Doom, Gloom And The Digital Economy

Today is an auspicious day for Amazon. The U.S. Justice Department announced yesterday that it will bring suit to Apple and a cabal of five book publishers for antitrust violations. DOJ alleges that Apple, Macmillan, Penguin, Hachette, HarperCollins and Simon & Schuster set up a series of secret meetings to work around Amazon’s launch of the Kindle in 2007. As it turns out, three of the retailers have already decided to settle for $50 million in restitution to the consumers, but Apple and others will fight.

I hope Eric Holder made this face when he kicked Apple in the cheerios.

I’m pretty excited. I love antitrust lawsuits. The only thing better than a good antitrust suit is a good federal corruption hearing.

What’s The Story?

Supposedly back in 2007 a group of book publishers went into a panic when Amazon launched it’s first generation Kindle. Amazon’s opening price for most e-books was $9.99, a drastic reduction from the hardcover prices retailers usually demand. Many speculated that without a way to compete against drastically cheaper digital books the publishing industry was going to lose a lot of market share. So enters Apple. In 2010 the first iPad launched and Kindle suddenly had a strong competitor in the e-reader business.

The DOJ alleges that publishers approached Apple about creating a business model in which publishers set retail prices with the understanding that Apple would receive a 30% commission. From there it was simple to give Amazon’s competitor Most Favored Nation status and threaten not to allow Amazon to sell any bestsellers in their own e-book market. Amazon capitulated and the prices of its own books went up. Now the Justice Department and several of the states argue that these businesses swindled consumers out of hundreds of millions of dollars worth of competitive market value.

The Weird Parts

There are a couple weird facets of this story. The first is that Amazon used to be a book retailer, not a book publisher. There was a time, before the launch of the e-reader, when Amazon would buy these books from stores and sell them to consumers. Now Amazon not only competes with hardcopy books through its e-book deals but also has its own publishing arm. It’s easy to think of Amazon as the aggrieved party or hero in this story, but the company has a huge share of the publishing market if you include e-books and its model is very tough to beat.

Amazon could, theoretically, use the pricing mechanism to create a monopoly of its own. If the company decides to reduce prices and take a loss to increase its own tablet marketshare it can effectively squeeze out other book retailers until there isn’t enough competition to need lowered prices.

Second, how are the settling publishers going to repay $50 million in restitution to consumers? I’m assuming that they owe money to all of the people that purchased “overpriced” e-books from Apple, Amazon, and any of the other markets. Are they going to credit us for their books? Or maybe credit us for any books we want to buy?  Also, 16 states filed a class action suit with the defendants of the DOJ suit for more than $100 million. Does this stuff all stack up? And how much is apple gonna have to pay if it loses?

This Won’t Be The Last Time

Let’s apply some GD science to this and see what we come up with. Chris Anderson, a favorite author of mine, has done a lot of research in digital economics. He gives special emphasis to the ways the internet has made retail overhead smaller while creating a more egalitarian production base. For Anderson, selling things is cheaper and more people can do it. Check out two of his books The Long Tail: Why The Future Of Business Is Selling Less Of More and Free: How Today’s Smartest Businesses Profit By Giving Something For Nothing to see the full analysis. Consider Amazon’s e-book business model.

Amazon can sell an e-book to the tune of 10 or more dollars. That’s money in their pocket without needing to print another book, ship the book anywhere, or have any shelf space for people to gawk at their book selection. Instead they ship out a tablet that gives them exclusivity to the customer. You can’t access the Apple iBooks market or any other retailer through your Kindle. That part is especially interesting since it reminds me of another antitrust suit involving the exclusivity of Microsoft’s Internet Explorer on Windows. Whatever.

Amazon’s model essentially works the same way as emailing a document to a friend… if that friend was paying you money for each email. They only have to cover the costs of the author and publishing rights. And this is the trend in business. While Barnes & Noble has book stores with a finite amount of shelf space and all the overhead that comes with actual stores, Amazon is able to give it to you cheaply, instantly, and without employing thousands of store clerks.

If I had gotten the government to sue Apple I'd probably toast with my own tablet too.

This case is really just a symptom of a much larger trend in retail. You can take Amazon’s model as a standard and measure every business against it to see how they stack up. One of the articles I linked above is from the New York Times. The Times recently adopted a pay-to-read policy where they allow casual readers a few free hits and then demand subscriptions. This probably has something to do with how print media is dying. They kindly reminded me today that I only have 5 stories left. So am I gonna pay them to read their website? No. I’m gonna visit CNN or Wired or whatever other site is cheaper and quicker. And it doesn’t get much cheaper than free.

Same thing in the music, wordprocessing software, and cable television. iTunes, Google Docs, and Hulu are all cheaper alternatives that don’t include piracy. Lower overhead coupled with billions in advertising dollars makes this model king. So I think we are going to see more attempts to control digital markets while business industries adjust to the emerging status quo.

Or maybe Apple will win the suit and book retailers will limp along for another couple decades. Whatever. I just want the books on my Kindle to be cheaper.