Will a matchmaker invite her potential rival in?

• Author: Rupayan Pal,Vinay Ramani
• DOI: http://doi.org/10.1111/jems.12206
• Published date: 01 December 2017
• Date: 01 December 2017

Received: 27 August 2015 Revised: 13 January 2017 Accepted: 19 January 2017

DOI: 10.1111/jems.12206

ORIGINAL ARTICLE

Will a matchmaker invite her potential rival in?

Rupayan Pal1Vinay Ramani2

1Indira Gandhi Institute of Development

Research (IGIDR), Mumbai, Maharashtra,

India (Email: rupayan@igidr.ac.in)

2Indian Institute of Management

Udaipur, Udaipur, Rajasthan, India

(Email: vinay.ramani@iimu.ac.in)

Abstract

This paper analyzes optimal strategies of an incumbent intermediary, who matches

agents on the two sides of a market, in the presence of entry threat under alterna-

tive scenarios. It shows that, when entry is free, strategic entry accommodation is the

optimal choice of the incumbent—not entry deterrence, unless the variation in agents’

types is small. Entry accommodation remains optimal for the incumbent for a wide

range of parametric configurations even when there is a fixed cost of entry. These

results are in sharp contrast to the predictions of existing models of entry.

1INTRODUCTION

There are many markets where individuals on one side of the market use the services of intermediaries to get in contact with

members on the other side of the market. Examples of such markets include the online dating marketand the housing market. The

online dating market is particularly interesting as the number of users of online dating services have been increasing year after

year.1There are nearly 4,000 firms in the online dating market.2Furthermore, the presence of multiple intermediary firms in

this market implies that incumbent firms are able to accommodate the entry of new firms. It is this issue of entry accommodation

that is of interest to us in this paper.

Specifically, considering competition in a two-sided matching industry, we ask the following question. Is entry deterrence

always an optimal strategy fort he incumbent? To answer this question, we analyze a model of vertical product differentiation in

a two-sided market where an incumbent matchmaker faces the threat of entry from a potential entrant. We make the following

contributions. First, when there is no fixed cost of entry, we provethat it is optimal for the incumbent to accommodate the entrant

provided there is sufficient variation in the agents’ types (i.e., there is sufficient heterogeneity among the vertically differentiated

match seekers). Second, we consider the case where the entrant has a fixed cost of entry. Intuitively, if the incumbent finds it

profitable to deter entry when there is no fixed cost of entry, then it should be able to deter entry more easily when there is a

fixed cost of entry. We show that there are wide ranges of parameter configurations such that strategic entry accommodation

remains optimal for the incumbent even when there is a fixed cost of entry.

The intuition behind our result is as follows: Because the incumbent cannot observe the type of the agent whom she matches,

she cannot price discriminate. In the absence of any fixed cost of entry, deterrence requires that the incumbent intermediate

the entire market. Furthermore, there is complementarity in match value; that is, the marginal value of the match to an agent is

increasing in the type of her partner. This implies that the incumbent can charge a higher price when agents of higher types are

matched. Essentially then, the incumbent faces a trade-off—intermediate the entire market and deter entry by charging a price

such that the lowest type of agent participates, or, strategically accommodate the entrant and match more and more higher types

and charge them a higher price. When the types are sufficiently differentiated, then the latter option is more profitable for the

incumbent. When a fixed cost of entry is present, entry accommodation continues to be optimal, conditional of course on the

magnitude of the fixed cost of entry and the extent of variation in agents’ types.

Our result that strategic entry accommodation can be optimal for the incumbent intermediary is related to the finding of Shaked

and Sutton (1982). Analyzing entry in a one-sided market for vertically differentiated products, Shaked and Sutton (1982) show

Wet hank the editor,a coeditor, and two anonymous referees for their valuable comments and suggestions. Weare of course solely responsible for any remaining

errors.

J Econ Manage Strat. 2017;26:806–819. © 2017 WileyPeriodicals, Inc. 806wileyonlinelibrary.com/journal/jems