Empirical essays on network effects in markets

Abstract

This dissertation examines the impact of network effects in two settings--the computer software markets and self-employment decisions by individuals. Although there have been strong developments on the theory of network effects, relatively little empirical work has been done to examine their importance. The first part of this dissertation focuses on network effects in the market for computer software. It has been hypothesized that the presence of network effects in this market might often lead to lock-in of an inferior technology. An indirect test of this hypothesis is devised by taking advantage of a natural experiment afforded by the introduction of the programming language, Java. Java made it possible for programmers to write a single program that would run on any operating system. It therefore had the potential to eliminate the indirect network externalities in the operating systems market. Hedonic price regressions with fixed time and firm effects are estimated to test for the effect of Java on the extent of competition in the software market. Results using data compiled from magazine reviews of graphics applications programs indicate that Java was successful in creating more competition in the market for software applications. The second part of this dissertation examines whether social networks might explain the persistent racial gap in Self-Employment (SE) rates in the United States. Self-employment rates in the United States fell dramatically for most of the twentieth century before starting to increase in the 1970's. The racial gap in self-employment rates however, remained constant throughout this period. Many theories have been proposed in the literature but none of them successfully explains the persistence of the gap. A multinomial logit specification is used to model individual decisions to become self-employed. The average SE rate in the neighborhood is used as a measure of the network effect. Results indicate that social networks played an important role in promoting self-employment among blacks since 1950. Given the initial conditions of lower SE rates among blacks, the role of social networks in promoting SE might be able to explain the persistence of the racial gap in SE rates.