Finding That Free Lunch

from the looking-at-economic-growth dept

One of the most common sayings in economics is "there's no such thing as a free lunch." And, it's true: everything you do has some sort of cost in terms of opportunity costs. That was the point of that statement. Unfortunately, however, it appears that some have tried twisting that statement into saying that "free" doesn't work as a part of economics. A few weeks back the Economist (normally good on such subjects) wrote an article that trashed the concept of "free" within a business model, totally misunderstanding how free is a part of a business model, rather than the business model itself. Chris Anderson already did a good job ripping apart the Economist's article, but I wanted to address a different aspect of the whole "free lunch" question.

Too many people, it seems, assume that "there is no free lunch" means that the market is entirely static. That is, they believe it's a zero sum game. If I do x, then y loses out. So, if I am offered free internet service or a free lunch, then whoever provided that is out the same. But that's simply not true. Economics is not a zero sum game, but is built around economic growth -- where the sum of economic activity can be greater than the parts. If I do a transaction with you, and in the end, we're both better off (i.e., we both got more value than we gave up), then the amount of overall value in the world increased. It might not be a "free" lunch (the economic transaction cost me something), but new utility is created above and beyond what was there before.

This is a key point that is often overlooked by those who slam the concept of free and assume that it can't happen or it can't work. They overlook how free is a part of a larger economic transaction that actually does increase overall utility and economic growth. This is the key insight that economist Paul Romer had a few years back in noting that the core way to increase an economic market was to insert what he called "non-rivalrous, non-excludable goods" -- which I've taken to calling "infinite goods." These are "goods" that can be replicated at absolutely no cost, increasing the size of a market and increasing the overall utility in the world. As Romer noted:
Economic growth occurs whenever people take resources and rearrange them in ways that are more valuable. A useful metaphor for production in an economy comes from the kitchen. To create valuable final products, we mix inexpensive ingredients together according to a recipe. The cooking one can do is limited by the supply of ingredients, and most cooking in the economy produces undesirable side effects. If economic growth could be achieved only by doing more and more of the same kind of cooking, we would eventually run out of raw materials and suffer from unacceptable levels of pollution and nuisance. Human history teaches us, however, that economic growth springs from better recipes, not just from more cooking. New recipes generally produce fewer unpleasant side effects and generate more economic value per unit of raw material.

Every generation has perceived the limits to growth that finite resources and undesirable side effects would pose if no new recipes or ideas were discovered. And every generation has underestimated the potential for finding new recipes and ideas. We consistently fail to grasp how many ideas remain to be discovered. The difficulty is the same one we have with compounding. Possibilities do not add up. They multiply.
The trick (and where the trouble comes in) is that it's not always easy to figure out how to capture a piece of that larger market -- especially if your old business model was based on a very different type of scarcity. Yet, those who figure out how to put these models into practice will find that their markets grow bigger and bigger, and while there are tradeoffs, they'll have something about as close to a "free lunch" as you can imagine.

Anyway... we'll be exploring these ideas and more at The Free! Summit next month, so hopefully you'll be able to join us. Speaking of which, if you're interested in presenting a case study about how you're leveraging free, the organizers of the event are holding a competition via Vator.tv where you can enter to present.


Reader Comments (rss)

(Flattened / Threaded)

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    RD, Apr 7th, 2009 @ 11:33am

    But...

    But...but....FREE CANT WORK! WeirdHarold and his industry pals say so! You cant use free! Free doesnt work! Free only devalues everything! Free ruins industries! Free is the devil! Free will bring ruin to all! NO ONE makes money with FREE! It's impossible! Just ask WH!

     

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      Weird Harold, Apr 7th, 2009 @ 11:41am

      Re: But...

      Hey RD, nothing personal, but F-off.

       

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      Ronald J Riley (profile), Apr 8th, 2009 @ 5:00am

      Re: But...

      "by Michael Masnick from the looking-at-economic-growth dept on Tuesday, April 7th, 2009 @ 11:28AM

      One of the most common sayings in economics is "there's no such thing as a free lunch." And, it's true: everything you do has some sort of cost in terms of opportunity costs."

      Now there is nothing wrong with giving something away as a loss leader to get other business as long as the property belongs to the party.

      There is a great deal wrong with stealing others property and using it as many people on this forum seem to promote.

      We have big transnational companies taking American inventors work for FREE all the time, and shipping the benefits of those inventions to developing countries. This costs Americans jobs and prosperity.

      We also have all the rift raft in the free software industry appropriating others inventions in order to sell their books and consulting services.

      We have banking and insurance industries who have fleeced every American by conniving for really large FREE lunches. Far too often FREE is really some form of theft.

      We have seen the effects of unethical people looking for a FREE ride in the banking and insurance industries, but the same types of people are in other industries. Big and little tech have their share FREE shysters.

      Ronald J. Riley,


      Speaking only on my own behalf.
      Affiliations:
      President - www.PIAUSA.org - RJR at PIAUSA.org
      Executive Director - www.InventorEd.org - RJR at InvEd.org
      Senior Fellow - www.PatentPolicy.org
      President - Alliance for American Innovation
      Caretaker of Intellectual Property Creators on behalf of deceased founder Paul Heckel
      Washington, DC
      Direct (810) 597-0194 / (202) 318-1595 - 9 am to 8 pm EST.

       

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      nasch, Apr 8th, 2009 @ 3:42pm

      Re: But...

      Important distinction: "free" is OK. It's "FREE!" that is untenable, immoral, unethical, illegal, and mean. For the difference between those two, you'll have to ask WH, because I don't understand it myself. (It is WH who came up with that, right?)

       

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    Ghaz, Apr 7th, 2009 @ 11:50am

    It is actually "There Ain't No Such Thing As A Free Lunch"

    http://en.wikipedia.org/wiki/TANSTAAFL

    Love the Blog btw - read it daily.

     

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    TheStuipdOne, Apr 7th, 2009 @ 12:11pm

    All depends on what you call free

    I've gotten free samples, but I had to expend energy and time to use them

    I've downloaded free songs and software, but I had to expend time and bandwidth and space on my computer to do so

    I've eaten free lunches but had to sit through a meeting before and after

    There is always a reason behind free. Sometimes it is simply that the person or group giving out free stuff just wants to feel good about themselves. Sometimes they believe it will ease their way into heaven, or advertise for their product or service, or get you addicted. There are loads of reasons things can be free and none of them are simply to let someone else take something away from you. The closest thing I know of to truly just giving something away for free is open source software. But then the real motivation is that the people behind it just want the utility of the program for themselves and feel that it will be even better if others use it and contribute feedback.

     

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    ChurchHatesTucker (profile), Apr 7th, 2009 @ 12:26pm

    City on the Edge of Forever

    Edith Keeler takes to the stage, and one of the bums says to Kirk something like, "Here's where we pay for supper." (There were real-life versions of this.)

    Weirdly, it's giving away a scarce good (food) to give away an infinite good (Keeler's message.)

    Mike, there's a post in that, somewhere.

     

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    Osno, Apr 7th, 2009 @ 12:48pm

    I love it how everyone thinks that the only possible business in the internet is advertising. There is no such thing as selling scarcities, building community, positioning yourself as an expert for consulting jobs, selling services, applying knowledge to corporations, etc. And since most of us are naturally banner blind (or use ad blockers when we don't have the skill) and the ad model is failing, the internets must obviously fail.

     

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    R. Miles, Apr 7th, 2009 @ 12:48pm

    Definitions at fault.

    I despise the word "free" and try not using it whenever I can. I prefer $0.00, as this seems to have a different effect when discussing business models.

    "If you give your stuff away for free" - is often instantly interrupted with "I can't do that! I'll go out of business!"

    But stating as "If you sell your goods at $0.00, you can now focus on 'X'" seems to garner a different reaction, as though the person whom your conversing gets it in their head "Ah, yes, now I must support $0.00 with the cost of 'X'".

    Maybe this will help with future Techdirt articles?

    The other notion with "free" *ahem* $0.00 comes down to fear of losing streams of revenues. I guess a fear of the unknown is what prevents innovative ideas.

    Weird Harold did *gasp* say something with some truth: those with money can afford to try something new, but those without will tend to wait for the results.

    In this era of digital distribution and $0.00 content, this could spell disaster for those idling sitting by.

    But is it really fair to place such a burden on these businesses without the capital? As a consumer, it's a thought that often runs through my head while I'm downloading their $0.00 content.

    Add into the mix companies who are being bailed out who refuse to innovate, and small business really can't take the chance, especially if they're relying on the bailed out company.

    I do expect to see major changes in businesses in the years to come, but first, we're all going to have to endure the final death throes of businesses refusing to adapt. This is not only going to be costly in terms of dealing with changes in current business models, but also idiotic ideas such as a three strikes rule, music tax on ISPs, and other such crap.

    Telling people to change with no definitive revenue intake is much more difficult than asking them to try, taking a risk on revenue intake.

    Those who will listen will survive into the next decade.

    The rest will continue asking for handouts, forcing us to pay for it all.

    I hope the summit goes well (needs a name change, btw), but I've a feeling not much will come from it at this time.

    Did anyone invite any entertainment/news executives to this summit? It'll be interesting to see their take on the information presented.

    If not to spin the information into more propaganda relating to lost sales due to "$0.00" content people are freely finding for themselves.

     

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    mkay, Apr 7th, 2009 @ 12:51pm

    free everywhere

    How come these critics of "free" as part of a business model, not understand that they see it every day with everything they do?

    Let's look at an office. The water cooler is "free" for the employees yet the company is paying for the water. Yet, if it wasn't for the water, then many of the employees would be thirsty more often, be tired for majority of the work day and would perform below average at completing their tasks. So basically, the water helps productivity yet it is "free."

    Then if you look at retail, those bags your clothes/groceries come in are "free" but if the quickie mart took them away, would you go grocery shopping there anymore? of course not.

    you go to mc donalds, u can use as much ketchup as u want because it's "free". would you want to eat somewhere that charged you for condiments, napkins and straws?

    The thing is, my examples are so common that no one stops to think about it.

    I guess the only rebuttal is "you pay for it in the price of the products you buy" sure, that makes sense but when you are presented with what appears to be "unlimited" extras, that extra 3 cents is worth it.

     

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      Ronald J Riley (profile), Apr 8th, 2009 @ 5:12am

      Re: free everywhere

      "Let's look at an office. The water cooler is "free" for the employees yet the company is paying for the water. Yet, if it wasn't for the water, then many of the employees would be thirsty more often, be tired for majority of the work day and would perform below average at completing their tasks. So basically, the water helps productivity yet it is "free."

      The water is not free. It is overhead which is recouped plus a profit in whatever the business sells.

      Ronald J. Riley,


      Speaking only on my own behalf.
      Affiliations:
      President - www.PIAUSA.org - RJR at PIAUSA.org
      Executive Director - www.InventorEd.org - RJR at InvEd.org
      Senior Fellow - www.PatentPolicy.org
      President - Alliance for American Innovation
      Caretaker of Intellectual Property Creators on behalf of deceased founder Paul Heckel
      Washington, DC
      Direct (810) 597-0194 / (202) 318-1595 - 9 am to 8 pm EST.

       

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    Weird Harold, Apr 7th, 2009 @ 2:47pm

    Well, here we go again.

    First off, the Economist article should be a wake up call for those feasting on "FREE!" stuff. They hit on pretty much my opinion of the whole deal: "FREE!" brings tons of users, but it doesn't actually bring revenue. Worse yet, sites like facebook try really hard to bring in revenue, but it appears to be doubtful they will ever get close to break even, let alone profitable.

    Chris Anderson on the other hand does a pretty good job of deflecting the discussion by talking not about the sinking ship, but about deck chairs and tomorrow's shuffleboard game:

    "where is your evidence that online advertising is a failing model?"

    There is no evidence that online advertising is a failing model. The point is that "FREE!" sites that are popular with the masses are too popular compared to the value of their advertising potential. These sorts of services operate on the kindness of VCs, not on any functional business model.

    The users are enjoying a free lunch. In fact, they are enjoying a never ending buffet of free. They look like the insanely fat guy in Monty Python's the Meaning of Life. They have had so much free that one more little wafer and they are going to blow up.

    Yet few of them spend, few of them look at the ads, fewer click them. Many of the users here have ad blockers and filters in place, rending it impossible to offer them anything through advertising. If the potential client isn't seeing the advertising, they are all but worthless.

    Chris also goes on to miss another point:

    your scorn blinds you to the fact that this crazy idea of giving away content for free and supporting it by advertising is nearly a hundred years old

    He is correct in the statement, except that website / online advertising isn't done in the same manner. Radio and TV do inline advertising, that is to say that you cannot see or hear the content without at some point being exposed to the ads. Watch a 30 minute TV show, and you are exposed to 12 - 15 ads in that time. Download the show online, and you are exposed to none (especially if you filtered off the banners and such on the torrent site you are using).

    Smart companies like CNN are using the free model to make money. Go watch a CNN new clip, and the first thing you have to watch is an ad, locked in. After 2 or 3 clips, you get another locked in ad. They are doing the 100 year old model, and guess what? It appears to work.

    I think that Chris Anderson, like Mike, gets more than a little defensive when their beloved concepts are held up to the critical light. Just like twitter and whatnot, they are riding a populist concept ("FREE!") which has empowered the masses to think they can take, borrow, or duplicate anything they can with impunity, and that websites will offer incredible services with absolutely no cost.

    The big shift since the crisis has been the rise of “freemium” (free+premium) models, where products and services are offered in free basic and paid premium versions

    This is back to the free music expensive autographed CD model. It's functional for a while, provided that there are enough people willing to cough up for the premium product. But if your "FREE!" product is mostly what they are after, you won't get enough people paying to get the premium. Plus, your premium (especially in redcurrant transactions such as monthly / yearly access) has to be a good enough value to merit the spending of that money again, it has to be significantly over what is "FREE!".

     

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      ChurchHatesTucker (profile), Apr 7th, 2009 @ 4:48pm

      Re:

      "FREE!" brings tons of users, but it doesn't actually bring revenue.

      So my local free paper isn't making money? Someone ought to tell them.

       

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        Weird Harold, Apr 7th, 2009 @ 7:37pm

        Re: Re:

        Your free local paper has learned something that most "FREE!" online sites don't learn: Don't expand past your advertising base.

        The number of pages in your local newspaper is entirely based on revenue. If they have more revenue, over time they add pages. If they have less revenue, they cut back. It's a pretty basic business concept. They also have the second basic concept that you never get content without ads - so you don't get 5 pages with no ads and then 5 pages of nothing but ads. They also have a target market, and are likely the best way for local business to contact local people, who spend most of their money locally.

        On the net, well, so many basic principals are ignored. The mistake of eyeball aggregation sites is assuming all they need is the eyeballs. There seems to be little concern about which eyeballs, when, how, whatever. Their answer is "We have lots!", but many of the wrong eyeballs has little or no value. The models are supposedly ad supported, and yet they do a terrible job of giving the advertisers the type of exposure they really want.

        too many of the wrong eyeballs is expensive, and not what advertisers are looking for.

         

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      PaulT (profile), Apr 8th, 2009 @ 12:55am

      Re:

      Great, so you've decided that sites that rely solely on advertising may not be hugely successful in the long term (even though some sites and industries do achieve that). What about all the other "free" models that don't depend on revenue from 3rd party advertisers? Oh, you dismiss those out of hand too... convenient.

      "But if your "FREE!" product is mostly what they are after, you won't get enough people paying to get the premium"

      Indeed. That's why it's up to you to make sure the value is in the non-free item, or at least make that product as attractive as the free product.

      That's where the music industry keeps getting pointed out as a failure when it comes to this argument. There are hundreds of different things that the industry could do to make money, but they spent too much time trying to get people to pay for the product that's perceived as less valuable (a restricted digital copy of the recording). There's plenty of other things to leverage to make a profit if they would just stop fighting the inevitability that if someone wants to get that copy for free, then they will. Right or wrong, that won't work.

      That doesn't mean that no such product is valuable. I'd guess that there would be few people willing to pay directly to listen to a standard FM radio or watch currently free-to-air TV, that doesn't make them non-viable businesses.

      "Yet few of them spend, few of them look at the ads, fewer click them. Many of the users here have ad blockers and filters in place, rending it impossible to offer them anything through advertising. If the potential client isn't seeing the advertising, they are all but worthless."

      "Radio and TV do inline advertising, that is to say that you cannot see or hear the content without at some point being exposed to the ads. Watch a 30 minute TV show, and you are exposed to 12 - 15 ads in that time."

      You should realise, of course, that you're contradicting yourself slightly here.

      Very few people actually go out and buy the products based purely on seeing a TV ad or listening to a radio ad. There's enough to make it worthwhile, but most people "switch off" during the majority of ads. The trick is to get the ads in front of as many people as possible. The same as online, actually - most people take no notice of what's being sold.

      However, people do skip the ads on TV and radio. They ignore them, they go out of the room or switch channels while the ads are on, they record the show and fast forward over them. They wait for the DVD and rent or buy a season, ad free. This is no different to what happens online, it's just not as easy as installing AdBlock. Then again, the people who block ads are usually the least likely ones to be clicking on them in the first place, so has anyone really lost anything when they do so?

      "Just like twitter and whatnot, they are riding a populist concept ("FREE!") which has empowered the masses to think they can take, borrow, or duplicate anything they can with impunity, and that websites will offer incredible services with absolutely no cost."

      I have absolutely no doubt that very few people would actually use Twitter and the like if they incurred a monthly charge. The value in those services is in the community, and an upfront monthly charge for a service without such a community would be a deterrent to anyone using it in the first place.

      I find it interesting that you attack Twitter in this comment, actually. Nobody's "borrowing" or "taking" anything. Twitter provide a service, but it's the users' own input that makes the service worth using in the first place. I wonder how you think this service would work if nobody was "duplicating" content - isn't that the point? To duplicate a message to everyone following you?

       

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    Weird Harold, Apr 7th, 2009 @ 3:43pm

    Unrelated, but I do have to touch on this.

    I went to the "FREE! summit" site as linked above, and I have to say that I got a bit of a chuckle.

    Key note? Chris Anderson. Host? Mike. Sponsors? Wired, Floor64, techdirt, vator.tv, ooma.

    Can you say "bootstrap"?

     

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    TPBer, Apr 7th, 2009 @ 3:44pm

    "or duplicate anything they can with impunity"

    10 terabytes and counting, duplication is the key word, we can duplicate anything we want. Might as well try to stop a comet.

     

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    cram, Apr 7th, 2009 @ 7:07pm

    "So my local free paper isn't making money? Someone ought to tell them."

    It's making money, but not from users. Free can bring in tons of users, but unless someone pays - in this case the advertisers - you can't keep giving the paper for free.

    Now how does that translate online? Users won't pay for what they think ought to be free and will also try and block the ads, and advertisers who know this are less and less keen on spending top dollar. Where does that leave the content creator?

     

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    Daniel S, Apr 7th, 2009 @ 8:27pm

    techdirt and ``free``

    Just discovered this blog and I must be starving for theold days doing my econ degree becasue I am loving this debate. I thought the article was thought provoking, but the comments are even better. Really a pleasure the quality of the posters on this forum. Everyone has really good insight into the debate. really entertaining!

     

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    Monarch, Apr 7th, 2009 @ 8:55pm

    Here's a good example..,

    When I plan a trip. Say to Vegas. I'm looking for the best deal for a hotel to stay at. One of my main concerns is internet access. I want Free internet access or very, VERY inexpensive internet access with my room. I'm actually willing to stay at the Best Western, rather than say the Luxor, just because of internet access being free. And, the rooms are very comparable.

    In fact, I chose to stay at the new "M" resort last month. Free internet and excellent rooms, hotel, and casino. However, it is 5 miles off the strip on the far end of Henderson. Barely used the internet connection, but when I wanted to use it, it didn't cost me an additional $10 for a day. However, the cab fare did cost an additional $10, if I missed the shuttle back to the "M".

    So, because most of the Hotels and Casinos in Vegas charge exorbitant fees for internet access, some people as myself, will shop around until we find "Free Internet" access. So, because some hotels, offer the internet for Free as part of their business model, they are the only ones legitimately competing for MY business.

     

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    db0, Apr 8th, 2009 @ 4:12am

    Wat?

    If I do a transaction with you, and in the end, we're both better off (i.e., we both got more value than we gave up), then the amount of overall value in the world increased. It might not be a "free" lunch (the economic transaction cost me something), but new utility is created above and beyond what was there before.
    That's preposterous. There is no new utility created in this transaction. The same utility that was there remained exactly as it was. The only thing that can create more utility is human labour or natural processes. Sure, subjective value might have increased for each person but subjective value is not a measure of wealth or world value. I can subjectively value the rock outside my house at $5 trillion, but the cumulative value of the world has not gone up by $5 trillion.

     

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    Petréa Mitchell, Apr 8th, 2009 @ 11:38am

    To be fair...

    The Economist did print Anderson's letter (scroll down to "Subscribing to freemium").

     

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    pwb, Apr 8th, 2009 @ 3:26pm

    If the marginal cost of delivering something is zero, the cost to the consumer will trend toward zero. Someone will always come along and do the same thing, charge less and look elsewhere for revenue. You can't charge for something that costs nothing!

     

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    Suzanne Lainson (profile), Apr 10th, 2009 @ 8:00am

    Free, music, and sex

    WH explores some problems of free, but I always come back to the idea that there are tons of people who make music because they enjoy it, not because they hope to make money.

    Now that the internet allows them to distribute it for free, there is a glut of free music. That's what has driven down the cost of music. There are people competing for you attention and they will give away their music in hopes you will listen to it. They have no business model. They won't stop giving it away for free even if there is no business model because they aren't trying to make a living from it in the first place. Having an audience is compensation enough.

    That got me thinking about sex. You can always find someone who will have sex with you. A few people charge for it, and in most cases people expect some sort of trade off before engaging in sex (they don't want to have sex with just anyone, so they look for partners who are good looking, rich, etc.), but bottom line is that sex is free.

    Think of music creation as something people want to do, rather than something people take up as a source of income.

     

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    identicon
    newest jordan shoes, Nov 8th, 2010 @ 11:33pm

    newest jordan shoes

    Hey dear your blog is very much rocking and stunning. This blog has main attraction and high quality features.

     

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