An Economic Explanation For Why DRM Cannot Open Up New Business Model Opportunities

from the shrinking,-not-expanding,-the-pie dept

Continuing my increasingly lengthy series of posts on the economics of non-scarce goods, I wanted to take a look at an issue that I mentioned in passing earlier this week concerning the ongoing insistence among the entertainment industry (and the DRM industry) that DRM somehow will open up new business models. I'd like to explain why, economically, that doesn't make sense.

First, to clarify, I should point out that, technically, I mean that it doesn't make sense that DRM could ever open up feasible or successful business models. Anyone can create a new unsuccessful business model. For example, I'm now selling $1 bills for $1,000. It's a new business model (well, perhaps not to the dot coms of the original dot com boom), but it's unlikely to be a successful one (if you disagree, and would like to pay me $1,000 for $1, please use the feedback form above to make arrangements). However, for a new business model to make sense, it needs to provide more value. Providing more value than people can get elsewhere is the reason why a business model succeeds. So, any new business model must be based on adding additional value.

The good news is that value is not a scarce concept. Unfortunately, there are too many in this world who view value and growth as a zero-sum game. They believe that there's some fundamental limit on the possibility of adding value, and therefore, business models are about moving around a limited amount of value, rather than expanding it. It's the same fallacy facing those who have trouble understanding zero and infinity in economics. The economist Paul Romer's discussion on Economic Growth offers a concise explanation for this:
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.
Note that it's the non-scarce products, the recipes and the ideas, that helps expand the value of the limited resources, the ingredients. You expand value by creating new non-scarce goods that make scarce goods more valuable -- and you can keep on doing so, indefinitely. Successful new business models are about creating those non-scarce goods and helping them increase value. Any new business model must be based around increasing the overall pie. It's about recognizing that creating value isn't about shifting around pieces of a limited economic pie -- but making the overall pie bigger.

DRM is fundamentally opposed to this concept. It is not increasing value for the consumer in any way, but about limiting it. It takes the non-scarce goods, the very thing that helps increase value, and constrains them. Those non-scarce goods are what increase the pie and open up new opportunities for those who know where to capture the monetary rewards of that value (within other limited resources). DRM, on the other hand, holds back that value and prevents it from being realized. It shrinks the pie -- and no successful business models come out of providing less value and shrinking the overall pie. Fundamentally, DRM cannot create a successful new business model. It can only contain one.

If you're looking to catch up on the posts in the series, I've listed them out below:

Economics Of Abundance Getting Some Well Deserved Attention
The Importance Of Zero In Destroying The Scarcity Myth Of Economics
The Economics Of Abundance Is Not A Moral Issue
A Lack Of Scarcity Has (Almost) Nothing To Do With Piracy
A Lack Of Scarcity Feeds The Long Tail By Increasing The Pie
Why The Lack Of Scarcity In Economics Is Getting More Important Now
History Repeats Itself: How The RIAA Is Like 17th Century French Button-Makers
Infinity Is Your Friend In Economics
Step One To Embracing A Lack Of Scarcity: Recognize What Market You're Really In
Why I Hope The RIAA Succeeds
Saying You Can't Compete With Free Is Saying You Can't Compete Period
Perhaps It's Not The Entertainment Industry's Business Model That's Outdated

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  1. identicon
    Isaac, 6 Mar 2007 @ 9:27am

    Re: Re: Re: Re: Re: Make people actually *want* to

    So if I can copy an album for free when it comes out, why should I pay for a lottery that gives me as a prize.... the ability to download it for free? I may merely wait for others to pay for it, and then get it for free.

    Exactly! Why do people donate money to Wikipedia? Why do they spend their time writing/editing Wikipedia? Maybe it feels good to do it, to help others, with no strings attached. Maybe it is just because we think that when we like a service/product and we want it to sustain/grow, then it is just considered good manner to donate some money/time if you can. You don't have to go overboard and donate all your money/time. If enough users do this then it can work and then we don't need to do all the extra work to prevent others from using it. Just like when someone asks me to pass the salt, then I'm not going to try to make an agreement first that the other will at some point pass me the potatoes. I'm just going to do it and it is likely that the other will do something in return for me, even though he doesn't have to. It saves us a lot of work if we just cooperate voluntarily.

    Just because it can go wrong, doesn't mean it will. Wikipedia could go wrong, but it hasn't so far. And when it doesn't go wrong it can generate a lot of free-content and demand for paid-content downloads might drop, because there are plenty of free alternatives to enjoy. As the free content gets more attention, and paid-content less attention, that might result in a drop of CD sales and ticket sales for the paid-content artists, against a rise for free-content artists. I would expect this to eat away at the top and feed at the bottom.

    The long tail in the music business would just grow fatter/longer. There are plenty of (unsigned) artists that do not get a lot of publicity who will sign up for this, because for them it will be a better model. The free-content can be used to attract the music fans. Once you've got their attention you can use that to promote other artists and if they like it they might decide to invest as well. It doesn't require the current labels and their artists to adopt this model, but they could adopt it, I don't know if it would turn out better for them. I think that if we consumers were organized we could make them an offer that would be better for the artists and for the consumers. But with that sort of power we could also get an even better deal for ourselves at the cost of the artists. So if the consumers unite and the artists unite, then there would be a balance of power that could result in a fair deal between the two. But the the labels won't get to decide whether the consumers will unite (form a 'Union').

    I don't know what will happen here, with personalized internet radio stations, and personal play lists. Maybe people like to pick everything themselves with a wide variety of choices (internet), but they might just like to be served with limited choices (traditional radio and tv) and content that is more mainstream. People probably like both, so there would be some sort of balance, but I expect the internet to take plenty of attention away from traditional channels.

    So if getting attention becomes more and more difficult and more free-content alternatives become available, it might be better for them to switch to free-content as well. Maybe it is already a better option now. But the problem is that they can't try both options and see which one works best now, can we?

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