Congestion, network effects and platform competition

Congestion can degrade the quality of services offered by digital platforms. Moreover, this problem can intensify due to strong network effects that attract many users. This article develops a theoretical agent-based model to understand the interaction and impact of network effects and congestion on platform competition. In our approach, platforms exhibit a generic form of network externalities, allowing us to consider cases where users benefit from network effects up to a threshold and then get harmed. We illustrate the intertwined relationship between network effects and congestion and provide a theoretical explanation for empirically observed counterintuitive phenomena, such as prices that increase with competition and network effects. However, this effect is weaker in growing markets, because platforms face a dilemma: raising prices reduces congestion but limits growth. This also provides an alternative explanation for price dispersion in electronic markets, as platform prices may vary depending on how platforms deal with this dilemma. We discuss theoretical, managerial and policy implications and directions for future research.