Monday, September 04, 2006

iTunes Pricing

There's been more conversation over at the Digital Music Weblog about Apple's insistence on keep downloads fixed at 99 cents. Grant had made the audacious proclamation that supply and demand doesn't apply to digital music. It's certainly an interesting stance, and I certainly think Apple should hold on to the stance, though not for economic reasons. But it still isn't really true.

If I'm selling a song on iTunes, it costs me no more to sell the 1001st song than it does the 1000th. Same goes for the 10,001st, 100,001st and millionth +1 copy. That's what I mean when I say that supply and demand doesn't apply. I didn't have to build a larger distribution network for my millionth sale than I did my 100th, and if I only sold 101 copies, I didn't lose money by building a larger distribution network than I already had. I never had to lose in the act of guessing how large an audience I could build. And furthermore, the cost of doing that a second time is no greater than the cost of the first time, nor is it burdened with the debts of my first try.
It is certainly true that the marginal cost of selling songs in the digital world is completely flat (let's assume for argument that it's >0, so that this line of thinking holds up). And normally, in a perfect competitive world, Price = Marginal Cost. So, if the MC is the same for all songs, then it may follow that Price would hold constant at the same level.

But there are two other factors still at work here. The first is monopoly. Copyright holders for music have a monopoly on the music they sell. There's no true free market as long as there is copyright. Otherwise, MC really does equal 0 in the digital realm (see Napster), and the price would drop to zero.

The other factor is Willingness To Pay. If Person A has a WTP for the new Christina Aguilera track of $3.00, and Person B would only pay $0.50, then the record company (or iTunes) would want to sell Person A 1 copy rather than a copy of each to us at $0.50. So as long as the demand curve has a normal shape, at least for a particular track, meaning that the price for different songs in a perfect market would vary, since it would be a fairly obvious assumption that demand for some songs would be greater than demand for another.

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