1. Introduction
The Internet companies, often referred to as Over-The-Top (OTT) firms have powered “sharing economies” around the world (Weber, 2014). Two Sided Markets (2SM) and associated Platforms (P) form the basis of operation of these firms. In a typical 2SMP, there are two sets of users who complement each other’s usage thereby increasing the network effect for enhanced value for both (Rochet & Tirole, 2003). Typical examples include an e-commerce portal that connects users on one side with suppliers of goods on the other side; a travel portal that intermediates between travellers on one side and the travel firms on another; and so on. Often, one side of users cannot exist without the other and a platform is possibly the only way for them to efficiently get to know each other and transact commercially. This becomes important especially in an unorganised sector where it is the platform provider that brings a semblance of organisation, thus facilitating commerce between the two sets of users. India is unique in this aspect, compared to many other countries since a large number of unorganised set of firms exists and that too especially in direct consumer-related verticals such as travel, consumer goods, healthcare, apparel, and fashion.
The growth of 2SMPs, though not new, is fuelled by the proliferation of Information and Communication Technologies (ICTs).
The mobile subscriber base in India is the second largest in the world, with the mobile networks covering more than 90 percent of the country’s population. Though Internet and broadband penetration remains low, an increasing number of users access the Internet mostly through their mobile devices. The start-up eco system in the ICTs is vibrant in the country, as exhibited
- An earlier version of this paper was presented at the Fourth CUTS-CIRC Biennial Competition, Regulation & Development Conference, Nairobi, Kenya, 12-13 December 2015.
by the venture capital availability. The city of Bangalore is consistently rated in the top 20 global start-up ranking, in the league of Silicon Valley in the US. Though the impact of ICTs on new products and services is still evolving, it is consistently ranked above 4 (scale 1-7), indicating its potential.
India is also witnessing for the first time a deluge of ideas and 2SMP based start-ups coupled with an ensemble of angel investors, incubators and accelerators. Such enthusiasm is partly due to improved adoption of computers, mobiles, and smartphones and the increasing penetration of mobile Internet broadband across the length and breadth of the country. It is also due to the inherent inefficiencies of the current unorganised sector and a possible solution in an organised 2SMPs. However, in India as in other developing countries, there are considerable challenges to interconnect the two sets of users; that is where the value of platforms becomes important. On the other hand, due to relatively low entry barriers, it is easy to set up the platform business and hence the reason for hundreds of start-ups in this space. The caveat is that until the two sides scale up considerably, the value of the platform remains minimal. The next section describes the theory and characteristics of Two-Sided markets and platforms, and the subsequent section provides five case studies from different areas of the Indian economy and illustrates their evolution and benefits for the two sets of users. The article concludes by providing indicative policy steps for addressing these markets.
2. Theory of Two-Sided Markets and Platforms: A Literature Review
This paper extends the principles of Appropriate Technology and Fortune-Seeking from the Bottom of the Pyramid expounded by Kumar & Du (2011). With the use of specific cases, this paper attempts to bring out the socio-economic impacts of ICT enabled 2SMPs.
“Network externalities” are qualities of certain goods and services such that they become more valuable to a user as the number of users increases. Examples of products exhibiting network externalities include fax machines, credit card networks, telephone services, broadcast industry services, computer hardware and software (Sridhar, 2012). Thus network externality is defined as the increasing utility that a user derives from consumption of a product or a service as the number of other users who consume the same product or service increases. The network effects due to these externalities can be direct or indirect, fuelled by complementarity and compatibility of associated products and services.
2.1. Cross-side Network Effects
The theory of 2SMP and associated platforms is not new. It has been in existence since the time Visa and MasterCard were discovered; even prior. In a typical 2SMP, there are two sets of users who complement each other’s functions, thereby increasing the network effect for enhanced value for both. The platform enables these two heterogeneous sets of users to come together to conduct commercial transactions. The success of the platform depends on the number of users on each side and the usage across them, which is often referred to as cross-side network effect (Sridhar, 2014). Hence in a 2SMP, the cross-side network effects typically complement the same side network effects – direct or indirect, or both. These effects are captured in the case of a typical e-commerce market place as follows. The following figure illustrates a typical 2SMP and its associated characteristics.
Figure 1. Overview of a Two-Sided Market Platform (2-SMP)
A typical e-market place is a platform that connects sellers of products on one side with potential buyers on the other side. The platform provides the required glue between sellers and buyers. The cross-side network effect complements the same side networks in a 2SMP as shown.
2.2. Pricing in 2SMP
Pricing is one of the important strategies in a 2SMP. Typically, one set of users is subsidised while the other set pays premium depending on the price elasticity of the demand. In a two-sided market with positive cross-side network effects, the platform provider, even if it is a monopolist, has an incentive to reduce platform profit. This is because in order to compete effectively on one side of the market, a platform needs to compete well on the other side. This creates a downward pressure on the prices offered to both sides compared to the case where no cross-side effects exist (Prasad & Sridhar, 2014).
2.3. Waterbed Effect
A significant feature of the two-sided market is that one group of users choose to utilise only one platform, i.e., they are ‘single-home.’ The other group, in contrast, may ‘multi-home.’ For example, in the e-commerce platform illustration in Figure 1, typically consumers multi-home while sellers of merchandise single home. In such a market, if a seller wishes to interact with a consumer it has no choice but to interact with the consumer’s chosen platform. Thus platforms have monopoly power over providing access to their single-homing users for the multi-homing side. This leads to the possibility of high prices being charged to the multi-homing side. By contrast, platforms have to compete for single-homing users (i.e., sellers in the e-market place), and their high profits from the multi-homing side are to a large extent passed on to the single-homing side in the form of low prices or even zero prices. This is known as the ‘waterbed effect’ and has been demonstrated in analytical models like Economides and Tag (2012).
2.4. Competition
The prospect of increasing returns to scale in network industries especially in 2SMP, can lead to winner-takes-all battles, and in turn, result in a relatively less number of platform providers if not a monopoly altogether. An aspiring platform provider must thus consider whether to share its platform with rivals or fight to the death (Eisenmann, et al., 2006). Coping with platform competition is a two-step process as per Eisenmann, et al. (2006). First, is to determine whether their networked market is destined to be served by a single platform. When this is the case, the second step is in deciding whether to compete alone or share the platform in a co-opetition model.
2.5. Taxonomy of 2SMPs
A broad taxonomy of 2SMP is necessary to understand the scope, responsibility and liability of platform providers (Sridhar & Srikanth, 2015).
First are e-marketplace platforms that connect buyers with sellers that normally have an associated brand. These may be niche or horizontal in nature, covering large number of products and associated sellers. The platforms do some due diligence in selecting the sellers. The quality of products and services is taken seriously and the platform providers do provide enough information to the buyers, including ratings and facilities offered so that buyers make informed decisions. However, the payment for products and services are handled by the platform provider and the platform acts as a one-point contact for the customer. Moreover, these platform firms build brands through advertising and other means to attract both buyers and sellers and gain their trust. Due to this role, these platforms normally bear limited liability and responsibility for any errors in the completion of any transaction that passes through their platforms. For example, these platform providers normally have customer grievance cell and toll free numbers for such purpose. They also clearly state cancellation and refund policies for the transactions done through their platform.
Second, there are essentially directory services that enable customers to get information about the products or services. These firms enable buyers and sellers to meet and complete the transactions. Though these platform providers do some due diligence to select whom to list and also provide rating services, the onus on successful partnership between buyers and sellers normally does not fall on the platform provider. Given the low barriers to entry in such a service, there is often stiff competition in these types of platforms.
Third are aggregator platforms who sell goods and services under their e-brand, who do not have physical counter parts, who act as one-point contact for the customer, and who source their products and services both from recognised sellers/brands as well as from individuals and aggregators who may not have any brand or even physical presence. However, these platforms are the ones who promise to bring sanity and economic prosperity in countries such as India where the unorganised and informal sector plays an important role in the national economy. These platforms enable products and services to be made available which otherwise would not have been noticeable, and provide business opportunities for micro-entrepreneurs.
2.6. Regulation and Policy
The responsibilities and liabilities of these platforms are still evolving. Hence there is a regulatory arbitrage that the 2SMP firms try to leverage at times (Rogers, 2015). Most of the transport aggregator firms describe themselves as “technology platform companies” and try to place themselves outside the ambit of regulation. The following figure illustrates how various competition and regulatory factors affect different types of 2SMP firms.
Figure 2. Effect of market and regulatory factors on various categories of 2SMP firms
2.6.1. Search costs
By playing a technology-based intermediation role, the 2SMP firms reduce the search cost for the users on either side of their platform. In an unorganised market, search costs are often very high. Even in a relatively organised market such as in the US, the taxi sectors suffer from high search costs; and Uber, through its platform-based approach, minimises the search costs for both cab seekers and drivers to find each other (Rogers, 2015). The platform firms can potentially solve high search cost and the resultant lower supply through effective intermediation. However, the question is, during this process, if they bypass extant regulation, what should the policy response be? Should the extant regulation be applicable, which in effect might increase search cost and reduce associated benefits? As given in Figure 2, directory services reduce search costs more than the other forms of 2SMPs.
2.6.2. Disintermediation
The 2SMPs provide a way for either side users to connect with each other directly, thus reducing intermediation. In emerging countries, it is well known that intermediaries appropriate huge rents on each transaction between the two sets of users and thus reduce public benefits. Disintermediation also reduces search costs and improves the economic welfare of the two sets of users. The disintermediation is higher for directory services as they provide an easy way for the two sets of users to meet and complete their transactions.
2.6.3. Regulatory intervention
As indicated earlier, platforms tend to get commoditised and the winner-takes-all nature of 2SMPs might lead to monopolies or cartels in the market place. Excessive market power can threaten consumer welfare. Thus, regulatory oversight and Significant Market Power assessment is needed to avoid predatory pricing, cartelisation, and abuse of dominant power. In general, the competition watchdog should frame rules that are appropriate for the 2SMPs, that is welfare enhance and does not reduce the public benefits of such market forms.
When firms in 2SMP aspire to become monopolies, they might engage in discrimination in either sets of users due to economic, political and personal reasons. There have been cases filed in the US against Uber for exhibiting such discriminatory behaviour (Rogers, 2015). What should be done against such possible discrimination?
There are also information privacy concerns due to collection of data at granular level by the e-commerce firms. While on one hand, the collection and analysis of consumer data improves personalisation of services, it might invade security and privacy of individuals. What is the appropriate regulatory framework for protecting the security and privacy of individuals interacting with 2SMPs while at the same leveraging the power of technology to provide better quality of experience?
As shown in Figure 2, the 2-market places have higher regulatory arbitrage compared to directory services due to nature and involvement in associated business activities.
2.6.4. Liability
Though firms in this space use the caveat of technology providers to reduce their liability, there is a set of minimum liability and responsibility clauses that the firms need to adhere to. For example, if one gets a spoilt food delivered by a platform provider, who should be liable – the one who made the delivery (i.e., platform) or the one who produced it (i.e., the seller). Today, most 2SMP companies provide reasonable options for returns and refunds in the case of deficient products or poor delivery service, but there are situations where the liability could, and should extend beyond just a refund. This is somewhat similar to the many cases where infringement of copyrighted material makes not only the infringer culpable but also the platform that facilitated the infringement. The answer to this question is not obvious. However, the use of the tort law to delineate between (i) intentional wrongdoing and (ii) carelessness and negligence in causing loss financially or otherwise to the victims—is essential in propounding strict or limited liability to the platform providers. There is limited literature on the risks and associated remedies of electronic market places. Weber (2014) discusses the moral hazard problems faced by the intermediaries, especially those that provide shared accommodation and shows how all stakeholders benefit from intermediated sharing of goods. As shown in Figure 2, the liability is more with the e-market places. The aggregators also have some limited liability.
The hypothesis is that due to the above forces that shape the economic value of platforms, it can be potentially high for aggregator services compared to the other two types of 2SMPs.
3. The Case of the Taxi Aggregator Service
It is estimated that the radio taxi market in India is worth $6-9 billion dollars, growing at 17-20 percent every year. However, the organised market forms a small percentage of this market. It is estimated that the number of taxis in the organised sector will reach 30,000 by 2017 (Yourstory, 2014).
There are large unorganised taxi markets in most emerging countries, mainly due to lack of adequate public transport. Referred to as Radio Taxi Operators, a large number of fleet operators provide (i) airport service and (ii) inter-city service and (ii) intra-city service. These cab services are licensed by the State governments and tariff fixed by the rate card issued by the State transport department.
In India in 2010, a native alternate to Uber came up through Ola Cabs as an online marketplace for booking cabs and car rentals in the country. The founder, Bhavish Aggarwal, had said of his ambition: “To change how India travels and revolutionise personal transportation in the country”.
On 24 December 2014, an Uber cab driver in Delhi was apprehended by police after allegedly sexually assaulting a woman passenger. Uber’s first public response was that it would not take responsibility for the driver’s crime; it provoked public outrage against Uber and other taxi aggregators. After all, the taxi drivers who use these aggregators hold All India Permits. The government’s reaction therefore was that the cab aggregators are responsible for the drivers who use their platform and should be liable for any wrongdoing on the part of these drivers. Since then, it has not been easy for the taxi aggregators after a total ban was imposed on those who were providing taxi services without the Radio Taxi Operator licence. Their operations were cancelled in many states including in the cities of Bangalore and Delhi, since they were without the Radio Taxi license in some locations. While Ola and Uber argue that they are technology companies, not taxi operators, and thus come under the jurisdiction of the information technology law, the government stands its ground.
However, in a landmark judgement on 15 July 2015, the Delhi High Court suggested to the city government to do away with the ban on app-based cab service providers, saying they cannot be blamed for any illegal acts committed by the cab drivers, who are holders of All India Permits (AIP) granted by the authorities concerned. The Supreme Court reiterated that “no commercial vehicles shall ply in Delhi unless converted to Single Fuel Mode of CNG (compressed natural gas) with effect from 01.04.2001.," Justice Jayant Nath said in his order (ET, 2015). Ola cab is now trying to convert all diesel/ petrol cabs that are on its platform to CNG to continue its operations in Delhi.
The Karnataka Transport Secretariat was one of the first in the country to come out with “The Karnataka on-demand Transportation Technology Aggregators Rules, 2016” on 2 April 2016 (KTS, 2016). The salient features of this notification are discussed each in turn, below:/p>
1. "Aggregator" means a person who is an aggregator, or operator or an intermediary/market place who canvasses or solicits or facilitates passengers for travel by a taxi and who connects the passenger/ intending passenger to a driver of a taxi through phone calls, internet, web based services or GPS/GPRS based services whether or not any fare, fee, commission, brokerage or other charges are collected for providing such services.
a. Remark: The definition also includes operator who might own physical taxis apart from market places.
2. All on-demand transport aggregators shall obtain a license for valid operation as per these rules.
a. Remark: The aggregators come under licensing regime and hence under rules and regulations as attributable under the license conditions. This reduces the regulatory arbitrage for aggregator market places and brings them on par with operators and leasing services.
3. The aggregator shall have a fleet of minimum 100 taxies either owned or through an agreement with individual Taxi permit holders.
a. Remark: This increases the entry barriers for market place aggregators.
4. The aggregator has facilities for monitoring the movement of taxies with the help of GPS, GPRS, along with a control room facility.
a. Remark: This placed the responsibility of location awareness on the licensee. It is to be noted that market place based aggregators use these consumer tracking and monitoring facilities. However, this clause, forces the existing cab operators to adhere to the safety guidelines thus increasing the consumer security and benefits.
5. Every cab shall be fitted with a yellow coloured display board with words "Taxi" visible both from the front and the rear.
a. Remark: No private vehicles can be run by the aggregator. This also increase the responsibilities of the aggregator in running the cab service.
6. The driver shall have a minimum driving experience of 2 years. He shall be of a good moral character without any criminal record.
a. Remark: This placed the responsibility of selecting drivers with the associated qualifications on the aggregator. This is likely to improve the safety and security of the passengers.
7. In any case, the fare including any other changes, if any, shall not be higher than the fare fixed by the Government from time to time. No passenger shall be charged for dead mileage and the fare shall be charged only from the point of boarding to the point of alighting.
a. Remark: Surge pricing practiced widely by the aggregators is not allowed beyond the ceiling as fixed by the Government. This defeats the very purpose of supply-demand based pricing models. However, making the aggregator liable for charging very high when the demand exceeds supply, transfers some benefits from the aggregator to cab users at peak times.
8. The aggregator shall maintain records, in digital form of all the taxies at his control, indicating on a day to day basis, the trips operated by each vehicle, details of passengers who travelled in the vehicle, origin and destination of the journey and the fare collected. The records so maintained shall be open for inspection by an officer nominated by the licensing authority at any time.
a. Remark: All account keeping responsibilities are transferred to the aggregator. This increase consumer benefits.
The above rules have the following effects on pure play aggregators such as Uber:
1. Regulatory arbitrage: Reduced as the licensing regime brings the pure-play aggregators on par with regular cab operators.
2. Cost of operations: Increase in operational cost for the aggregator in complying with the rules.
3. Market efficiency: Cap on pricing deviates from the market-determined pricing, matching supply and demand and leading to possible inefficiencies. However, Uber can continue to derive benefits by matching supply and demand using technologies on real time basis.
4. Competition: Owned and leased taxi car operators will also be considered on par with pure play aggregators. Hence the competition increases.
5. Social benefits: The liability and responsibility of the aggregators has been increased as there is no cap on the number of trips and hence the utilisation of the drivers’ time, and in turn improving the utilisation of drivers. The cap on pricing may have a negative effect on drivers’ income. For the consumer, the benefits increase due to improved security, monitoring and ceiling on pricing.
4. Concluding Remarks and Policy Implications
Overall, 2SMPs generate consumer surplus, mitigate day-to-day problems of common citizens, reduce the information asymmetry problems and thus the appropriation of rents, and provide better job opportunities for blue collar workers and those at the bottom of the pyramid. Though Venture Capital (VC) funds have played their role in these platforms scaling up, the sustainability depends on the theories and outcomes of 2SMPs, including pricing strategies, stickiness of both sides of users, and the magnitude of cross side network effects.
Apart from the sustainability of these 2SMPs, the firms also have to deal with regulatory and policy dimensions that are still evolving. Various countries across the world have been trying to extend the applicability of the extant laws and regulations to this platform economy. While the responsibilities and liabilities of these platforms are still evolving under the extant laws, the platforms cannot take a “caveat emptor” approach of their legal position on their website (Sridhar & Srikanth, 2015). Thus, there is a need for a balanced approach to dealing with 2SMPs and associated regulation and policies.
The following are certain policy guidelines for dealing with 2SMPs.
1. Significant Market Power Assessment: Much like in any other sector, Significant Market Power (SMP) assessment shall be done periodically by the regulator as or when needed to prevent market dominance by one or a few set of players in the specified market space.
2. Light touch regulation and mandatory compliance: Since social benefits tend to be higher, the 2SMPs shall be treated with light touch regulation. A subset of existing rules shall be defined as the mandatory rules. The minimum liability and responsibility shall be defined for the mandatory compliance part of the regulation. For example, if taxi cabs need to run only on environmental friendly Liquefied Petroleum Gas (LPG), the rule should be equally applicable to those recruited by the taxi cab aggregator such as Ola Cabs. Regulatory arbitrage should not be extended in this case as the social and public harm due to highly polluting Petrol/ Diesel run cabs exceed the benefits due to disintermediation and lower search costs.
3. Fare regulation: Though platforms tend to create larger providers, fare regulation should not be extended to 2SMPs. Since the platforms are easily replicable and there is often less barriers to entry, any predatory pricing or additional rent extraction by the incumbents will be thwarted by new entrants.
4. Market share regulation: Any horizontal and vertical integration shall not be discouraged by regulation. The platforms tend to attain economies of scale and scope only through integration. Due to increasing returns to scale of such platforms, integration is likely to increase social benefits. Integration also brings about the much needed organisation to the informal sector, thus improving accountability, responsibility and ownership of the market place, and providing superior benefits to both consumers and producers on the platform as pointed out by Rogers (2015).
5. Regulatory levies: Regulatory levies increase cost of providing platform service which in turn reduces the social benefits. The regulatory agency must thus be careful to avoid levying additional tax on 2SMP providers.
6. Investment regulation: The high potential of these 2SMP firms and their global characteristic have attracted foreign investments. Any restriction on ownership and Foreign Direct Investment (FDI) will affect the much needed capital for the start-ups to scale up their operations.
As has been witnessed in many cases, the incumbents often feel threatened by the 2SMP providers and lobby against them. The regulators and policymakers should be cognizant of the fact that resultant social benefits due to 2SMPs tends to be higher and hence not be swayed by the incumbents. Keeping a watch over the market, at the same time nurture the proliferation of the 2SMPs through light-touch regulation is the key for embracing the new technology revolution for larger social benefits.
There have also been criticisms against the 2SMPs. The simplicity of 2SMPs and, in turn, of the analytical frameworks that revolve around them, were questioned in the context of Internet broadband provisioning by Sridhar & Prasad (2016). As these 2SMPs evolve into multi-sided platforms, the economics and associated regulations have to be restructured. Further, the competition regulation also has to evolve to address the various issues including vertical integration, price discrimination, and market contestability.
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This article originally appeared in Digital Policy Portal
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