Postrel on E-Book Prices and Demand Elasticity

Virginia Postrel makes the case for cheap e-books:

The common intuition is that e-books should be cheap because they aren’t physical–no printing, no shipping. Ah, say contrarians, printing and shipping make up only a tiny fraction of a book’s costs. E-books aren’t really cheap.

Like publishers themselves apparently, these wise guys are using the wrong cost figures. To calculate the cost of a copy, they’re loading on fixed “pre-production” costs like the editor’s salary and the publisher’s rent. They’re including the marketing budget. But these are fixed costs. They don’t change when you produce another copy. They may be important when deciding whether to publish a book at all, but once the money has been spent they’re irrelevant to what you charge for a given copy. Optimal pricing should be based on the marginal cost of that incremental copy. Cover that incremental cost, and selling one more copy is profitable. The common intuition that e-books should be cheap reflects this basic microeconomics: Producing and delivering another e-copy costs next to nothing.

The other side of the equation is consumer response: How many more copies will people buy if the price goes down? Or, in economic lingo, what is the price elasticity of demand? Book publishers talk (and often act) as though book buyers aren’t particularly price sensitive. The Borders and Barnes & Noble coupons in my email suggest otherwise. So does what little academic research exists on the subject. In a paper looking at people buying physical books using a shopbot, economists Erik Brynjolfsson, Astrid Andrea Dick, and Michael D. Smith found very large elasticities: A 1 percent drop in price increased units sold by 7 percent to 10 percent.

Of course, people who use shopbots are likely to be more price sensitive than average. But there’s anecdotal evidence that prices matter a lot for e-books. As The New York Times reported recently, most of the books on the Kindle bestseller list are being given away for free. And comments on various discussion threads among Kindle users suggest that many are bargain hunters looking for a good, cheap read rather than a specific title.

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3 Responses to Postrel on E-Book Prices and Demand Elasticity

  1. Brian Moore says:

    It’s getting to be almost a predictably boring trend now — an industry goes from highly centralized, high margin, to highly decentralized and low margin, and more net customers and producers, as it adopts new technology. The price drops to some intermediate stage where it’s expensive enough to cover costs, but cheap enough that you get some benefit from not pirating it, usually with complementary/convenience/specialty items thrown in. And then some people sell for free, for the popularity or as a loss leader.

    So far this has happened/is happening to news, music, DVDs, computer games, and now it’s happening to books. At some point I assume the producers will just make a deal with ISPs, and you’ll be able to pay a flat fee for a few terabytes, and then receive it in whatever book/movie/music format you want. It’s just data.

  2. Joseph says:

    Any single book, authored as it is by a unique entity called the ‘author’, and shaped by the sinews of prose that are unique to it, is sui generis, even if it fits into a recognizable generic ‘category’ within which a book-buyer may find close approximations to it in terms of style and content. There is a demand curve for Stephen King’s (or Don DeLillo’s) latest novel that is unique to it–the novel is the only product in its market. In fact, its 500 (or however many) pages contain words arranged in a certain order that literally *define* the parameters of that market. Whoever holds the copyright to that work holds a temporary monopoly on that market. This monopoly model applies to authors who have already differentiated themselves from competitors.

    Books authored by people who are not yet brand-names are more likely to swim in a less-differentiated pool of close-equivalents. A book-buyer who goes to a bookstore (brick-and-mortar or virtual) thinking they would like a ‘good horror novel’ is, essentially, transforming the market from a monopoly (because she isn’t going shopping on a hunt for “Stephen King’s latest”) to one governed by *monopolistic competition*. Any econ textbook can explain how this type of market functions differently from a pure monopoly or a perfectly competitive market, so I won’t get into it here, but the main point is that there *is* a difference between perfect competition and monopolistic competition, and most creative work (books, songs, movies, etc.) is bought and sold in a monopolistically competitive environment.

    So, basically, any discussion about music, books, films, and other creative content that revolves around the premise that books are sold in an environment of perfect competition is already starting off on the wrong foot.

  3. Joseph: you’re absolutely right that this is the right way to think about it. The question is: for any given author, what fraction of the readers are hard-core fans who are price-inelastic, and what fraction are casual readers with elastic demand. Both my intuition and Postrel’s data suggest that the bulk of the market is in the latter category. That is, there might be 100,000 hard-core Stephen King fans who will read every book King writes. But there are probably also millions of people who will walk into a book store and be on the fence between a Stephen King book or somebody else. If most people are in this latter category–and I suspect they are–then the market will behave more like a perfectly competitive market.

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