Self-Preferencing in E-commerce Marketplaces: The Role of Sponsored Advertising and Private Labels

Traditionally, e-commerce marketplaces have enabled third-party sellers to sell to potential consumers and have earned commission from the sales. In recent years, e-commerce platforms have begun to leverage private label and sponsored advertising to generate additional revenue. This raises the question of when and why a platform may seek to give preference to its private label in sponsored advertising, and what the implications of this are for consumers and third-party sellers. To examine this issue, we build a model where two horizontally-differentiated third-party sellers and one private label compete for a prominent ad slot to increase their respective demand. The platform can concede the ad slot to third-party sellers, generate ad revenue, and increase its commission from third-party sales. Alternatively, the platform can contest for the ad slot, place its private label in a prominent position, increase private label sales, and thus show self-preference. Counter to our intuition, we find that self-preferencing hurts consumers even though the platform offers the private label at a price lower than the price of third-party sellers. Furthermore, such self-preferencing on the part of the platform can improve the profits of some third-party sellers. We also find that it is not always optimal for the platform to self-preference its private label in sponsored advertising and place it in a prominent position. Specifically, it is optimal for the platform to concede the ad slot to third-party sellers when sponsored advertising is more effective in boosting demand or when the commission rate is large. If the commission rate is endogenous and if the third-party sellers' outside option is small, the platform concedes the ad slot to third-party sellers. Moreover, the private label and sponsored advertising are not two independent sources of profits. They can function as complements or substitutes in improving the platform's profits if the commission rate is exogenous, but become complements if the commission rate is endogenous.