NETWORK EXTERNALITIES, TECHNOLOGICAL-PROGRESS, AND THE COMPETITION OF MARKET CONTRACTS

Network externalities are used to describe the fact that many modem products become more valuable the more users adopt products of the same technology. Where network externalities and technological progress exist, the various kinds of inefficiencies discussed in the recent literature can be explained by different types of contracts. The main categories analysed are simple market contracts, update contracts, and service contracts. It is shown that these types of contract emerge endogenously from the incentive structure of profit-maximizing firms. Competition between these contracts may substantially reduce inefficient allocations caused by network externalities.