How 'Free' Has Even More Value Than People Think It Should

from the and-so-it-goes dept

Earlier this year, we pointed to some of the psychological reasoning for those in the RIAA/MPAA's of the world (and their supporters) for arguing against giving stuff away for free, even when there was evidence that they could make more money doing so. In that case, psychological experiments showed that people don't act rationally when they think something is "unfair." That is, they'll take a worse absolute result, just to make sure that they're relatively better off.

Now there's a new book that just came out that highlights a related irrationality. This one is by behavioral economist Dan Ariely. Someone had told me a year ago to look out for Ariely's book, which I had forgotten about, but now that it's out, it appears to include discussions on some very interesting experiments. If you listen to the audio interview at that link, Ariely discusses an experiment he ran with children at Halloween. He first gave them all three Hershey kisses. Then he held up two Snickers bars -- one tiny one and one large one. He offered to trade them the small one for one kiss and the large one for two kisses. Most kids quickly made the trade for the larger Snickers bar -- which is a perfectly rational move.

He then changed the terms of the experiment. He offered to give kids the small Snickers bar for "free" or the large one for one Hershey kiss. Most kids now took the free small Snickers bar -- even though they are worse off in that case. Having two Hersheys kisses and the big Snickers bar providers more chocolate than three kisses and the small bar -- but the impact of "free" got them even more interested. Ariely ran more similar experiments (economist Tyler Cowen wrote about one recently) and found that again and again people overpay for free.

This is certainly an interesting finding, given all that we talk about the use of free in economics. If anything, this (bizarrely, I'll admit) makes the case even stronger for using free as a part of any business model. It suggests that people value something that's offered for free more than they should. That has enormous implications for the promotional value of "free." If you're using it that way, it actually increases the value relative to other things, despite the myth some people still have that if something is "free" it means it has no value. Anyway, Ariely's book, Predictably Irrational is now available. Ariely has also put up a blog about the book, though there's not much info there just yet.

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A Psychological Explanation For RIAA Short-Sightedness

from the would-rather-lose-money-than-let-someone-else-make-it dept

In all of the discussions we've had over various business models that could help make the entertainment industry even bigger than it is today, while embracing things like file sharing, we're always shocked to have entertainment industry execs and lobbyists come back with some sort of version "but that's not fair." We saw it when we tried to explain why questions about the economics of file sharing really shouldn't be seen as a moral issue, because if the economics works out with everyone being better off, the moral question should fall by the wayside. Yet, we were still told that it was a moral issue and a question of "fairness." This is true even if what we describe would make the industry more money. On an absolute basis, they would be better off. If you can make twice as much money, even if some people are "freeloading" and not paying anything, wouldn't that be a good thing? Yet, time and time again, we're told that "no" it would not be a good thing, because of those freeloaders. Universal Music CEO Doug Morris even admitted flat out that giving up 10 cents today to make a dollar later means that he's being taken advantage of for that 10 cents. These reactions are not rational.

At times it's been frustrating trying to understand why this is. We've often just assumed that it's caused by a general inertia: that is, it's not easy for someone who's had a successful existing business model to accept the idea that the market has changed and the business model needs to change. That requires effort and effort is not as much fun as coasting on inertia. However, reader Bill Corry writes in with another intriguing possibility. He points to a story in the LA Times discussing some recent behavioral economic studies on how people deal with fairness vs. rationality, suggesting that it explains the RIAA's actions. I'd actually seen all of the studies mentioned in the past, but hadn't associated them with the entertainment industry's struggles. The key part:

Consider one more experimental example to prove the point: the ultimatum game. You are given $100 to split between yourself and your game partner. Whatever division of the money you propose, if your partner accepts it, you each get to keep your share. If, however, your partner rejects it, neither of you gets any money.

How much should you offer? Why not suggest a $90-$10 split? If your game partner is a rational, self-interested money-maximizer -- the very embodiment of Homo economicus -- he isn't going to turn down a free 10 bucks, is he? He is. Research shows that proposals that offer much less than a $70-$30 split are usually rejected.

Why? Because they aren't fair. Says who? Says the moral emotion of "reciprocal altruism," which evolved over the Paleolithic eons to demand fairness on the part of our potential exchange partners. "I'll scratch your back if you'll scratch mine" only works if I know you will respond with something approaching parity. The moral sense of fairness is hard-wired into our brains and is an emotion shared by most people and primates tested for it, including people from non-Western cultures and those living close to how our Paleolithic ancestors lived.

So, perhaps the industry is to be forgiven. It's not that they're completely blind to the fact that they're giving up potentially millions of dollars in forgone profits from not embracing new models that also benefit "freeloaders." It's just that we're all hardwired to make bad economic decisions when that happens.

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