A Penny for Your Thoughts?
Transactions involving
money--say, the purchase of something at a store--cost money. The cashier must
be paid, the cash register bought, the bookkeeper hired, etc. Honest mistakes
and dishonesty also take a toll. These expenses can be expressed as a cost per
transaction. The higher that cost, the larger the transaction has to be in
order for it to make financial sense.
Computers
are very good at counting money and keeping records, so they have been used for
decades to manage transactions. Today, when your credit card is run through the
little machine at the checkout counter, computers handle the entire
transaction. Nobody is going to look at that little slip you sign unless a
problem develops.
What is the cost of a transaction done purely by computer?
A recent estimate put the cost at less than one-millionth of one cent per
transaction--i.e., 100,000,000 transactions can be done for $1. Digital
cash--where the value is stored on the card you carry and there's no need to
check your credit against a faraway database--may be even cheaper.
Regardless
of how it's done, transaction costs will continue to plummet as computers get
more powerful. Low transaction costs are a wonderful thing if you're in the
transaction business. They're wonderful for consumers too, making it cheaper
and easier to buy things and creating new things to buy. All this is especially
true now that the Internet provides a direct connection between sellers and
millions of consumers.
In a normal situation, you could end there. But
this isn't a normal situation. This is the Internet, where any legitimate idea
is immediately taken to ridiculous limits. That's because there are plenty of
would-be Internet visionaries competing to outdo each other, both in
philosophizing and in trying to sell shares in their start-up companies to the
public. The magic words "on the Internet," if inserted into nearly any
sentence, seem to protect it from normal critical scrutiny.
So it is
with cheap transactions, which tend to go by the sexier name of "micropayment
systems." Press reports about micropayment schemes extol their virtues in
breathless wonder. Micropayments, it is said, will revolutionize the economics
of journalism on the Net (a topic I've opined on
before). People will pay some small fee--like 10 cents--to read an article,
rather than buy a whole magazine for $2.95. Or, what the hell, they can pay by
the paragraph, sentence, word, or--why not push it to the extreme--the bit.
Wouldn't that be wonderful?
No, actually, it wouldn't. Micropayments might be important
in some limited areas, but most of the hoopla is very poorly thought out. To
see why, consider Slate, which recently decided to remain free to users for
now. But imagine that, several years hence, Slate is trying to decide among
micropayments, subscriptions, and remaining free. Let's consider what effect
these choices will have on a couple of typical users (or "readers," as they
used to be called--tellingly, the computer industry shares with the drug
industry the habit of referring to its customers as "users").
Joe Avid
is what we in the computer industry would call a "heavy user." Joe reads every
bit of every issue of Slate. Jeff Accidental rarely reads Slate on purpose--but
every now and then, he follows a link from another site into Slate. Somewhere
in the middle is Tom Average, who reads Slate just as much as the average user
does.
What price should we set for the micropayment?
If we set the price so that it will yield the same total revenue as a
subscription, then Tom Average will pay the same amount either way. Jeff
Accidental will save a bundle by buying occasional articles instead of having
to buy a subscription. But it's tough luck for Joe Avid. He--and everybody else
who reads more of Slate than its average reader--will pay more than a normal
subscription would cost. In customer-service circles, this is known as
"screwing your best customer." That's OK in the sex industry, but not so great
in others, because it tends to alienate the loyal supporters who form the core
of the business. (It is, though, standard practice in the print-magazine
industry, which gives new subscribers a bargain rate and rewards steady renewal
by raising the price.)
The
problem, for Slate and other Internet sites, comes from having to charge for
usage, when what they're selling is intellectual property with a flat
production cost. Slate doesn't get "used up" by being used. It costs virtually
the same amount to produce, no matter how many people use it, and no matter how
heavy the use.
The Random House Unabridged Dictionary is priced at $100
and has 315,000 entries. Of these, I have looked up maybe 20 of them since I
bought a copy a couple of years ago. If I could pay based on usage, Random
House would have to charge me $5 for each word I looked up to bring in the same
revenue. Hardly a micropayment. Five bucks per look up would bankrupt frequent
users--Scrabble players or copy editors, for example.
But I
didn't really pay $100 to "use" 20 entries. It's much more accurate to say that
I paid for the option to use any of the 315,000 entries that I might need.
Similarly, I subscribe to magazines to get an option just in case I want to
read any of the articles. The editors, for their part, arrange to have them all
written just in case I do.
You could argue that Joe Avid is so hooked on
Slate that we can afford to put him over a barrel at the micropayment rate,
even though it means that he will pay a lot more. Similarly, when dictionaries
are all online, Random House could hold up the world's Scrabble players and
copy editors. Unless, that is, there is competition that offers an exotic
billing option known as the subscription or flat-price deal. It won't take a
genius competitor to come up with this plan. Charging a usage-based fee for
content sounds fair--but it is artificial, because your costs are fixed. A
flat-rate competitor would present an attractive proposition to Joe Avid and
anybody else with heavier-than-average usage.
So what
about a hybrid plan--subscriptions for heavy users, and micropayments for the
rest? This is another way to say "drop prices," because heavier-than-average
users will buy a subscription, while lighter-than-average users will choose the
a la carte plan. Dropping prices can sometimes make sense--especially when, as
here, you can drop them for only your least eager customers. (The airlines are
specialists in maximizing revenue and filling seats by charging different
amounts to different people.)
But this raises another question. If lowering the price
gets you more customers, why not lower it all the way to zero and get the
greatest number? That is, why not rely on advertising? Advertising is, in
effect, a funny kind of micropayment system. Advertisers pay on the basis of
how many people see their ad. For most media, this is measured statistically,
via surveys, because statistical estimates are an even cheaper way to record
tiny transactions. They're not exact, but the overestimates and underestimates
average out over time. Besides, if the transactions are really small, who cares
if you miss a few? Ad rates amount to a few cents per customer impression,
which is in the same range as micropayments. And of course the customer ends up
paying, indirectly. But it feels different to users. If imposing micropayments
or other explicit user fees loses you many users, you'll decide to stay free
and collect your micropayments through ads.
Micropayments are great if you use them for a product or service with certain
properties. It must be one where you can get away with usage-based pricing, and
where there is a strong rationale for making it cheap, yet not free. Put
another way--micropayments make sense only when they match the fundamental
economics of the product or service better than other ways of charging.
Products that get used up as they are used naturally have this property. If the
basic economics are usage-based, then the payment can be too. This class does
not include journalism or, indeed, most intellectual property. Yet, this is
where micropayments are most often suggested.
That isn't quite the end of the story. One
situation where micropayments will work is where there are no heavy users or
repeat customers--or where you don't mind screwing your best customers. Films
are a good example. The movie industry always starts a film with a high,
usage-based pricing model--$7.50 or so per ticket. This price is high enough to
discourage many people from seeing the film. That doesn't matter, because after
a run in the theaters, the film will be released to home-video rental and pay
per view, where it costs $3 to $5 and nobody counts how many people are in the
room. There it picks up a few repeat customers, but mostly new ones. The price
is brought lower on premium cable (like HBO), which is a flat-rate cost to the
user, and it eventually hits zero when the movie appears on broadcast
television, where ads support it.
Technically speaking, this is a repeated auction. We're more familiar with what
economists call an English auction--prices start low and rise as people bid.
However, there is also the Dutch auction, where prices start high and go lower
until somebody bites. Movies are sold to the audience via a very slow Dutch
auction, where each phase between price drops can last weeks or months. Book
publishers do the same thing, with two stages--hardcover and paperback.
Movies get away with this because they don't generally have
"heavy users" or repeat customers. Most people see a film once, or at least
don't see it again for many months. Some films inspire hard-core fanatics who
see them repeatedly, but these viewers are so few in number that movie theaters
do not cut them a special deal. The real savior is the repeated Dutch auction,
which lets theaters be cavalier about pricing the movie beyond the reach of a
large set of customers, because they'll get another crack at them later.
Most Internet content does
not have these special properties. Sites need regular repeat visitors. Their
costs, for the most part, are not usage-based. So micropayments will play a
very small role in selling Internet content. Most sites probably will wind up
being free, supported by ads. User fees will also exist, but for any content
conducive to repeat use, they will be based on a flat rate--either a
subscription to a site or a membership that lets you get to a set of sites. A
penny won't buy much, even on the Web.
