Dynamic Innovation in a Two-Sided Platform

Abstract
We are interested in a two-sided platform, in which
dynamic innovation plays a role in stimulating consumer
demand that also drives rms' incentive to
innovate. By explicitly modeling the price competition
within the two-sided market, we study ways
consumers' platform fee interacts with rms' pricing
strategies on the platform. Our framework also
characterizes a dynamic R&D race and solves the
stationary Markov equilibrium using computation
methods. We nd that by charging consumers a
fee, the platform is not necessarily better o , because
rms may subsidize this cost by lowering their
prices in the market, which leads to lower transaction
revenues and innovation rate. Platform's
revenues may also su er if it shares rms' transaction
revenues. Surprisingly, despite the platform
fee, consumer welfare improves as a result of lower
prices. However, these e ects are not monotonic,
and shifts in the opposite direction occur when rms
switch to di erent pricing strategies, because consumers'
platform fee also mitigates price competition
between low- and high-quality rms.

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