In classic economics, deflation – a downward trend in prices – is a dangerous force that leads to recessions (see: Japan, economic disaster – a case study). In the world of the Internet, deflation viewed as a positive force, leading to massive consumer gains. How can we reconcile these two competing beliefs? And what impact will this deflationary pressure have on the production of high quality content?
I've been thinking a lot about deflation and its impact on the Internet economy since reading two articles in two different newspapers this last week. The first was this article in The Economist about the music business. The article contained a chart showing music industry revenues peaking in 1999 at $27 billion and dropping consistently as a result of the disruptive power of digital music and iPods/iPhones. Industry revenue may have finally flattened out at $16.5 billion, but the bigger story is that over $10 billion of value has been taken out of the music business thanks to over a dozen years of digital disruption. Artists are still producing a ton of music (I would guess music proliferation has grown during this period, although I haven't seen the data), yet the Internet has produced massive deflationary pressure.
The second article that I was struck by was in the Wall Street Journal, depicting the explosion of online video. Titled, "Web Video: Bigger and Less Profitable", the article reports on the rapid growth in online video views (39 billion in December), yet the fact that prices are dropping rapidly due to the oversupply of video inventory. The CPM (cost per thousand views) that advertisers are paying has dropped from $17-25 in 2011 to $15-20 in 2012. Advertisers and content producers are used to this trend. Whenever a new advertising medium emerges, prices are high at first, and then steadily drop as inventory swells (I wrote about this in a post that provided a bearish analysis of Groupon back in 2010). Every content business today faces this rapid drop in CPMs across every category, resulting in severe cost pressures.
So if the producers of music, video and other content are getting hammered on deflation, who is benefiting? Consumers. Consumers are getting access to music, video and other sources of content for less. They're also getting subsidized by business advertisers through social networks and search. McKinsey did a study a few years ago that sized the consumer surplus from the Internet at over 100 billion euros. Interestingly, they concluded that in measuring this surplus, consumers have benefited 85% of the gains from the Internet as compared to 15% for producers.
Thus, while the business press is full of stories of disruptive gains in business transformation, the real story of the Web is the power of the consumer and the massive gain consumers are receiving.
Although I am thrilled with the consumer surplus, I struggle with where this logical chain is eventually leading us. I worry that if there is too much deflation in content, that this consumer surplus will hit a natural limit. That natural limit will be that content producers will stop investing to produce high quality content. After all the inefficiencies have been wrung out of the system, eventually fewer producers of content will be willing to produce great content because the rewards just are no longer there. If this were to happen, consumers would be all the poorer for it.
My conclusion: although deflation has produced awesome consumer gains in the last decade, it is emerging as a real threat to content producers. But at some point, perhaps soon, it will tip to being a negative force that will cause high quality content produers to turn away and pursue other methods of financial gain. If that were to happen, we might regret allowing deflation to run rampant on the Web.
SEEING BOTH SIDES 
Interesting post. I don’t think content producers will ever stop doing what they love/deem important, nor do I think the heyday for quality content is necessarily over. As more and more people turn to the web for content, money from cable/TV/print/radio advertising will shift over as well. As it does, more paywalls and subscription services will probably emerge to get rid of the ads. What this price will be is anyone’s guess, but will probably be a function of quality, exclusivity, originality, etc. The key word here is quality. The price of most web 2.0 UGC content should deflate to zero, because in most cases, that’s what it’s worth. But quality content is another story.
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Jeff, RIAA/IFPI propaganda do paint a bleak story of the music
industry. I suggest taking a broader and longer term view and breaking
down the producer share to the actual content producers and the
distributors. The “good old days” of the 80s and 90s were an atypical
period. The idea that the industry was and should be huge and artists
should be millionaires was neither natural nor historical. It was good
to the labels and top artists, but not to the rest of the artists or
consumers.
Prior to the 50s music, it was all about the songwriter. Artists made
money performing. The rise of the artist and bands started with Elvis
and then the Beatles. Acts could only break on radio. It was
expensive to produce in a studio. Only the labels had the money to make
that happen. They rode the success of early rock and roll and pop .
Then they exploited their monopolistic position to the detriment of
consumers and musicians overall.
They distorted consumer choice by buying radio time. They cheated most
artists. They created artificial constraints, like forcing you to buy
the entire album to hear
1 or 2 good songs, or repurchase the album because of a new medium,
i.e. moving from vinyl to the CD. It became a time of content
scarcity.
Yes, technology has changed the industry. It’s freed artists to create
music on their own PC and market it themselves and resulted in content
abundance. It negated the monopoly rent of the labels. Acts like Mumford &
Sons and Amanda Palmer would not have succeeded 20 years ago. If the
average artist wants to make money, they perform live and tour, just
like they have all through history.
Marc Freedman
http://linkdaddy.wordpress.com
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But at some point, content producers will stop, no? Won’t there be some natural limit where the professionals just throw in the towel and pursue other careers?
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Interesting piece. But your missing a huge component of the story. Consumers don’t win as big as you think. Because they are still paying for the content in another way – they need expensive devices and technology in order to connect to it. The real winners in cheap content are the device and technology companies: Google, Samsung, Apple, Facebook, etc…
http://hightalk.net/2013/02/19…
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Great post and really interesting comments. Patrick, I agree it’s important to point out the increase/experimentation in new distribution channels, but I’m not sure lower production costs apply in all cases. In some cases (as in book publishing), production costs haven’t been as dramatically decreased by digital advances as many would think, and in other cases (see HBO’s Game of Thrones), high quality content is actually costing more than ever.
It seems like many content producers are running into a tricky predicament wherein content as a product by itself is no longer very valuable, and so instead they have to find ways to create value with it tangentially (licensing, subscription, etc.) or by bundling it with extras.
A great example of innovative bundling is The Lean Entrepreneur by Brant Cooper and Patrick Vlaskovits: http://leanentrepreneur.co/
Of course, that’s more of a work-around and doesn’t solve the problem of content deflation (may actually just ratify it)…
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Perhaps there are gains that can be made from a distribution approach that lowers the ROI needed to remain viable along the value chain. Currently many content owners look to slice and dice distribution deals that in some ways conflict with the needs/desires of the content consumers, for example selling distribution rights by geography by interface (Free to air TV, cable, online, mobile, etc) to different distributors resulting in an inconsistent experience of the content.
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Awesome post. I thought similarly RE the potential impact on content producers. But I’m skeptical that there will be a “natural limit”. The cost to produce content has decreased dramatically as well, from free music production software to the Canon 7D DSLR camera. Plus, content producers (musicians, writers, filmmakers) have adjusted to creating more for less and finding new distribution channels (see self-publishing, Kickstarter, or HBO’s partnership with Vice magazine).
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Good thoughts here, although the Web *is* and always has been a deflationary force. The phenomenon exists in software just as much as content.
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Good point, Chris. The impact that the Web has had on the software industry and the power of freemium, SaaS and deflation.
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