We’re having a good old back and forth slagging off each other’s music tastes and calling each other fascists in the comments section at John Holbo’s site. As you can see, the issue of “whither the music industry in a world of reduced intellectual property” is bound to bring out a lot of interesting opinions; I think this is because a) we don’t know what the heck will happen b) we’d all like to believe that the answer will involve us all owning loads and loads of fantastic music for next to no cost but c) we all suspect that it probably won’t. As you can see if you follow the link, my role in the debate appears to be partly to snipe about obscure, irrelevant and probably wrongly remembered points of price theory and partly to act as the de facto defender of the music industry as she currently stands. I’m not sure that this reflects my genuine views, but in all similar discussions, I have historically ended up in it because of a number of points on which I think people are badly misunderstanding the economics of the music industry. I don’t want to start on a five thousand word thesis which will never be finished on this, so I’ll try to list my points of disagreement one by one in a series of posts. Starting with the easiest point and the one on which I’m most sure of my ground; micropayments are not going to happen any time soon.
It’s an attractive middle ground for a certain kind of reformist position on the Imagined Future Music Industry; one in which the removal of copyright (or its substantial undermining) doesn’t lead to us having to imagine a world in which music recordings are free, but one in which they are just very cheap indeed; say, anywhere from a few cents a song to a dollar an album. Making this sort of assumption allows you to do calculations of the sort “say 100,000 albums at a dollar a pop, figure 50 cents production cost and the musician earns a decent wage assuming that there are no packaging, promotion, legal and other suit-related costs” and come up with a “cottage industry” model of the music world which is often pretty palatable to people who like the kind of bands you hear on college radio – local heroes who might sell 100,000 albums at a pinch and are young enough to be happy with the idea of living the musicianly lifestyle on a low but survivable income.
But it’s just not possible. The fundamental error is in assuming that “cheap” and “free” are close cousins when they’re not; they’re fundamentally different ways of organising your microeconomy. The difference being that once you’ve decided that you aren’t going to operate on the basis of freely provided goods with an abundance of everything for all, you need to have an entire supporting infrastructure of institutions designed to make sure that everyone pays for what they’re taking. And that’s actually surprisingly expensive (I seem to remember that someone wrote an article in the Guardian in the 1980s which argued pretty plausibly that if we knew that everyone in the country was completely honest, roughly half of the workforce would have no jobs to do. Not just policemen but checkout operators, bus conductors, accountants, etc, etc.
You can’t ignore these costs; they’re important. And this is a problem if you’re thinking about a “micropayments” system for transactions of twenty cents to a dollar; the costs of providing a secure payments network have the unfortunate characteristics of rising pretty much in line with the number of transactions (not too many economies of scale) but being pretty fixed with respect to the size of each individual transaction (so they are a much higher proportion of the total cost of making a micropayment). There seems to be a systematic tendency for people to underestimate these costs.
Here’s a pretty representative price sheet for dematerialised credit card transactions. If we ignore fixed costs (setup costs and monthly flat rate services like billing), which is a reasonable assumption as we would hope to be amortising them over a very large number of micropayments indeed, we only need to take into account the “transaction fee” of $0.20-0.50. This is, to quote, “the costs of the datacenter, network usage, etc”. Let’s assume that there is an element of monopoly rents in here (the big card networks are in general very cagey indeed about the true costs, but it’s such a small oligopoly that the pro tanto assumption has to be that there are substantial rents) and that the true average cost of providing network and data storage costs is 10 cents. But on the other hand, we have to take into account that this is not marginal cost pricing; it’s an “average marginal” cost set by the providers to ensure that data transmission costs are covered on the whole. It’s highly likely that within the system, customers who send a small number of high value payments subsidise customers who send a large number of low-value ones. My guess is that the true marginal cost of a micropayment might be $0.20. So immediately, we see that “a penny a song” is simply impossible. It costs more than that to send the payment message.
Why so much? Email costs fractions of a cent to send, after all. But (see above) email’s free. Free things are much cheaper to administer than things where you have to keep accurate and exact records of who paid what to whom. In principle, the guys behind various Digicash operations reckoned that they’d solved this with “blind signature systems” (basically complicated protocols not unrelated to public key cryptography, for generating special numbers that would be difficult to forge), but they all tended to founder on the fact that when you tried to take the money out of the Digicash economy and turn it into a real bank deposit, all the book-keeping overhead that you thought you’d dodged ended up catching up on you. And even without book-keeping overhead, any payments network has to be many times more secure than ordinary email. I am willing to be convinced otherwise (though be warned, some big names in the business have tried and failed in the past) but it is my current opinion that it is not technologically possible at present to run a payments network materially more cheaply than the credit card companies, without compromising on security.
And the irritating thing is that just because you’re making micropayments, doesn’t mean you can reduce security. As an important plot point of the film Superman 3 illustrated, if I can reliably steal a penny from you in the certainty of not being caught, and if I can automate the process of doing so, then I can steal arbitrarily large amounts of money a penny at a time.
It gets worse. There’s also the ad valorem charges of the card processing networks. These are levied to defray the cost of sorting out fraudulent or mishandled payments (sort of an insurance premium). They’re usually only 2-3% of the transaction, but it’s likely that they would be much higher percentages for micropayments. That’s because the cost of sorting out a mispayment comes in two parts: checking that it was in fact a mispayment, and making the customer whole. The second of these obviously depends on the size of the disputed transaction, but the first is a fixed cost. I don’t think it makes sense to assume that nobody will care about mispayments of small amounts (if they do, they’re making themselves vulnerable to the kind of fraudster discussed above), so we could be talking about much higher percentages.
Bottom line; I’d be surprised if you can send a secure payment over the web at a cost of less than 30 cents, all in, even with the best will in the world and no profits. I’d be interested in any examples of someone offering the service for less, but would tend to suspect that they’re subsidising it from some other source of funds. Which means that the smallest “micropayment” worth bothering with would be about $2. That’s not really all that micro anymore.
Stay tuned for this occasional series; I think my next target will be a few assumptions about what it is that record companies actually do for their money.