Media competition: a two-sided duopoly with costly differentiation

We model a duopoly in which media compete in both the consumer and the advertising markets. The advertisers’ payoffs depend on the coverage in the consumer market, hence there are cross-market externalities but no direct transfers are possible. At a (sunk) cost, platforms select the quality they offer consumers, and the prices they charge consumers and advertisers. Under well-defined conditions, the pure strategy equilibrium of this game is unique and can be computed. Generically, a mixed-strategy equilibrium is shown to always exist and the distributions are completely characterised. Compared to an established benchmark (Shaked and Sutton, (1982)), consumer prices are distorted downward and so is the quality offered to consumers. The introduction of advertising revenue enhances price competition for consumers, and the necessary consumer discount relaxes the need to provide quality. Hence quality (on the consumer side) and advertising revenue are substitutes. Competition is shown to promote the investment in quality, as contrasted to a monopoly. The market may be preempted not as a result of an exogenous contraction, but as a consequence of an expansion, of (advertising) demand.