This week, my ECONS101 class has been covering pricing and business strategy. As we discuss in class, pricing strategy is essentially about creating and capturing value - the firm creates value for consumers (or other businesses), and then finds creative ways to capture that value back from the consumers (or businesses) as profits. So, it was timely to read this post by Tim Harford this week, looking at apps:
The writer and activist Cory Doctorow has coined a memorable term for this tendency for platforms to fall apart: enshittification. “Here is how platforms die,” he wrote in January. “First, they are good to their users; then they abuse their users to make things better for their business customers; finally, they abuse those business customers to claw back all the value for themselves.”...
Nevertheless, I’m quite sure enshittification is real. The basic idea was sketched out in economic literature in the 1980s, before the world wide web existed. Economic theorists lack Doctorow’s gift for a potent neologism, but they certainly understand how to make a formal model of a product going to the dogs.
There are two interrelated issues at play. The first is that internet platforms exhibit network effects: people use Facebook because their friends use Facebook; sellers use Amazon because it’s where the buyers are, while buyers use Amazon because it’s where the sellers are.
Second, people using these platforms experience switching costs if they wish to move from one to another. In the case of Twitter, the switching cost is the hassle of rebuilding your social graph using an alternative such as Mastodon, even if all the same people use it. In the case of Amazon, the switching cost includes saying goodbye to your digitally locked eBooks and audiobooks if you move over to a different provider. Doctorow is fascinated by the way these switching costs can be weaponised. His short story, Unauthorized Bread, describes a proprietorial toaster that only accepts bread from authorised bakers.
Both switching costs and network effects tend to lead to enshittification because platform providers see early adopters as an investment in future profits. Platforms run at a loss for years, subsidising consumers — and sometimes suppliers — in an effort to grow as quickly as possible. When switching costs are at play, the logic is that companies attract customers who they can later exploit. When network effects apply, companies are trying to attract customers because they will draw in others to be exploited. Either way, exploitation is the goal, and the profit-maximising playbook will recommend bargains followed by rip-offs.
All of this comes back to creating and capturing value. First, the firm uses its shiny new app to create value for consumers. The app can create a lot of value if the consumers can access it for free. That sucks the consumers into the network. A large network then creates value for advertisers, because it represents a large audience for their advertising. Finally, the firm can capture that value back from the advertisers in the form of profits. Although, as Harford's post notes, the process of capturing value back from advertisers reduces the value that consumers get from the app. However, since those consumers face switching costs to change to some other app, they are locked in to using the app. So, the firm is probably fairly unconcerned about the consumers' loss of value, so long as they continue to use the app (and create value for advertisers).
Just because pricing strategy is about creating and capturing value, that doesn't necessarily mean that firms are focused on creating value for consumers, if they can be more profitable by creating value for someone else, in this case advertisers.
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