Competing for Recommendations: The Strategic Impact of Personalized Product Recommendations in Online Marketplaces

We study how an online marketplace's personalized product recommendations and its consumer profiling accuracy affect third-party sellers' competition and the market outcomes. Sellers strategically adjust prices to compete for the marketplace's recommendations. As the marketplace more accurately predicts consumers' preferences, the equilibrium price first decreases and then increases, and both the marketplace's and the sellers' profits may decrease despite the improved recommendation accuracy. Moreover, recommending the most profitable product for each recommendation may reduce profits of the marketplace and the sellers, and the marketplace can benefit from excluding pricing information in its recommendation decisions to prevent sellers' recommendation competition. Counterintuitively, regulations that bar recommendations from considering profit margin information can lead to higher prices and thus harm consumers. These results are driven by competing sellers' three distinctive incentives: competing for recommendations, exploiting targeted consumers, and undercutting rivals' prices. We also find that our key insights remain qualitatively unchanged if the marketplace recommends products based on consumer surplus, and the equilibrium price will be lower in comparison. Finally, various extensions demonstrate the robustness of these results.

Automated summary

This study examines the impact of personalized product recommendations and consumer profiling accuracy on competition and market outcomes for third-party sellers in an online marketplace. The research reveals that as the marketplace better predicts consumer preferences, sellers strategically adjust prices to compete for recommendations, resulting in fluctuating equilibrium prices. Interestingly, recommending the most profitable products may not necessarily increase marketplace and seller profits. Excluding pricing information from recommendation decisions can prevent recommendation competition but may lead to higher prices and harm consumers.