Algorithmic Collusion of Pricing and Advertising on E-commerce Platforms

TL;DR

This paper investigates how AI algorithms in e-commerce can coordinate on lower prices and advertising bids when making joint decisions, especially under high consumer search costs, leading to benefits for consumers, sellers, and platforms.

Contribution

It extends the analysis of algorithmic collusion to multi-dimensional decisions involving both pricing and advertising, supported by empirical evidence from Amazon data.

Findings

Algorithms can coordinate on lower prices when search costs are high.

Lower advertising bids lead to reduced costs and increased demand.

Platform profit strategies like reserve prices are ineffective, but commission adjustments are beneficial.

Abstract

When online sellers use AI learning algorithms to automatically compete on e-commerce platforms, there is concern that they will learn to coordinate on higher than competitive prices. However, this concern was primarily raised in single-dimension price competition. We investigate whether this prediction holds when sellers make pricing and advertising decisions together, i.e., two-dimensional decisions. We analyze competition in multi-agent reinforcement learning, and use a large-scale dataset from Amazon.com to provide empirical evidence. We show that when consumers have high search costs, learning algorithms can coordinate on prices lower than competitive prices, facilitating a win-win-win for consumers, sellers, and platforms. This occurs because algorithms learn to coordinate on lower advertising bids, which lower advertising costs, leading to lower prices and enlarging demand on the platform. We also show that our results generalize to any learning algorithm that uses exploration of price and advertising bids. Consistent with our predictions, an empirical analysis shows that price levels exhibit a negative interaction between estimated consumer search costs and algorithm usage index. We analyze the platform's strategic response and find that reserve price adjustments will not increase platform profits, but commission adjustments will, while maintaining the beneficial outcomes for both sellers and consumers.