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The Case Against Micropayments
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User Preferences

Micropayment advocates mistakenly believe that efficient allocation of resources is the purpose of markets. Efficiency is a byproduct of market systems, not their goal. The reasons markets work are not because users have embraced efficiency but because markets are the best place to allow users to maximize their preferences, and very often their preferences are not for conservation of cheap resources.



Imagine you are moving and need to buy cardboard boxes. Now you could go and measure the height, width, and depth of every object in your house - every book, every fork, every shoe - and then create 3D models of how these objects could be most densely packed into cardboard boxes, and only then buy the actual boxes. This would allow you to use the minimum number of boxes.

But you don't care about cardboard boxes, you care about moving, so spending time and effort to calculate the exact number of boxes conserves boxes but wastes time. Furthermore, you know that having one box too many is not nearly as bad as having one box too few, so you will be willing to guess how many boxes you will need, and then pad the number.

For low-cost items, in other words, you are willing to overpay for cheap resources, in order to have a system that maximizes other, more important, preferences. Micropayment systems, by contrast, typically treat cheap resources (content, cycles, disk) as precious commodities, while treating the user's time as if were so abundant as to be free.

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Micropayments Are Just Payments

Neither the difficulties posed by mental transaction costs nor the the historical record of user demand for simple, predictable pricing offers much hope for micropayments. In fact, as happened with earlier experiments attempting to replace cash with "smart cards," a new form of financial infrastructure turned out to be unnecessary when the existing infrastructure proved flexible enough to be modified. Smart cards as cash replacements failed because the existing credit card infrastructure was extended to include both debit cards and ubiquitous card-reading terminals.

So it is with micropayments. The closest thing we have to functioning micropayment systems, Qpass and Paypal, are simply new interfaces to the existing credit card infrastructure. These services do not lower mental transaction costs nor do they make it any easier for a user to value a penny's worth of anything - they simply make it possible for users to spend their money once they've decided to.

Micropayment systems are simply payment systems, and the size and frequency of the average purchase will be set by the user's willingness to spend, not by special infrastructure or interfaces. There is no magic bullet - only payment systems that work within user expectations can succeed, and users will not tolerate many tiny payments.

Old Solutions

This still leaves the problems that micropayments were meant to solve. How to balance users' strong preference for simple pricing with the enormous number of cheap, but not free, things available on the Net?

Micropayment advocates often act as if this is a problem particular to the Internet, but the real world abounds with items of vanishingly small value: a single stick of gum, a single newspaper article, a single day's rent. There are three principal solutions to this problem offline - aggregation, subscription, and subsidy - that are used individually or in combination. It is these same solutions - and not micropayments - that are likely to prevail online as well.

Aggregation

Aggregation follows the newspaper example earlier - gather together a large number of low-value things, and bundle them into a single higher-value transaction.

Call this the "Disneyland" pricing model - entrance to the park costs money, and all the rides are free. Likewise, the newspaper has a single cost, that, once paid, gives the user free access to all the stories.

Aggregation also smoothes out the differences in preferences. Imagine a newspaper sold in three separate sections - news, business, and sports. Now imagine that Curly would pay a nickel to get the news section, a dime for business, and a dime for sports; Moe would pay a dime each for news and business but only a nickel for sports; and Larry would pay a dime, a nickel, and a dime.

If the newspaper charges a nickel a section, each man will buy all three sections, for 15 cents. If it prices each section at a dime, each man will opt out of one section, paying a total of 20 cents. If the newspaper aggregates all three sections together, however, Curly, Moe and Larry will all agree to pay 25 cents for the whole, even though they value the parts differently.

Aggregation thus not only lowers the mental transaction costs associated with micropayments by bundling several purchase decisions together, it creates economic efficiencies unavailable in a world where each resource is priced separately.

Subscription

A subscription is a way of bundling diverse materials together over a set period, in return for a set fee from the user. As the newspaper example demonstrates, aggregation and subscription can work together for the same bundle of assets.

Subscription is more than just aggregation in time. Money's value is variable - $100 today is better than $100 a month from now. Furthermore, producers value predictability no less than consumers, so producers are often willing to trade lower subscription prices in return for lump sum payments and more predictable revenue stream.

Long-term incentives

Game theory fans will recognize subscription arrangements as an Iterated Prisoner's Dilemma, where the producer's incentive to ship substandard product or the consumer's to take resources without paying is dampened by the repetition of delivery and payment.

Subscription also serves as a reputation management system. Because producer and consumer are more known to one another in a subscription arrangement than in one-off purchases, and because the consumer expects steady production from the producer, while the producer hopes for renewed subscriptions from the consumer, both sides have an incentive to live up to their part of the bargain, as a way of creating long-term value. (See sidebar: "Long-term incentives".)

Subsidy

Subsidy is by far the most common form of pricing for the resources micropayments were meant to target. Subsidy is simply getting someone other than the audience to offset costs. Again, the newspaper example shows that subsidy can exist alongside aggregation and subscription, since the advertisers subsidize most, and in some cases all, of a newspaper's costs. Advertising subsidy is the normal form of revenue for most Web sites offering content.

The biggest source of subsidy on the Net overall, however, is from the the users themselves. The weblog movement, where users generate daily logs of their thoughts and interests, is typically user subsidized - both the time and the resources needed to generate and distribute the content are donated by the user as a labor of love.

Indeed, even as the micropayment movement imagines a world where charging for resources becomes easy enough to spawn a new class of professionals, what seems to be happening is that the resources are becoming cheap enough to allow amateurs to easily subsidize their own work.

Against users' distaste for micropayments, the tools of aggregation, subscription and subsidy will be the principle tools for bridging the gap between atomized resources and demand for simple, predictable pricing.

Playing by the Users' Rules

Micropayment proponents have long suggested that micropayments will work because it would be great if they did. A functioning micropayment system would solve several thorny financial problems all at once. Unfortunately, the barriers to micropayments are not problems of technology and interface, but user approval. The advantage of micropayment systems to people receiving micropayments is clear, but the value to users whose money and time is involved isn't.

Because of transactional inefficiencies, user resistance, and the increasing flexibility of the existing financial framework, micropayments will never become a general class of network application. Anyone setting out to build systems that reward resource providers will have to create payment systems that provides users the kind of financial experience they demand - simple, predictable and easily valued. Only solutions that play by these rules will succeed.


Clay Shirky writes about the Internet and teaches at NYU's Interactive Telecommunications Program. He publishes a mailing list on Networks, Economics, and Culture at shirky.com/nec.html.


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