paper shows that, other things equal, such platforms would maximize their profits if they lowered the fees charged to sellers and the prices charged to consumers in response to cooperation agreements between third-party sellers: horizontal mergers or collusive agreements. It also shows that such cooperation can be pro-competitive when the platform is a vertically integrated gatekeeper, adopts the agency business model, is a close competitor to the third-party sellers it hosts, and observes (or correctly anticipates) the third-party sellers' agreement. The discussion here is of significant policy relevance, since third-party sellers in online marketplaces may find it easier to collude and may respond to the bargaining power of certain gatekeeper platforms by merging their activities.

Introduction

Online marketplaces represent an important distribution channel for products and services around the world, one whose importance is growing over time. Sellers find it profitable to distribute their products and services through marketplaces patronized by many consumers. Consumers in turn are attracted to marketplaces offering a wide selection of products and services, distributed efficiently, and sold at low prices. Thus, marketplaces have the incentive to offer a wide range of product varieties, including some which may be regarded as close substitutes, to increase product choice and encourage price competition and, therefore, attract a greater number of consumers. To do so, they enter into distribution agreements with many third-party sellers. Yet, those sellers may not have the incentive to offer as many varieties through marketplaces as they do through other channels, especially their own direct distribution channels, given that marketplaces typically charge per-transaction fees. Also, they may not have incentive to price competitively the varieties sold through the marketplace, especially when they possess market power. And, in any event, their and the marketplaces' incentives are not fully aligned, as each third-party seller fails to internalize the external effect of its pricing and non-pricing decisions on the sales of other sellers in the marketplace and on the marketplace's overall reputation and profits.

Because of this, some marketplaces, such as Amazon, Zalando, Walmart, Apple's Appstore and Google's Playstore, have adopted a “hybrid” business model, supplying directly their own products and services in addition to those of third-party sellers. By adding missing varieties, hybrid marketplaces seek to achieve selection parity with other distribution channels. By entering with close substitutes to those sold by third-party sellers, they may incentivize the latter to price more competitively. Hybrid marketplaces profit from selling their own products and services and from the per-transaction fees they charge to third-party sellers. Because these two profit streams are interrelated when the marketplace and the sellers offer substitutes, the prices and fees applied by the hybrid marketplace are expected to respond to changes in the degree of competition or cooperation between the third-party sellers in the platform.

This paper investigates the nature and extent of such a response. Although related to the growing literature on hybrid marketplaces,1 this is, to the best of our knowledge, the first paper to consider (i) the optimal response of a hybrid marketplace to a horizontal merger or a collusive agreement between third-party sellers offering substitutes products or services through the marketplace; and (ii) the consumer and total welfare effects of horizontal mergers and collusive agreements amongst sellers distributing their products and services through gatekeeper hybrid marketplaces.

This is a discussion of significant policy relevance. Assistant Attorney General Jonathan Kanter recently noted “As American consumers increasingly turn to e-commerce, it is critically important to deter, detect and prosecute crimes that prevent fair and open competition in online marketplaces.”2 On the one hand, competition authorities on both sides of the Atlantic, as well as legal and economics scholars, have recently expressed concerns that competition in online marketplaces may increase the scope for anti-competitive practices by sellers.3 The greater price transparency which characterizes online marketplaces allows retailers to track more effectively the prices charged by their rivals, which may facilitate collusion, whether explicit or tacit (OECD, 2019). Moreover, the use of algorithmic prices among e-retailers may also foster collusion.4 On the other hand, the significant bargaining power of certain gatekeeper platforms may trigger changes in the ownership structure of third-party sellers distributing through such platforms. In particular, those sellers may decide to merge or their shares may end up in the hands of common shareholders.5 Competition agencies investigating such deals will have to take into account the specific context where such firms operate and, specifically, the role played by gatekeeper platforms.

We analyze a model where two competing firms sell exclusively through a hybrid marketplace which adopts the agency business model (Johnson, 2017)—that is, it charges sellers per-unit or ad-valorem fees—and commercializes a private label in competition with third-party sellers. We first characterize the hybrid marketplace's private label price and fees and third-party sellers' prices when sellers set prices non-cooperatively. We then characterize equilibrium prices and fees when third-party sellers maximize their joint profit, either as a result of a horizontal merger or because of collusion. The marketplace is a gatekeeper for the third-party sellers and, therefore, has all the bargaining power vis-à-vis third-party sellers in both scenarios.

We find that the hybrid marketplace responds to third-party sellers' cooperation by reducing the prices of its private label as well as the fees applied to the sellers. Other things equal, cooperation among third-party sellers would lead to excessively high retail prices from the platform's viewpoint. To offset the resulting reduction in sales, the platform has the incentive to cut its (linear or ad-valorem) fees to mitigate double marginalization and hence moderate the increase in third-party sellers' prices. And because distributing third-party sellers' products becomes less profitable when they cooperate, the platform also lowers the price of its private label, so as to steer consumers toward its relatively more profitable business. Being confronted with lower fees and expecting more aggressive competition from the platform's private label, cooperating third-party sellers may end up setting lower retail prices. This will be the case when price competition between third-party sellers and the vertically integrated platform is fierce—that is, when products are relatively homogeneous. In such a case, consumers will be unambiguously better off under cooperation (as all products are available at a lower price), and allowing cooperation is also optimal from a total welfare standpoint.

A key feature of our model is that fees are secretly negotiated only after third-party sellers have decided to collude or merge. Admittedly, platform fees seem to be posted uniformly or, at best, not conditioned on the mode of competition and the ownership structure of the third-party sellers. Yet, we believe the timing in our game is most realistic, because platforms commonly negotiate firm-specific charges (e.g., logistical costs) and incentives (e.g., promotions and other forms of marketing support) secretly. Those charges and incentives are adjusted frequently and could naturally be changed in response to changes in sellers' conduct and structure.

These results are robust to a number of changes in the underlying model—fpr example, the use of nonlinear contracts, different demand and cost specifications, a larger number of sellers in the marketplace, alternative timing, informational and belief assumptions. Yet, our results hinge on the specific nature of the platform's business model. They do not hold for vertically disintegrated marketplaces or marketplaces operating a wholesale (or resale) business model.

A policy-relevant implication of our analysis is that, to the extent that policymakers are concerned that selling through e-commerce marketplaces might facilitate collusion among retailers (through data sharing or the use of pricing algorithms), the ability of the platforms to sell competing products mitigates this concern. This raises questions about the potential effects of the Ending Platform Monopolies Act, recently proposed in US Congress, which would make it unlawful for certain platforms (such as Amazon) to operate as hybrid marketplaces.

The remainder of the paper is organized as follows. The baseline model is set-up and analyzed in Sections 2 and 3, respectively. Section 4 discusses the robustness of the results with respect to the model assumptions. Section 5 concludes. Supplementary calculations and proofs of the main results are in Appendices A and B, respectively. Further material is contained in an Supporting Information: Appendix.

Read the full article here.

This paper was originally published for the Journal of Economics & Management strategy here. The views expressed are those of the authors only and do not necessarily represent the views of Compass Lexecon, its management, its subsidiaries, its affiliates, its employees, or clients.

Jorge Padilla, Michele Bisceglia, On sellers’ cooperation in hybrid marketplaces, Journal of Economics & Management Strategy (2023), https://onlinelibrary.wiley.com/doi/10.1111/jems.12498