Economics

Charging Extra For 3D Is A Mistake

August 11, 2010 in Business, Economics, Essays

We all know that the music and movie industries have been crippled by the digital revolution of the last 10 years. Some blame piracy and filesharing, others (including me) blame the economics. Regardless of the cause, we can all still agree that these are two giant industries brought to their knees by the internet… right?

Wrong, actually! The recorded music industry has been decimated in the last five years, there’s no doubt about that, but the film industry has actually been booming. Despite all their complaining about piracy (you wouldn’t rob a car, would you?) the industry has been growing remarkably. Take a look at these figures published by the UK Film Council (found via TechDirt):

The core UK film industry has grown 50% over the last 10 years
UK box office takings at record levels, with growth of over 60% over 10 years
They have had a 500% return on their investments in film
More films are being released, up over 30% in the last decade
Independent films are performing quite well, taking in nearly half the revenue of major studio films

So why has the recorded music industry been decimated while the movie industry is thriving? The answer lies in the economics at work – specifically the economics of scarcity and abundance.

The internet has transformed the distribution of film and music. They were once both limited in supply (there’s only so many plastic discs in the world) but they are now in infinite supply online. One copy of a song or a film can be replicated (copied and pasted) a million times over at practically no cost. When supply becomes abundant like this, price will plummet towards zero.

This has happened across both industries. Independent musicians find it very hard to command any price for an MP3, so too do YouTube with their videos. Larger monopolies (Record labels and Film Studios) are struggling to maintain high prices on mainstream products, but the market is finding ways of bringing the price to it’s natural equilibrium (think Napster, Limwire et al).

So both of these industries have had core products – relatively scarce CDs and DVDs – transformed into infinite, digital goods. The important difference between the two has come from what they’ve done with the remaining scarce products in their arsenal.

If you’ve noticed me using the term “recorded music” instead of just “music industry” it’s for a reason. The music industry as a whole has been booming too, boosted mostly by live performances. Tickets to see your favorite musician live in concert are limited and scarce – so they can still command a price. The experience isn’t something easily replicated and it’s not something you can download on a filesharing network. Better still, the abundance of freely available music online has created more fans listening to more music made by more musicians than ever before, which in turn is creating more demand for live concerts.

I know this seems hard to believe, given all the sky-is-falling talk we hear from the industry – but even the PRS in the UK recently reported (PDF) that 2009 saw a 4.7% rise in the industry’s total revenue.

As for the movie industry, I don’t have any supporting data, but my guess is that this is the same effect we’re seeing in their record numbers. The internet is enabling more film makers to make more movies to be watched by more fans than ever before. The cinema is still providing a scarce, difficult-to-replicate service (big screen & popcorn and all that), and so it’s reaping the rewards of a population more “into” movies than ever before.

And It’s Egg Shaped

So maybe the future is bright for these two industries that seemed doomed since the advent of file sharing? Don’t bet on it!

The music industry, instead of recognizing the value of a scarce concert ticket and nurturing it as a growth industry, are crippling it. They’re treating it as a replacement for CD sales and hiking ticket prices to plug the gap in the numbers. This, it seems, is starting to have pretty disasterous effects. I won’t go into it in much detail, but there are plenty of reports this summer of hundreds of cancelled shows, of a dismal Live Nation investor presentation, and the Ticketmaster CEO blaming piracy for driving up ticket prices.

The movie industry are also faced with the same opportunity. With home theatres becoming more and more affordable, they risk loosing out on a major source of income as the theater experience becomes easily replicated at home. This is why so many people view innovations like 3D and IMAX as important parts of the future of the movie industry – because they help enhance the cinema’s attraction and stop the experience drifting into abundance.

So what are they doing to make sure 3D is as appealing as possible to keep people coming back to the theaters? Jacking up the prices on the tickets AND charging for the glasses, of course!

Eejits.

(P.S. I love terrible puns, so I really wanted to end the post by saying “If only 3D glasses helped stop such short-sitedness”)

My Two Wallets

March 30, 2010 in Economics, Essays, Marketing

In my professional life I often spend time thinking about how much people value a product or service in an effort to estimate the prices they might be willing to pay. One of the biggest mistakes I always make in these evaluations is that I put too much emphasis on money.

Lately I’ve been seeing other people make this same mistake all the time (much easier to spot the mistakes of others!) so I thought I might share this little analogy I use to help myself think about the problem.

I picture myself, a consumer, as having two wallets. One in my right pocket and one in my left. These wallets represent how I think about payments, rewards, prices and cost.

My Right Wallet

My right wallet is the money wallet. This is the fairly standard stuff. I’ll agree to work a job because it pays €x per hour. I’ll buy product A over product B because it’s €2 cheaper. I’ll buy this item because I think it’s worth the price.

When we think about consumer behaviour this wallet is easy to understand and easy to address:

“How do we get more people to buy our product?” – “Let’s reduce the price”

“How can we get him to work more hours?” – “Let’s increase his bonus”

My Left Wallet

The left wallet deals with all the rewards, incentives and prices that are non-monetary. Although most people understand it, it is often overlooked. Even when it is considered, it’s importance is usually underestimated.

Payments-Out

Thinking about payments made from the left wallet can often help us understanding seemingly irrational behaviour.

Why have there been 10 billion song purchases on iTunes when they’re all available for free elsewhere online? Because ‘free’ is only the price for my right wallet, my left wallet is paying time to find them, guilt for not supporting the artist and fear of doing something illegal.

If I have money in my right wallet but no time in my left (i.e. I’m a working professional) I’ll get my music from iTunes. If I have no money in my right wallet but loads of spare time in my left (i.e. I’m a student) I’ll get it from Napster.

Payments-In

A similar divide exists when you’re paying people to perform an activity.

I saw Matt Mullenweg, founder of WordPress, speak at the recent Dublin Web Summit and describe how his open source project is built and maintained by a legion of unpaid developers. He was asked how he manages to “pull this off” by an audience member, with the implication that this was exploitation.

On on the surface it seemed like a valid point. Who are these idiot developers and why are they working for nothing? But after one look at the platform they’ve managed to build, it’s clear that these unpaid developers are no idiots. The answer becomes obvious when we apply the two-walleted analogy – they are getting paid, just not into the most obvious wallet.

I’ve never been a developer on a project like this, so I can’t claim to know exactly what reward they feel, but the internet is full of Open Source projects created and maintained by tribes of workers – none of whom get paid money, but all of whom get some form of reward. The “payment” to the left wallet comes in many guises: happiness, accomplishment, social status, achievement, inclusion, belonging, recognition, reputation, pride.

There are many things we do in life just for the sake of our left wallets – friendship, community building, sport – so it shouldn’t be a big surprise that people will work for these rewards too.

Left vs. Right

The interesting part of the analogy comes when we stop thinking about each wallet in isolation and start to look at how they work together. Specifically, when we look at the exchange rate between the two. I’ll explain what I mean by this with two real-world, offline examples:

The Day Care Dilemma

The first example comes from a study done at day care centres in Israel, recording the time of day at which parents collected their children. At the beginning of the experiment most children were collected on time, but naturally some parents were late on occasion. For the most part, parents made their best effort to be on time each day and few were ever more than 30 minutes late. There was a social cost associated with being late: feeling guilty, imagining that their children might get punished or just feeling embarrassed for being considered a bad parent. These costs were paid for from the left wallet.

A few weeks into the study, some centres began to fine the parents for being late – roughly €5 for every 10 minutes. Thinking about the effect this fine would have on the parents’ behaviour, most people would expect them to try avoid the fine. Therefore, one would expect the number of late collections might decrease. The complete opposite happened. Late collections rose, but not just by a small amount – parents facing the fine were almost twice as likely to arrive late as those who faced no punishment.

This is because parents don’t combine the payments from each wallet, they substitute them. Once they started paying in cash they no longer felt that they were paying in guilt or embarrassment. And the exchange rate was fantastic! When they make the mental conversion, €5 is a much lower price to pay than feeling like a bad parent.

The “punishment” implemented by the day care centres turned out to be nothing more than a discount.

Thanks at Blood Banks

A similar effect can be found with payments into the left wallet, as opposed to costs out. A great example of this come from studies on the economics of blood donations. The data shows that when blood banks switch from asking for voluntary donations and start paying donors, the total level of donations fall.

This again is because of the mental substitution of the left wallet for the right. In a voluntary system, the blood donor’s reward is a sense of civic duty, of moral good and of helping someone in need. In the cash-for-blood system, the cash payment replaces the social payment, and the exchange rate kills the service – no reasonable amount of money can equate to the feeling that you might save another person’s life.

Applications to Business

The applications to business, especially online business, can be hugely important – the blood donation principle in particular. When people suggest paying Wikipedia contributors for writing good articles we can now immediately see why that wouldn’t work – the monetary reward necessary to substitute for the social reward would just be too big for Wikipedia to afford. The same goes for the question posed to Matt Mullenweg about paying his WordPress developers. The answer is now obvious: they are being paid…. into their left wallet, and the exchange rate to switch to the right wallet is just too big.

This is why sites like Mahalo – that pay users low amounts of dollars for contributions – probably won’t work. This is why sites like foursquare and Digg– which pay users with social rewards like status, reputation and gaming achievements – will.

While we’re on the topic, the Irish blood Transfusion Service seem to understand these principles quite well – they offer different “rewards” for different levels of commitment, all of which are paid to the donor’s left wallet. For example, after 10 blood donations you get a pin and after 50 they take you out to dinner! Looking at their ads (below), they tackle both sides of the coin. One set attempt to increase the social reward (gratitude) and the other to reduce the left-wallet cost (fear, time).

Nothing New

Of course, none of this theory is anything new. Behavioural Economics has been around for quite some time (Dan Ariely and James Heyman, for example, illustrated the difference between “Monetary and Social” payments in their 1992 paper “Effort for payment: A Tale of Two Markets”). The study has become quite popular in the last few years, with much of this post inspired by recent books like Predictably Irrational and Behavioural Investing.

The “new” bit that I hope to bring to the table is the Two Wallets metaphor. I’ve understood behavioural economics for quite some time, but I consistently neglected it when planning business decisions and thinking about consumer behaviour. So now I always imagine people as having two wallets from which they pay me, and two wallets into which I can pay them. This helps keep the behavioural science at the top of my mind, without having to remember all the science!

The Tragedy Of Haiti and Crippling Debt

February 9, 2010 in Economics, Essays

To quote Dan Bordeaux in a letter to the Washington Times:

The ultimate tragedy in Haiti isn’t the earthquake; it’s that country’s lack of economic freedom. The earthquake simply but catastrophically revealed the inhuman consequences of this fact.

Since the disaster many people have been urging world governments to “drop the debt” that Haiti owes. Indeed many governments already have.

The real tragedy is that if half the effort we’re devoting to the rescue and salvation operations were applied to preventative measures, many more lives could have been saved.

Haiti has, for a long time, been enslaved by debt. As was noted by many before the quake, “Debt costs lives,” and few places in the world was this more evident than Haiti.

At it’s peak Haiti owed $1.8 billion, almost all of which was borrowed and squandered by past dictators. In the first half of this decade they spent more money each year repaying the debt than they did on healthcare, education or agriculture.

Last May an article from The Times – “Haiti: the land where children eat mud” – has one particularly disturbing insight into the effects of crippling debt and poverty on a society:

“Parents in Carrefour Feuilles are happy when their son joins a gang,” one Haitian woman, who runs an anti-violence project, tells me. “They are also happy when their daughters become child prostitutes. It means the family can afford to eat.”

And yet some will argue that Haiti needed better government, stricter planning rules or more access to information so that it could have prevented the huge loss of life in January, but as anti-dismal points out:

You may argue that stricter building codes are a major reason why the 1989 Bay Area quake killed far fewer people than did this week’s Haiti quake. But stricter building codes increase the cost of building and if you are poor and cannot afford expensive buildings you build cheap, less safe, ones. So you can have all the building codes you like, but people have to be wealthy enough to be able to afford to obey them, for them to work. Also buildings will get safer, even without building codes, as people get wealthier. The more wealth you have the more you have to protect and thus the more you are willing and able to spend on protecting it.

That Haiti gave almost $1oom to rich countries last year instead of investing it in infrastructure is a tragedy, but worse again still is that many other developing countries around the world are being forced to pay off such odious debts. This will ultimately leave them in the same state as Haiti was when the earthquake hit – when each day is a battle to survive there is no room for the luxury of planning for tomorrow.

This rule doesn’t just apply to natural disasters like the Haitian earthquake. Increased GDP per capita (through free-er markets and more capitalism) can lift developing nations from all sorts of poverty-related problems, including famine, war, slavery and crime (albeit indirectly.)

In fact, emotions and humanity aside, there could be a very strong business case for dropping the international debt. The cost of dropping the debt to Haiti entirely was roughly equivalent to the amount that has been donated since January 12th, not to mention the amount that will be spent in years to come.

(There are some obvious flaws in the numbers here, dropping the debt doesn’t automatically lead to a developed nation with top quality infrastructure, but it’s certainly a start. The other obvious issue is that the people donating are not those who were owed the debt.)

But in the long run, even if world leaders take a cold-hearted approach to the issue, dropping the third world debt (paying it on their behalf) could be their most cost effective strategy.

When talking to global leaders Bono, Geldof and company could try appeal to the strings of their purses, rather than hearts.

Economics and Ecology

January 12, 2010 in Economics, Essays, Videos

I’m a big fan of the VlogBrothers, two brothers who make daily youtube videos addressed to each other (but also to a wider audience). In today’s video one of the brothers, Hank, attempts to give the other brother – and the rest of the viewers – a quick overview of “Ecosystem Services“. To quote Hank directly:

“Ecology is a fascinating and complicated science. But if you mix it with the fascinating and complicated science of economics, you end up giving value to the things our world does for us.

Those things, in ecological lingo, are “ecosystem services” and you can actually put price tags on them.”

It’s an interesting video and a great introduction to an area of economics that I had never really considered before:

Murdoch’s Paywall

November 23, 2009 in Business, Economics, Essays

There has been a lot debate online recently surrounding Rupert Murdoch’s change of mind about paywalls for his online newspapers. I’ve been reading a huge number of arguments on both sides (including a 40min video interview with Rupert himself) and am sad to say that most of them seem to be missing the point.

Earlier today I read Adrian Weckler’s article ‘The case for a paywall for Irish newspapers’, and decided to write my response in a post here, and to summarize my thoughts on the debate in general.

Paywall or Die?

Ardian makes many of the points that are being made by journalists and newsfolk around the world, that the business model is collapsing and they can’t afford to keep giving it all away for free. He finishes his article with the question:

But if the choice is a continuous decline in circulation figures or a paywall, it’s not really that tough a choice. I mean, ask yourself: what would you do?

The fundamental problem in the paywall debate, but the one too often overlooked, is one of supply and demand. The question the article asks is “Should we decide to command a price, yes or no?”, but economics tells us that the only question one can really ask is “Can we command a price“.

As a simple analogy, imagine one major Irish newspaper put up a paywall, but none of it’s competitors decided to follow suit. This paper obviously wouldn’t do so well, most of the news stories would be available in the other major publications or elsewhere online, it’s own articles wouldn’t be shared, tweeted or linked to as much as other papers and it would also lose the water-cooler effect if much fewer people are reading it.

This is the best analogy I can think of to describe the problems I see with an industry wide paywall – but the problems that afflict that single newspaper would hurt the whole industry, and the competition would be from other online news sources, international papers, bloggers and independent journalists.

The Economics

If you view news as a commodity, it can be fairly undifferentiated. If you take my analogy above, there are some people who would stay and pay for the subscription, but most would not. This is because the news is largely the same to them regardless of the source.

It is also served up at a near zero marginal cost. Think about it, how much does it cost the Sunday Business Post for each additional article read by a new visitor (or even – how much does it cost yourtechstuff.com?). In economics, when the market is competitive, price will always fall to the marginal cost. If you’re in an industry with a marginal cost of close to zero, it will be very, very, very difficult to command a price.

The Business Model

So back to the closing question, paywall or death? As always, (and without wanting to sound like a Carlsberg commercial) there’s a better third option here. This is a business model problem that newspapers have. In print, they have little competition for audience attention, and therefore can sell that attention for a high price to advertisers. Online, this is not the case, and so the price the can command for advertising is much lower. They therefore need a new revenue model, and here’s my suggestion for how they should get started:

Always remember that standard news articles cost nothing to distribute, attract an audience and command no price, so if you’re going to publish them, keep them free. Then figure out how to convert a proportion of the readers of those articles into paying customers.

If you want to charge your readers (or a subset of your readers), start by asking what value you can add to your service to make it worth the price. This is the biggest flaw in Murdoch’s plan – he’s wants to introduce a new price, but without introducing a new clear reason for his customers to buy. Some publications, like the WSJ, already add value by offering in depth insight into content for a specific market. This is one option, but it does leave you open to new competition that could easily offer the same content for free.

Preferably this new revenue model would involve selling new scarcities, such as personalisation, physical products, access to ‘behind the scenes’, or an editors time (e.g. letters to the editor can be read by everyone, but only written by subscribers – or better yet a discussion forum with the editors, accessible only by subscribers).

Here are some quick examples of news organisations leveraging free news articles to sell scarcities (there’s obviously not too many examples though, otherwise the industry wouldn’t be in such a pickle!):

Tecdirt’s “crystal ball” membership option – for only $15 per year “with the Techdirt Crystal ball, we give you a chance to see the headlines of some of the posts we’re working on, and some indication of when they might get published. And, once a story is published, you’ll be able to see it up to 60 minutes before anyone else can.”
The New York Times’ Gold & Silver online membership plans – The packages carry an annual cost of $150 and $50, respectively, and emphasize behind-the-scenes benefits like newsroom tours, exclusive videos of reporters telling “the story behind the story” and ancient back issues.
The Insight Community – a clever way to charge a brand to work with your readers to build or design a new product.

So that’s my input and advice for this debate, and can be summarized in these two lessons that I learned on my first day of Leaving Cert Economics:

In order for a good to command a price, it must be scarce in relation to demand
In a competitive market, price will always fall towards the Marginal Cost of production

Growth, Reproduction, Generations and The Recession

February 12, 2009 in Economics, Essays, Evolution, Fuck The Recession

I was going to call this post “How Darwin could help us out of this recession” in honour of his 200th Birthday today. Apologies in advance for the length, but I hope it’s worth it.

The last book I finished reading was Richard Dawkins‘ The Extended Phenotype. It was fantastic. Although it has given my mind enough fodder for several blog posts, I’ll start with the very end of the very last chapter, which I finished the week that the big three car companies in the US went to congress looking for a bailout.

Reproduction vs Growth

What is the difference between reproduction and growth? It may seem obvious at first, but apparently it caused biologists a spot of bother back in the 70s.

When an organism grows, it mostly does this by replicating cells over and over. My hand, for example, grew in size from when I was a child. It did so when cells in my hand multiplied to form more skin, muscle etc. for a bigger hand. All of these cells contain the same DNA (my DNA) because they’re all me! In an evolutionary sense, all of the cells with my DNA – which are all the cells in my body – are working together to make hands and eyes and organs and tissues to get me through life and to reproduction, to pass my genes on.

Reproduction is obviously different. It involves two organisms coming together, to produce a third organism which is an exact copy of neither. Right? Wrong! But then what about a-sexual reproduction? When a bacteria cell divides in two, both are copies of the parent, is this really reproduction or is it just growth like the cells in my hand? And that was the stickler.

So What?

The discussion is fascinating and well worth a read, but not overly important for this post. The crux of the difference is that growth involves dead end replication – if there’s a strange mutation in the cells in my hand and the DNA suddenly begins to code for a new finger to grow, this will affect my hand only. If my hand gets chopped off, my future sons or daughters will not be born hand-less; If I get a tan they’re still be born a pasty Irish white! Reproduction is replication of DNA that will live on, forming a new organism which will potentially reproduce again.

A long time ago in a primordial soup far far away….

The importance lies not in understanding “what” is the difference, but “why?” If you cast your imagination back a few billion years to a primitive earth, where the first single celled organisms were appearing in the primordial sea. It’s obvious why some of them ganged together and found a competitive advantage as a multi-cellular organism. But what’s not obvious is why did reproduction evolve? Here are two examples from the book that best illustrate this point:

Imagine a primitive plant consisting of a flat, pad-like thallus, floating on the surface of the sea, absorbing nutrients through its lower surface and sunlight through its upper surface. Instead of “reproducing” (i.e. sending off single-celled propagules to grow elsewhere), it simply grows at its margins, spreading into an ever larger circular green carpet, like a monstrous lily pad several miles across and still growing. Maybe older parts of the thallus eventually die, so that it consists of an expanding ring rather than a filled circle like a true lily pad. Perhaps also, from time to time, chunks of the thallus split off, like icefloes shearing away from the pack ice, and separate chunks drift to different parts of the ocean.

Now consider a similar kind of plant which differs in one crucial respect. It stops growing when it attains a diameter of 1 foot, and reproduces instead. It manufactures single-celled propagules, either sexually or asexually, and sheds them into the air where they may be carried a long way on the wind. When one of these propagules lands on the water surface it becomes a new thallus, which grows until it is 1 foot wide, then reproduces again. I shall call the two species G (for growth) and R (for reproduction) respectively.

These two outcomes were possible, but the second one (R) is what we recognise as the modern plant. For this to evolve by natural selection it has to have had some advantage over pure growth (G). In what way is reproduction a more successful competitive strategy than pure growth? I’ll let Prof. Dawkins explain it better than I ever could:

…the significance of the difference between growth and reproduction is that reproduction permits a new beginning, a new developmental cycle and a new organism which may be an improvement, in terms of the fundamental organization of complex structure, over its predecessor. Of course it may not be an improvement, in which case its genetic basis will be eliminated by natural selection. But growth without reproduction does not even allow the possibility of radical change at the organ level, either in the direction of improvement or the reverse. It allows only superficial tinkering. You may divert a developing Bentley into a fully grown Rolls Royce, simply by tinkering with the assembly process at the late point where the radiator is added. But if you want to change a Ford into a Rolls Royce you must start at the drawing board, before the car starts “growing” on the assembly line at all. The point about recurrent reproduction life cycles, and hence, by implication, the point about organisms, is that they allow repeated returns to the drawing board during evolutionary time.

On Detroit

I read that for the first time last month, and I think I enjoy it even more every time I read it. Biology is such a powerful teacher. Evolution by natural selection is by far the most powerful scientific theory that I’ve had the fortune to learn. Natural selection has no intelligence behind it – the most successful organism (or gene or evolutionary strategy) will reproduce and live on, lesser alternatives will not. When nature has a way of doing something we should take note, as it’s more than likely the best possible way that it can be done.

So on the occasions that free market economics fails us (as it’s been accustomed to doing of late!) we should look to Biology for guidance. How can we apply the learnings that reproduction is better than growth, that the continuous life cycle beats never ending expansion, that rebirth trumps a resistance to ending?

Once more I’ll quote someone who can say it much better than me. This is an excerpt from a Seth Godin post titled What to do About Detroit:

Not only should Congress encourage/facilitate the organized bankruptcy of the Big Three [car manufacturers], but it should also make it easy for them to be replaced by 500 new car companies.

Or perhaps a thousand.

That’s how many car companies there were 90 years ago.

That’s right, when all the innovation hit the car industry, there were thousands of car companies, with hundreds running at any one time. From Wikipedia:

—

Throughout this era, development of automotive technology was rapid, due in part to a huge number (hundreds) of small manufacturers all competing to gain the world’s attention. Key developments included electric ignition (by Robert Bosch, 1903), independent suspension, and four-wheel brakes (by the Arrol-Johnston Company of Scotland in 1909).^[16] Leaf springs were widely used for suspension, though many other systems were still in use, with angle steel taking over from armored wood as the frame material of choice. Transmissions and throttle controls were widely adopted, allowing a variety of cruising speeds, though vehicles generally still had discrete speed settings rather than the infinitely variable system familiar in cars of later eras.

Between 1907 and 1912, the high-wheel motor buggy (resembling the horse buggy of before 1900) was in its heyday, with over seventy-five makers including Holsman (Chicago), IHC (Chicago), and Sears (which sold via catalog); the high-wheeler would be killed by the Model T.

—

What we don’t need are giant companies with limited choice, confused priorities, private jets and a bully’s attitude.

I’d spend a billion dollars to make the creation of a car company turnkey. Make it easy to get all the safety and regulatory approvals… as easy to start a car company as it is to start a web company. Use the bankruptcy to wipe out the hated, legacy marketing portion of the industry: the dealers.

We’d end up with a rational number of “car stores” in every city that sold lots of brands. We’d have super cheap cars and super efficient cars and super weird cars. There’d be an orgy of innovation, and from that, a whole new energy and approach would evolve. Betcha.

I know this post has been mostly me patching together the thoughts of two men much smarter than me, but I think there’s value to be gained from linking the two.

I don’t think this is just a lesson to be applied to certain industries, but in fact could be applied to modern economics as a whole. Capitalism is still quite young and questions like “for how long should a company live?” need to be be considered. The demise of a company like Waterford Wedgewood is obviously not good for the company itself, but the existence of a company life cycle is beneficial for the economy as a whole. This life cycle, with the expectation that companies will some day reach the end of the line, is not something that should be fought by our governments with bailouts or protectionism. It should be expected, managed, normalised and encouraged so that a sector, an industry, an economy and a country can be reborn stronger than before.

Wants, Needs and the Spectrum of Desire

December 4, 2008 in Economics, Essays, Evolution, Marketing

I enjoy reading Seth Godin’s blog. He often has really clever insights and ideas about marketing and business, and his books are very good too.

Recently he wrote a post entitled Hungry. An excerpt:

By any traditional definition of the word, she wasn’t actually hungry. She didn’t need more fuel to power her through an afternoon of sitting around. No, she was bored. Or yearning for a feeling of fullness. Or eager for the fun of making something or the break in the routine that comes from eating it. Most likely, she wanted the psychic satisfaction that she associates with eating well-marketed snacks.

It got me thinking about the distinction we draw between needs and wants. From a practical point of view I can see the difference. We all know the definition of the two: Food, shelter and water are items that we cannot live without, they are necessities, they are needs; wants are anything above and beyond this.

But from a biological point of view, I wonder do our bodies draw as clear a line in the sand? Evolution teaches us that organisms that felt the strongest compulsion to survive and replicate would be the fittest. Survival of the fittest ensures that after many generations the only organisms that are left will have strong compulsion to do/get/eat/drink/find that which helps them survive.

Plants don’t have brains. They can’t decide or know what they want or need. They have instead evolved tropisms which ensure that each plant “desires” or “wants” those things that make it survive, but in a very mechanical way. Geotropism involves anti-growth hormones in the stem, which are pulled to the bottom of the cell by gravity, ensuring the plant grows upwards. Phototropisms are chemical reactions to sunlight, spurring the plant to grow towards the sun. Were we to personify plants, could we describe these physiological reactions as needs or wants?

Evolution has resulted in similar mechanisms in us animals. To be a successful animal, our ancestors would have had to 1) survive to reproduction age and 2) reproduce!

For the part 2) we all understand sexual desire, and how important it is in the survival of a species and the passing on of genes. We also understand that there’s a spectrum of desire involved here. There are ranges of emotion we can feel: Having a crush, a fantasy, a sexual encounter or falling in love. Do we need a relationship but want sex? (Or vice versa!?)

And then when we look at part 1) – surviving – I don’t think our bodies have evolved to distinguish a clear cut distinction between a need or a want. Biologically speaking, our reactions are based on a spectrum of desire.

The reaction process (e.g. a plant growing, a dog eating, a human wanting) has been fine-tuned by evolution, so that the intensity of the desire is matched by it’s benefit. Think of it as an algorithm of sorts. This is why we feel thirst as a more intense desire than a hunger for chocolate, or sexual desire more intense than the desire for friendship. I think of it like a mental tropism – the stronger the sunlight the more a plant grows towards it – the greater the benefit to my survival, the more I subconsciously desire it.

The way we use language always gives us a good insight into the working of the mind. The fact that we use terms like “she had a thirst for knowledge” or “he had a hunger for results” are great examples of how our mind processes this spectrum of desire. Even though hunger and thirst are supposed to be for food and water, our mind can instinctively understand what is being said. This simple sentence construct is further support for the theory that our mind treats desire as a spectrum. There is no cognitive leap that the mind has to make between understanding hunger for a need (food) and hunger for a want (results).

Which brings me back to Seth’s post.

People don’t need Twitter or an SUV or a purse from Coach. We don’t need much of anything, actually, but we want a lot. Truly successful industries align their ‘wants’ with basic needs (like hunger) and consumers (that’s us) cooperate all day long.
….
yet most of them aren’t needs at all. That’s because the industries that market these items have done a brilliant job of persuading us that they are needs after all.

A lot of people make the claim that Seth is alluding to here, that marketers make needs out of wants. That they exploit basic needs such as hunger and thirst, and build new wants around them.

I wouldn’t give marketers that much credit! Something like that sounds difficult to do, and yet millions of products are successfully marketed, and not all these marketers can be way above average ability, right?

The reason this is so do-able, I suggest, and the reason that there are thousands of new products each week which attract customers’ desire, is because us consumers don’t mentally divide every purchase into a need or a want. We operate based on our spectrum of desire. And just as it’s possible for me to tell you that “Jane had a thirst for knowledge” without you having to make a cognitive leap to understand it, so too is it possible for a marketer to position a product so that you subconsciously desire it almost as much as something else you consciously define as a need.

As a marketer I don’t try to create new needs, or trick people into needing something that they barely even want. That sounds complicated, elaborate and quite frankly not something I have a desire to do. As a marketer I try understand what people desire and I try create products and services to satisfy those desires. Advertising shouldn’t be used as smokescreen or a ruse to con people into thinking my product will meet a desire that it won’t, or a need that they don’t have. Advertising should be a display, a way to demonstrate how it can satisfy their desires. Branding can be used to help my product meet multiple desires, and move it up along the spectrum. Sure, Nike fill their customer’s desire to be clothed, but also to feel cool, to feel athletic, to express something about themselves etc.

Are these needs? Or wants? Or wants in needs clothing? I don’t know, but they’re definitely desires and meeting them as best they can should be every marketers goal.

The Means are Not the Ends

November 24, 2008 in Economics, Essays, Evolution, Marketing

The thoughts behind this post have been inspired by reading the comments and reactions to Damien Mulley‘s blog post about the Pat the Baker Bebo campaign. Most of the intial reaction to Damien’s post seems to all be based on a logical flaw, (and one that I notice frequently in arguments), that when a certain “means to an end” becomes quite successful or popular, we tend to glorify or pursue the means as if it were the end. We forget that it’s value lies in what it delivers and not what it is.

Derived Demand
In economics, we used the term derived demand to explain this concept of means and ends. The demand I have for a brick is a derived demand. I don’t want a brick; I don’t get satisfaction or happiness from having it. But I do want a wall, or a house, or a new BBQ in my back garden. These are things I value; they provide me with satisfaction (economic utility). With the rare exception of Fr. Jack, I don’t think anyone would want a brick just to have, and would only go out and by one (or many) if they had some building to do.

Free Market Capitalism
I read a brilliant blog post in a similar vein to this by Alonzo Fyfe over at Atheist Ethicist, but can’t for the life of me find it to link to. He argued that many Republicans in America make a similar logical flaw in their adoration of “The Free Market“. Capitalism has created more wealth and lifted more people from poverty than any other economic system in human history. However, Mr. Fyfe is quick to remind us that we should be supporters of the free market because of the value it creates and not because of the system itself. Although it is the best system we have come up with it so far, the value it produces, it’s “ends” are far from perfect.

Without getting too deep into this topic here, in many regards I would see free market capitalism as almost perfect. It is immensely efficient and is flawed, in my opinion, only because humans are not always rational, we are an emotional animal. The caveat here is that I’m praising the means as a beautiful system, and not the ends that it produces. In fact, it is so effective at encouraging survial of the fittest, innovation and wealth creation through economic incentive, that it will almost certainly always create a huge wealth gap between the rich and the poor. When we idolise the means, raise “the free market” on a pedestal, and treat is as something of worth rather than the tool it is….. well I guess one look at any of today’s newspaper headlines will show you the result of that loss of perspective.

Evolution by Natural Selection
Although evolution doesn’t fit this template 100%, I feel it’s still worth a mention in this context. That humans are “the most evolved” animal is a statement that I often hear, and one which is borne out of misunderstanding. We, like all life that exists today, are the best adapted to our current environments. We come from descendants who were each the best adapted to their environments at the time. We are not something that evolution tried to make, evolution doesn’t have forethought. For the most part, we have been fine tuned by evolution and are better off as a result. But there are many ways in which natural selection works against us, fine tuning viruses that infect us, other humans that can take advantage of us, or animals that can kill us. Evolution by natural selection and the free market are wonderful and elegant systems, but neither are working entirely “for” us. Richard Dawkins explains this to us wonderfully in The Extended Phenotype, and we must always remember to be aware that our love of them should be a derived demand. Just as all things natural are not always the best for us (and so we get vaccines, use contraceptives etc.) , so too the free market must be regulated to ensure it’s in the best interest of all people (e.g. regulating the banks!)

Customer Engagement
And so, after a bit of a meander, we return to the original point. To paraphrase the question I took from Damien’s post “What is the NPV/ROI of the Bebo campaign to Pat the Baker?” The NPV, the profit, the extra customer, the revenue, the extra loafs of bread sold. These are all the ends in this equation. And Damien is right to point out that this is the value, this is the deliverable any company should be seeking. But the responses are all classic examples of “means worship“:

Philip MaCartney from Bebo wrote:

200 poems written about Pat The Baker in two weeks. That is brilliant engagement in any ones book. I have quoted these figures to a number of marketing professionals and all have been impressed so I fail to see how these figures should be considered a failure?

and

If the brand thinks it is a success and the Bebo audience obviously love it, how can it be a failure??

Another commenter said

Having all those people singing your theme tune [……], writing poems, wearing the tee-shitrs [….] is bound to be worth a lot in subliminal or secondary advertising too.

All in all, while the success of the campaign is still being debated, I felt that some of the responses, especially from the Bebo representative, are good examples of means worshiping, and I think it’s something that all of us, especially people who work in marketing (like me!) , need to be aware of. A brick can be as cool, or as shiny or as engaging as you want, but if it can’t be used to build a wall it’s not worth a damn to me. As I commented myself in response to Mr. MaCartney: Poems don’t put bread on the table!

So next time I hear a civil servant explain the purpose of a terrible process as “because that’s the way it’s done”, or when the success of a product is measured/presented only in customer engagement, all I’m going to hear is….

“I love my brick!”