Carl Shapiro

Technology Adoption in the Presence of Network Externalities

We analyze technology adoption in industries where network externalities are significant. The pattern of adoption depends on whether technologies are sponsored. A sponsor is an entity that has property rights to the technology and hence is willing to make investments to promote it. Key findings include the following: (1) compatibility tends to be undersupplied by the market, but excessive standardization can occur; (2) in the absence of sponsors, the technology superior today has a strategic advantage and is likely to dominate the market; (3) when one of two rival technologies is sponsored, that technology has a strategic advantage and may be adopted even if it is inferior; (4) when two competing technologies both are sponsored, the technology that will be superior tomorrow has a strategic advantage.

Premiums for High Quality Products as Returns to Reputations

This paper derives an equilibrium price-quality schedule for markets in which buyers cannot observe product quality prior to purchase. In such markets there is an incentive for sellers to reduce quality and take short-run gains before buyers catch on. In order to forestall such quality cutting, the price-quality schedule involves high quality items selling at a premium above their cost. This premium also serves the function of compensating sellers for their investment in reputation. The effects of improved consumer information and of a minimum quality standard on the equilibrium price-quality schedule are studied. In general, optimal quality standards exclude from the market items some consumers would like to buy.

Consumer Information, Product Quality, and Seller Reputation

This article analyzes markets in which consumers are imperfectly informed about product quality. An important force that prevents deterioration of the quality supplied by sellers is the formation of firm-specific reputations. It is shown in general that reputations, because they can reward high quality production only with a lag, can work only imperfectly. Viewing reputation as an expectation of quality, this article studies the properties of quality expectations that are fulfilled. When sellers set quality once and for all, any self-fulfilling quality level must lie below the perfect information quality level. The same is true of steady-state quality levels when sellers can vary quality over time. Finally, the relationship between consumer information and product quality is explored.

Optimal Patent Length and Breadth

In providing rewards to innovators, there is a tradeoff between patent length and breadth. This article provides conditions under which the optimal patent policy involves infinitely-lived patents, with patent breadth adjusting to provide the required reward for innovation.

On the Licensing of Innovations

We study a three-stage, asymmetric duopoly game of RD (2) fixed-fee licensing of the innovation; and (3) sale of the final product. We find that major innovations will not be licensed, but that equally efficient firms will tend to license minor innovations. For some innovations, licensing is both privately and socially undesirable. If at least one of the two producers would refuse to license (were it to acquire the innovation), then licensing will not occur; an excluding firm will obtain the innovation. The possibility of licensing may decrease the returns to innovation if the licensee appropriates most of the licensing gains to trade.

How to License Intangible Property

We examine the optimal licensing strategy of a research lab selling to firms who are product market competitors. We consider an independent lab as well as a research joint venture. We show that (1) demands are interdependent and hence the standard price mechanism is not the profit-maximizing licensing strategy; (2) the sellers incentives to develop the innovation may be excessive; (3) the sellers incentives to disseminate the innovation typically are too low; (4) larger ventures are less likely to develop the innovation, and more likely to restrict its dissemination in those cases where development occurs; and (5) a downstream firm that is not a member of the research venture is worse off as a result of the innovation.

The Theory of Business Strategy

* The field of industrial organization has been transformed during the past twenty years. In the 1950s and 1960s, I.O. was predominantly an empirical field with little theory to guide either industry analysis or cross-section regression studies. During the 1980s, by contrast, there has been an intense flurry of activity in I.O. devoted to the development of new theory. This new wave of research consists almost exclusively of game-theoretic studies of behavior and performance in imperfectly competitive markets. In his companion piece Franklin Fisher argues that the game-theoretic approach to industrial organization has been unsuccessful. My aim here is to provide one participants view of what industrial organization economists have learned from the recent theoretical research and where the field of industrial organization should go during the 1990s.

Optimal Pricing of Experience Goods

A monopolists optimal price path over time is examined for situations in which consumers initially misestimate product quality and learn about it by using the good. Information about the product is bundled with the product itself. Two very different cases are studied. In the optimistic case, consumers initially overestimate quality, and the optimal way to milk a reputation is via a declining price path followed by a jump up to a terminal price. There are no long-run effects due to initial misperceptions. In the pessimistic case, consumers underestimate quality, and the optimal way to build a reputation is to use a low introductory price followed by a higher regular price. In this case, initial misperceptions adversely affect welfare in both the short and long run.

Asset Ownership and Market Structure in Oligopoly

We study the effects of changes in the ownership or productive assets in a concentrated industry. Using a Cournot model, we analyze (1) investment by an oligopolist, (2) the sale of capital goods by one oligopolist to another, and (3) stock market purchases, whereby one firm acquires a partial interest in a rival firm. In each case, we determine how the change in asset ownership affects price, profits, industry performance, and measured concentration. We identify those industry conditions and asset transactions for which equilibrium increases in concentration reliably indicate worsened industry performance.

The economics of information technology : an introduction

The Economics of Information Technology is a concise and accessible review of some of the important economic factors affecting information technology industries. These industries are characterized by high fixed costs and low marginal costs of production, large switching costs for users, and strong network effects. These factors combine to produce some unique behavior. The book consists of two parts. In the first part, Professor Varian outlines the basic economics of these industries. In the second part, Professors Farrell and Shapiro describe the impact of these factors on competition policy. The clarity of the analysis and exposition makes this an ideal introduction for undergraduate and graduate students in economics, business strategy, law and related areas.