Apple tells music retailers how to behave

Here is a great example of a market leader signaling to its competitors the rules of engagement. So Apple is the market leader in downloading music, right? So when it raises its prices, what should the competition do? Lower their prices in order to win over users and gain marketshare, right?

Wrong?

They just follow right along and raise their prices too! Apple goes from 99 cents to $1.29 and so does Amazon, Rhapsody and others.
The concept is simple and is illustrated so well by Bruce Greenwald and basic economic theory.

Apple rules the market for downloadable music and every competitor knows, Apple could credibly take them on if it really wanted to. So who wants to launch a margin-busting price war with Apple when you could just imitate their prices and maintain your own comfortable share of the market.

Because of its dominant position, Apple is able to set prices for the rest of the market and everyone follows in proper obedience.

This example is a great counterpoint to the magazine industry that is fragmented, without a clear leader, and totally unaware of its own value.

Rather than the industry raising prices to protect their own margins, magazines are on this destructive race for the bottom in a vain attempt to attract subscribers. In the end they just end up commoditizing their own business because they are now unable to spend in order to innovate, and they create the perception that their product is cheap and replaceable.

Ethanol and fundamental economics

The fact is, there is very little argument in favor of corn-based ethanol; it is expensive, its is energy consumer and, most damaging, it is not economic. I am all in favor of alternatives to fossil fuel, in fact, I believe that finding such alternatives is one of the great challenges of our times. But an “alternative” that has to be propped up by protectionist measures put in place for political purposes is no alternative at all.

Regardless of how well a government thinks in can out-wit the markets, fortunately often simple economics comes back into play to show the fallacy of ill-thought-out policies. This is no clearer than in the ethanol market today.

There are many reasons for the high price of food right now, and I’m not claiming that there is one single magical cause. But a major contributor has to be that the price of corn is shooting up because of all of the protections around corn-based ethanol.

While these protections may not be going away (they are politically valuable), they are at least being called into question. And that is having a chilling effect on the corn-ethanol industry.

"If you sell one product and the only reason there's a market for it is because the government makes a law requiring consumption - if that law goes away, obviously you're in trouble," Gilpin said.

Greenwald argues that if there are still government regulations in your favor, that could be a competitive advantage. Indeed, the corn-ethanol industry has enjoyed competitive advantage verses other ethanols (Brazilian sugarcane for example) precisely because of these regulations. However, I don’t think Greenwald or anyone else would argue that if those policies are fundamentally uneconomic, they present a long-term haven. An attack on this false safe-haven is what we are seeing now in the markets.



Ethanol Turmoil Calls for Legislative Change a Threat to Some Companies - Business - redOrbit

So why should Google care?

OK... I know what you're saying... you're saying "I read your post on Google's competitive advantage and there is no way Microhoo! can break Google's lock on the customer, so they have nothing to worry about, right?"

Nope, they've got plenty to worry about. In a 1:1 match-up Microhoo! can now directly challenge many, if not all of Google's revenue sources. Because Microhoo! has multiple lines of business (crappy OS immediately comes to mind), it has the resources to enter into a long and protracted price war with Google.

Say goodbye to those profit margins Google! If Microhoo is successful it is going to drive prices straight down. This is probably in retribution for Google thinking it can get into the office productivity space (word processing, spreadsheets and whatever.)

A price war would rendering Google's main sources of revenues (ads, monetizing search) relatively worthless, leaving Google unable to fund further expansions into Microsoft's software space.


Hat tip again Greenwald

Competitive advantage of Google

A few thoughts on the proposed Microsoft/Yahoo deal.

People have been throwing around all sorts of ideas, pro and con, on the deal but at its core, the question on the merits of this deal boils down to one of customer captivity.

For whatever reason, people like to use Google and while it is very easy to click and use another search engine, many people don't. While there are no financial switching costs, there may be some psychological ones (I know how to "Google" something on the net, I have no idea how to "Yahoo" or "Microsoft" something.) So this psychological hold Google has on customers is its one and only competitive advantage.

There is no technology competitive advantage. I think for most users, Google, Yahoo and MSN are essentially the same. Hard-core techies could probably point out some performance differences, but my mother can't.

It isn't about scale. Marginal costs are meaningless online, each new user costs nothing to the company. Maybe Microhoo's! fixed costs will come down somewhat due to synergy (whatever) but ultimately the average costs between Google and Microhoo will remain little changed, so there aren't any cost advantages to be had.

So what other competitive advantages are there? I can't think of any. The only thing Google has to protect its position is the fact that users are simply accustomed to using Google. Microhoo! therefore has only one goal, to break users of the Google habit.

If Ballmer and co. can do that, then this deal is worth something. If they can't, then adding the number 2 position with the number 3 position will not equal a number 1 position.


Hat tip: A lot of this thinking is powered by the writings of Bruce Greenwald. Prof. Greenwald, in the unlikely event you're reading this, I hope I got it right.