E-Commerce Economics


Electronic commerce is the buying and selling of some products and services over the internet or any other computer networks. The advancement in technology and the widespread use of the internet has made the rate of trade over the internet to rise at a very high rate. There are some principles that are used so that the business that is conducted over the internet is trustworthy. Some of these principles include transparency so that the kind of trade that takes place is fair, reliability so that any information or transactions made are complete and correct. The other principle is confidentiality and privacy. This ensures that the information exchanged over the internet is private to the parties in the transaction. Network industries just like any other industries engage in competition and for the case of the network industries competition comes in the case of the products manufactured. Issues such as compatibility of devices by different companies are very sensitive and have been a concern in the network industry. This paper will seek to analyze the issue of imperfect competition in relation to network industries, innovations and the intellectual property rights, and the application of principles of economics in electronic commerce.

Imperfect Competition, Virtual Products, and Network Industries

Monopoly Power in Dynamic Network Industries

Network industries sell their products to their customers and the use of a particular network product is related to use of the same product by other individuals. For example, in buying software that has been developed by a certain industry, the consumer has to ask himself or herself questions such as if that software is the software of choice by other users. The developers of operating systems are more likely to develop an operating system that be favored

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by more software in the field (Daniel, 2004). In connection, those that use the rare software will end up buying the new version of the operating system so that they have access to software that is that is readily available in the market. The number of popular software applications to an operating system determines the success of the operating system.

Many individuals and companies have been attracted to the network industry due to the increase in the economic activities that involve dynamic industries. Every day is coming with some new technologies and new innovations that require the development of some new software so that it can be applicable in the industry. Communications network is a type of a dynamic network where the consumers consider mostly the network that other users are using for purposes of communication with them (Daniel, 2004). On the other hand is the virtual network where users do not communicate over the internet at all. When more software users feel comfortable working with a particular type of operating system, software developers will develop more software applications that will be applicable to this type of the operating system. This creates a complementary market in which competition increases rapidly and more people come out to make use of this opportunity. The many developed applications for this operating system make the operating system very popular and eventually the demand for the operating system.

Some industries have some significant network effects and this leads to the possibility of this industry dominating the market (Michael & Carl 2006). This will lead to the development of even more applications thus making the dominance to persist. Industries become rivals and they start developing their systems in such a way that there is no compatibility between the product and the rival’s systems. Imperfect competition comes in where each industry calls for development of some products that are not compatible with the rival’s products (Michael & Carl 2006). At times, compatibility can be guaranteed across networks but at some cost. The dominating company plans its work in such a way that the guaranteeing cost is so high that the consumers of the rival’s products have no option other than to discard their applications and shift to this network. The applications to the dominant industry appear to be more applicable to all the consumers whether they are of the same quality and developed by the best technicians. The capacity of the other industries to compete fairly and effectively is reduced and could even be forced to close the industry.

However, it is important to note that the tastes of the consumers offer some resistance to total

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market dominance (Daniel, 2004). This will lead to the coexistence of two or more networks that provide the same products with different standards, and thus offering different attributes to the consumers. An example is the demand for products like the computer games. Different companies may have different games for their consumers in the market. Here, competition might be fair and the possibility of one industry dominating the market is reduced. The rate at which new users join the industries is almost the same in the different industries therefore reducing the possibility of one provider dominating the market.

The issue of dominance comes with its costs and benefits especially if a single firm has set a single standard. When the applications for one industry are developed at a very high rate, economies of scale will definitely be present whereby the cost of production will be inversely proportional to the scale. The use of a product by many people will lead to increase in its value and eventually more people will be interested in using it (Daniel, 2004). This is the main reason as to why that particular industry is likely to dominate the market. However, this will only happen in case where the standards are controlled by the market forces but this is not always the case. Some international bodies are put in place to lay down some standards that all providers of a particular service to consumers must observe. The industries might also have a collection of members from the different industries that will lay down some standards that are supposed to be observed by all industries. It is however important to note that these standards that are set by the international bodies or the industry committees must not apply to all issues. This is so especially in case of intellectual property protection whereby an industry has the right to enjoy a product that it has innovated for a particular period of time without any interruptions. The control of the standards is also affected by the costs and benefits by the particular firm.

Market Tipping

The existence of more than one incompatible product by two or more different network industries leads to the dominance by a single product and a single standard. The competing companies may be competing in the line of innovation thereby the consumers could be attracted to a certain product from an industry. This way, the industry that is favored by the network effects seems to be benefiting from this process. The existence of two or more incompatible products helps in extending the market and the benefits are to the consumer. Tipping also helps an industry in ensuring that access to some standards is effective. The perception of the users of a certain product could be advantageous to some organization in that the users could be expecting the network to expand due to the existence of some incompatible products (Daniel, 2004). This happens even without a change in the price or the design of the product. Industries

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that compete in a tipping market have some plans to interfere with the consumer’s perception of their products in the market. Some industries will even spend some money in announcing the release of a new product not to inform the consumers of a new product but to catch the interest their consumers as they wait for the release of the new product.

Penetration Pricing

Many industries will be competing with their rivals so that they control of the market for the longest time possible. Most firms use penetration pricing whereby their products are sold at some very low prices and they promote those consumers who happens to use their product(s) (Michael & Carl 2006). The overall aim of lowering the prices is that the firm wants to win a bigger share of the market be and that their services are accessed and used by consumers before competition builds. The firms are already aware that consumers are always very sensitive to prices and that when the first few consumers will go out spreading the information that the prices have been lowered in a certain firm. It is important here to note that those firms that have already dominated the market have the easiest time in controlling the market.

Predatory Pricing

The dominants in the markets may use predatory pricing whereby their products are for quite sometime sold at some prices that are below the survival prices. The intention is to drive other competitors out of the market and prevent the entry of other competitors into the market. The dominant competitors use the huge profits they have gained over a long period of time to cater for its expenses during this period and ensure that the competitors will be selling at a loss if they sold at the same price (Daniel, 2004). Some dominant companies will go out announcing that their products will not be compatible with the products that the competitors are willing to come up with. The dominant competitor could also offer a close substitute to the product that competitor will be willing to bring into the market and then sell his or her product at a predatory price.

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Innovation, Intellectual Property Rights, and the Internet

Intellectual property is a unique idea, talent, or discovery due to the person’s creativity and inventiveness. Intellectual property rights are provided to innovators so as to encourage individuals to come up with inventions that are of benefit to the society (Michael & Carl 2006). The rights are also given so that the innovators could get some money for their upkeep. The inventors could be individuals or organizations. Legal rights can be protected by copyright, patents, trademark rights, design protection, etc.

How Do Intellectual Property Rights Encourage Innovation

As earlier stated, the main purpose of the intellectual property rights is to encourage the innovators to come up with new inventions fo4 their benefits and for the benefit of the society. Intellectual property rights reward innovators so that they can enjoy the fruits of their efforts and determination. Other individuals are not allowed to copy or gain access to these innovations so that the innovator could benefit from their talent for sometime. Innovations help in the innovation of new products and services and give an industry the capacity to compete fairly (Daniel, 2004).

Innovation and Market Competition

Innovation has become a key aspect to competitiveness in businesses and at the same time a means of success in the society. For any business to have the capacity to compete with other existing businesses, it must develop new products and services for its customers. The huge amounts of money that businesses use in research, development, advertisement, etc. are all in the name of new products that could increase their profits and at the same time place them in a better position in terms of the competitive advantage (Michael & Carl 2006). Those who come up with new ideas and those who make improvements in the existing ideas are greatly rewarded for some work well done.

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Applying Basic Economic Principles to Electronic Commerce

As stated earlier, electronic commerce is the use of the internet to buy products and services and perform any other transactions in the internet. Virtual products are products which can be sold, delivered, or used electronically. Principles of economics do apply in electronic commerce (Daniel, 2004). Opportunity cost is used to define second best forgone alternative in order to perform a certain task. In the network industry, opportunity cost is applied when an industry decides to spend the profits they have earned to lower the prices of products so as to eliminate other competitors and to block the entity of other competitors. The supply and demand of any commodity are linearly proportional. If the demand of a certain product goes up, the suppliers will be willing to supply more of the product so that they maximize profits. Products and services that an industry possesses can be advertised over the internet and all those who access the internet will have a chance to view the advert. Another application of economics is the online banking. Here, an individual does his or her banking activities using the internet. Just like a person would have gone into a bank to perform his or her transactions, any person can use the electronic mail to perform his or her transactions. Financial markets can also be accessed using the internet and any where you wish as long as you have the internet.


In conclusion, it has been found that network industries engage in competition just like any other business. Imperfect competition in the network industry is quite common whereby some individual industries have dominated the market and thus stand a better chance of competing with the less established. Most individuals will opt to use an operating system that will support many applications. Some industries have some significant network effects and this leads to the possibility of this industry dominating the market. Imperfect competition comes in where each industry calls for development of some products that are not compatible with the rival’s products. Some international bodies are put in place to lay down some standards that all providers of a particular service to consumers must observe. The industries might also have a collection of members from the different industries that will lay down some standards that are supposed to be observed by all industries. The exceptions to these controls are the case of intellectual property protection whereby an individual who has made some innovations is given the right to enjoy benefiting from that innovation for a particular period of time. . The control of the standards is also affected by the costs and benefits by the particular firm. Penetration

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pricing and predatory pricing are used by industries to lower some price of products so that the remaining competitors may be thrown out of the business. Intellectual property rights are given to innovators so as to encourage more innovations for the benefit of the individual and that of the society at large.


Daniel, A. R. (2004). Competition, Innovation, and Antitrust Enforcement in Dynamic Network

Industries                                                 . London; McMillan Publishers, 03-17.

Michael, L. K & Carl, S. (2006). Systems Competition and Network Effects, oxford; Oxford University Press, 23-35.