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European
Economic Perspectives 25
Disc
World: Who Should Set Technology Standards
What
factors influence consumers’ take-up of new high-tech products like
software, videocassettes and compact discs? And should regulators
intervene to set standards? These questions are addressed by David
Dranove and Neil Gandal in a recent CEPR
Discussion Paper:
‘Network Effects, Standardization and the Internet: What Have We
Learned from the DVD versus DIVX Battle?’, No. 2335 (December 1999).
The
researchers note that in these kinds of product markets, there is a
trade-off between ‘standardization’, where all consumers adopt
compatible products, and ‘variety’, where several incompatible
products share the market. The trade-off has two important implications:
first, that market forces may fail to achieve standardization when it is
socially desirable; and second, that even if the market settles on a
standard, society would have been better off with an alternative
standard.
Some
policy-makers have interpreted these results to mean that regulators
should play an active role in setting standards, especially when a new
technology emerges and ‘backwards compatibility’ is an issue. Others
have urged regulators not to intervene unless owners of proprietary
standards take strategic actions to influence consumers’ adoption
decisions. One such action that has raised regulatory concerns is
strategic product pre-announcements or ‘vapourware’.
Dranove
and Gandal empirically test for vapourware effects in the Digital
Versatile Disc (DVD) market. They find that the pre-announcement of
Digital Video Express (DIVX) significantly slowed down the adoption of
DVD technology. This suggests that vapourware can indeed affect the
outcome of a standards competition.
In
the case of DVD versus DIVX, the product pre-announcement was made by an
entrant rather than an incumbent firm and hence was probably not a
concern to regulators. Indeed, there were clearly benefits from the
vapourware: it seems likely that the DVD rental market emerged more
quickly due to the DIVX pre-announcement, and consumers certainly
benefited from the rental market. Nevertheless, the fact that
pre-announcement by an entrant had such a large effect suggests that
pre-announcement by an incumbent would have a much larger effect. Hence,
the general regulatory concern about vapourware seems justified.
The
researchers also examine the role of the internet. They find that it was
very important in helping DVD/DIVX consumers communicate information and
co-ordinate their actions. Since many of the early adopters were
internet users, the large number of DVD and DIVX websites conveyed very
useful information to potential adopters in real time. The way the
internet allows information to be conveyed quickly and inexpensively may
reduce the market failures of sub-optimal standardization and adoption
of an inferior standard that are associated with competition between
incompatible technologies.
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