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While the Nobel Prize for Economics is a significant recognition, the Royal Swedish Academy of Sciences does not determine who is qualified to serve on the Board of Governors of the Federal Reserve System.
Richard Shelby, (R-AL)

The Nobel Prize for economics was recently announced. It went to three economists who provided the theoretical foundation for understanding search markets. Each had found themselves fascinated by the difficulty that buyers and suppliers sometimes have in finding one another. Together, they found that search markets belie commonly held beliefs of classical economics. They have search costs. They’re often inefficient. They provide multiple outcomes. They’re messy.

Messy markets dumbfound classical economics. Markets are supposed to provide unique and efficient outcomes. Search markets don’t, but they don’t resist analysis. The recipients, Peter Diamond, Dale Mortenson, and Christopher Pissarides, demonstrated this with the DMP model for unemployment. But the model also demonstrates the importance of regulation and policy to affect market structure and improve outcomes. This is far from a laissez-faire point of view so commonly held. Though the recipients focused their efforts on the labor markets, the common features they identified in search markets provide a metaphor for understanding other conventional economic markets and, perhaps, non-traditional markets: the process of finding a spouse or even the marketplace for ideas – a concept still reeling from the controversial Supreme Court opinion on Citizens United v FEC.

Diamond, Mortenson and Pissarides, articulated a handful of common traits associated with search markets. Search markets are typically associated with non-exchange-based transactions, such as labor markets. Unlike on an exchange, it’s typically difficult to find the right buyers or sellers, so search and matching costs, for example, are associated with high real costs. Movement in the labor market, for example, requires individuals to quit or be fired, search for a job and be evaluated, and question accepting a position on the basis of the difficulty of and compensation for the work.

Search markets are also inefficient and may include several outcomes. Though only one outcome can be the best, these markets do not yield unique and efficient outcomes associated with classical economics. Instead, they can lead to imbalances, such as resource utilization, which can skew either too high or too low.

The activity within a search market also affects the search market. When a job-seeker, for example, increases their search activity, the overall market becomes more challenging for other job-seekers and easier for recruiting firms. These are called external effects and are not taken into consideration among market participants. It yielded a relationship between job creation and the intensity of workers seeking jobs. If workers increase the intensity with which they look for jobs, the marginal improvement in a company’s ability to fill a position will encourage employers to open searches for more jobs. It also explains why job openings have increased recently, but the unemployment rate has not changed substantially. These may be attributed to structural issues within the labor market, such as uncertainty about regulation and taxes, a reduced ability to sell one’s house and move to where the jobs are, among other reasons. Perhaps we might also see option-taking by employers. For example, many people are looking for work with intensity, firms can easily fill positions. With low search costs, posting additional vacancies allows them an inexpensive option to hire, should they find someone.

Diamond, Mortenson, and Pissarides, initially working independently, soon found one another in perhaps an example of their own theory of search markets. The realization of one another’s interests galvanized their efforts, and they organized the Diamond-Mortenson-Pissarides (DMP) model to explain the Beveridge Curve. The Beveridge Curve denotes an empirical pattern of high unemployment and low vacancies or low unemployment and high vacancies. The DMP model broke new ground by providing an explanation for the relationship between the underlying economy, various regulations, and the position on the curve.

Rigidities in the labor market can contribute to unemployment. Participants seek to optimize both compensation and the quality of the work required. One’s inclination to compromise before finding the optimal combination might be determined by jobless benefits, the performance of one’s portfolio, or the condition of the overall economy. Similarly, employers might delay listing vacancies or hiring in general if they find it more difficult to fire employees when they feel necessary. India, for example, maintains a rule pertaining to industrial establishments of 100 workers or more. Rather than require the customary one-month notice on termination, industrial establishments require a three month written notice to employees and prior authorization from the appropriate government authority.

The DMP model, however, does not deny the benefits of regulation. Indeed, some regulations may introduce rigidities that impede the market, but properly applied, they may improve the functioning of the market. Though higher unemployment benefits predictably lead to higher unemployment and a higher search time for the unemployed, the DMP model suggests that it nonetheless has its place. Some job searches are complicated by the rarity of an individual’s skills. Without unemployment benefits, they might not have the time to conduct a thorough search. Circumstances will require that they take a position that does not capitalize on their abilities, and the mismatch between an individual and their job will result in a net loss in welfare for the economy overall. If a skilled machinist has to stock shelves at Walmart, the economy does not benefit from the investment required to cultivate those skills in the first place and may pay a price in a company’s inability to fill a vacancy. Without a proper match, the economy will function below its capacity.

Though the recipients’ work centered on the labor markets, search markets have also been applied to many areas where buyers and sellers find it difficult or expensive to find one another. Among them, the process of finding a suitable spouse, identifying and negotiating with strategic suppliers, used car shopping, and perhaps expert networks. Some of these have been explored, others may benefit from analysis through the lens of a search market. Expert networks, a relatively new phenomenon, connect those in need of expertise with those who have expertise through a costly and fitful process of collecting, profiling and delivering independent consultants, former executives, former government officials, and others for paid phone consultations and other engagements.

The metaphor of the market has even been used to understand the freedom of speech guaranteed by the Constitution. Viewing the marketplace of ideas as a search market might be just the metaphor Stevens was looking for when he dissented to the Supreme Court’s decision in Citizens United vs. FEC earlier this year. Indeed, it’s an elaboration of Professor George Stigler’s precursor to search markets discussed the search costs associated with information in his 1961 paper, The Economics of Information. Perhaps it was what Stevens had been struggling with when he wrote:

All of the majority’s theoretical arguments turn on a proposition with undeniable surface appeal but little grounding in evidence or experience, “that there is no such thing as too much speech,”

The marketplace of ideas is a search market. It’s messy. It yields multiple and inefficient outcomes. The Nobel Committee’s reward of Diamond, Mortenson, and Pissarides’ work on Monday helped us understand that better and laid bare the insufficiency of the laissez-faire perspective so often taken.

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The facts do not owe their origin to an act of authorship.
Justice Sandra Day O’Connor (Feist v Rural Telephone, 1991)

But does the hunt, the research, the interviews? Or perhaps its organization into a story for the dissemination to a reading public? And can these be made exclusive? These questions have bubbled up as the newspaper industry wrestles with what the internet is doing to their business.

The Cleveland Plain Dealer’s Connie Schultz has argued fervently about the rights of authors and their newspapers to capitalize on their product. She came out against “the aggregators” as though they were a malfeasant band of marauders bent on destroying the institution of journalism and by extension democracy. Citing Daniel and David Marburger, she claimed, “parasitic aggregators reprint or rewrite newspaper stories, making the originator redundant and drawing ad revenue away from newspapers at rates the publishers can’t match.”

James Moroney, publisher and CEO of the Dallas Morning News takes a similar approach. He invokes the ‘hot news’ doctrine and asks congress to apply it to the internet. Says Moroney, “perhaps it is time for congress to establish a principle of ‘consent for content’ for breaking news–similar to the ‘hot news’ doctrine recognized by a few states.”

Copyright law sufficed to protect the written word, fixed in a medium, but these claims demand remedy for a larger issue. They aim to protect the investment required to collect the facts and write a story, when it might easily be re-written and distributed by another. But they ask for monopoly control of the story itself — indeed, ownership of the collection of facts and ideas that might make up a breaking story on government corruption, for example. Justice O’Connor, however, finishes with little support for these views: “The distinction is between one of creation and one of discovery.” And discovery is not subject to property rights.

The viewpoints of Moroney, Schultz and the Marburgers have their origin in the nature of print. Print leads to a confusion between controlling the medium and controlling the content – that is, the mistaken idea that breaking a story equates to owning it. The Supreme Court compounded the confusion in 1918 with its decision to augment copyright protection with “quasi-property rights” for the facts and events that make up a news story — the hot news doctrine. It was a legal solution for the disruptive impact of a new technology: newswires. News was paper, and these rights formalized the metaphor. They derived from the physical qualities of the paper, attached property rights to the news and would provide a legal basis from which to make, in this case, the AP’s news exclusive. Theoretically, the AP could then exclude people from learning of it or reprinting it without permission. They wouldn’t just report the news, they would own the news. Read the rest of this entry »

it is pictures rather than propositions, metaphors rather than statements, which determine most of our philosophical convictions
–Richard Rorty, Philosophy and the Mirror of Nature

Metaphors in law are to be narrowly watched, for starting as devices to liberate thought, they end often by enslaving it.
Benjamin Cardozo

We exist in a free marketplace of ideas, or so we might say. The Supreme Court’s recent opinion on Citizens United v. the Federal Election Commission sought to protect that marketplace by curbing regulations on corporate spending on political speech. As the Court opined, these regulations constituted censorship, and “the censorship that we confront is vast in its reach.”

The majority opinion of Citizens United v. FEC has been framed in many ways. President Obama observed in his State of the Union, “the Supreme Court reversed a century of law that I believe will open the floodgates for special interests.” Lawrence Lessig characterizes it as indicative of the progressive and now explicit capture of our elected institutions by corporate interests. And perhaps more sinister, Ronald Dworkin, writing for the New York Review of Books, speculates that the majority repositioned the case, accelerated its consideration, and designed the decision to aid the Republican party in the 2010 election season.

The Supreme Court’s majority countered that these concerns are moot to hysterical. Instead, they asserted that the proper function of the free marketplace of ideas relies on liquidity, and what better way to increase liquidity than to throw out the McCain-Feingold bill, undermine longstanding bans on direct campaign contributions that date back to 1907, and otherwise tear down the restrictions that had kept corporate spending in check. The free marketplace for ideas, after all, would yield the fittest through rude competition. The question before the court was only whether that marketplace was free. From there, the Roberts Court could presumably “call balls and strikes.” Read the rest of this entry »

Knowledge, instead of being bound up in books and kept in libraries and retirements, is thus obtruded upon the publick
Spectator no. 507 on the Spectator, 1711

One imagines the libraries and retirements encircling prized volumes. Access is limited. The doors are closed on hushed, dark rooms, and rude custodians may or may not respond to the knocks of visitors. The lively entertainments of the mind, pressed flat and laid up in shelves, are collected — excluded from the general population. Mr. Spectator lights up these entertainments, unbinds them from their pages, and sends them around the room and into society. He obtrudes them upon the public.

The pseudonymous Mr. Spectator offers a voice that would direct many of the discussions of the day, through education and entertainment, in 18th Century London. His daily issue, launched and written by Joseph Addison and Richard Steele 1711, would be called The Spectator.

Addison & Steele’s Spectator boasted a distribution of 3000, through hawkers and mercuries, and a readership upwards of 40,000: “every page submitted to the Tast of forty or fifty thousand Readers” [No.508]. But the finances were unclear and, at best, shaky. The paper, which paused mid-stream for a substantial hiatus, only lasted just over six hundred issues.

The optimism is palpable, but the rewards were not. The nascent newspaper was more likely to lose money than make anyone rich. More often than not, publishers struggled to make the business work while slowly draining their investors. The Spectator was among an exceptional few to survive the tax increase of the Stamp Act. Their story, however, is surprisingly similar to what we see in today’s shift to digital media.

What Addison & Steele and others discovered was mass media, a new media in its own right. Then as now, their efforts derived from changes in regulation and technology and competed with the traditional forum for news – the pulpit then, and newspapers today, for example. The competition among dailies divided the public into publics, each driven by the tastes and temperaments of its readers. These early dailies changed the public’s relationship to knowledge and brought it out of libraries and retirements in the same way that today’s new media brings news out of the newspapers, for example, and generally enlarges the free-marketplace of ideas.

Addison & Steele’s budding media empire flourished when placed in the hands of the audience. Today’s newspapers and magazines would have you believe the same, but it’s distinguished in one key way. It has built up a dependence on paid circulation. This was less important than one might think for those early publications. Instead, they relied on reputation and influence at first, followed by advertising. Paid circulation was, in effect, a manner of subsidizing distribution.

Mass media’s origins in 18th century newspapers began with two developments. The speed of the printing press introduced the possibility of the daily — something unthinkable in the age of scriptoriums. The status of the written word would shift from scarcity to abundance. The dearness of a volume, which had been measured by the many hours and men required to copy it, was rapidly sliding toward the price of the paper on which it was printed. Second, with the lapse of the Licensing Act in 1695, prepublication censorship ceased. Print would emerge everywhere and could include anything. Many would publish not only the inventions of the moment, they would uncover and disseminate the knowledge from those libraries and retirements — all for not much more than the price of the paper itself.

Early newspapers would supplant the pulpit and occupy an advanced position on both book publishing and the congregation. The pulpit provided the equivalent of a weekly news show. Congregations received the news once a week in a format and fashion that was faster and easier to consume than books. As Elizabeth Eisenstein observes in The Printing Press as an Agent of Change, “before the advent of printing, events of significance, when reported at all, were usually conveyed from the pulpit” [p. 553]. The sermon might address world events, local trade, real estate transactions, and politics. The newspaper, however, would insert itself in the daily routine of many: “the pulpit was ultimately displaced by the periodical press” [p. 131].

If changes in regulation and technology leading up to the 18th century fostered the sudden supply of publications, what drove the need? The demand for publications such as the Tatler, the Spectator, the Craftsman, the London Daily Post emerged as a genie from a bottle. The public wanted newspapers. They wanted something different than the weekly lessons and announcements from the pulpit. Eisenstein remarks, “the dictum ‘nothing sacred’ came to characterize the journalist’s career” [p. 131]: it wasn’t the church. Instead, among the teeming dailies, one could choose the the right one for one’s self. Dailies didn’t just discover an interested public, they discovered interested publics, each with their own tastes and preferences.

Addison & Steele’s ambition to serve a reading public changes society’s relationship to knowledge. Knowledge would no longer be exclusive. Obtruded upon the publick, it would reach into new corners of society to be consumed, critiqued, and engaged. Addison & Steele’s Mr. Spectator would write in Spectator no. 10, “I have brought philosophy out of closets and libraries, schools and colleges, to dwell in clubs and assemblies, at tea-tables and in coffee-houses.” The Spectator would be one of many vehicles for this change, and distribution would drive it to thousands in 18th century London.

The Spectator would mine the libraries, his competitors, and the conversations at the coffee-houses for the facts and ideas behind each missive. The collected ore would only be valuable inasmuch as it would capture the attention of his readers. With the diversity and detail of the web, today’s contributors mine newspapers, magazines, books, official announcements, and just about anything they can get their hands on. One might characterize these as transactions in the free marketplace of ideas, but then as now, they sparked controversy. Just as the pulpit may have been upset with the rise of the newspaper, traditional media finds itself frustrated by the thousand-fold rehashing and reinvention of the facts and ideas that had once seemingly been their province alone.

The public begins as the recipient of the shifting relationship to knowledge, but they also become the object. The Spectator, for example, took the public as a specimen under its lens. Mr. Spectator is among them, observing them, surveying them, and refracting everything back through its daily issue. Jurgen Habermas would later claim, in The Structural Transformation of the Public Sphere, “in the Tatler, the Spectator, and the Guardian the public held up a mirror to itself.” The public could see itself through these early papers and have a “conversation with itself.”

Today’s changes in technology and a mindset rooted in net-neutrality and open systems have yielded similar innovations. The internet, blogs, and increasingly creative media ventures that have become substitutes and complements to traditional media. Both moments yielded an efflorescence of expression that was fertilized by rapidly diminished costs and threatened to supplant existing institutions: the congregation and traditional media. And both moments relied on the ability to rehash and reinvent the accumulated knowledge of their time to fill their pages, virtual or otherwise. The resulting fragmentation of readers would replay many of the changes ushered in with the the early 18th century dailies.

Could these early publishers charge for this? Barely. What would matter for Addison & Steele and their counterparts today was the audience, and their success would not be measured in how much people paid for the content, but in the reputation they developed and the ability to advance the interests of the proprietor and their investors.

The Spectator built Addison’s reputation. He wasn’t concerned that his readership far exceeded the paid circulation by more than ten-fold: the more, the better. His reputation among them would provide other opportunities. The Spectator, after all, was his second publication. It followed the Tatler, and it was his reputation that enabled him to do both. Later, he would harvest these efforts through the sale of bound volumes of each.

We see something similar with blogs such as Joel on Software, which was later published as a series of books. Combined, the blog and books undergird his company’s credibility as a leading software developer, which has led to ventures such as Stack Overflow. Meanwhile, Brad Setser’s consistently trenchant, though not always well edited, observations on currency flows from the Council on Foreign Relations ultimately led him to a position in the White House, and Julie Powell’s musings on Julia Child morphed into a book deal, a movie, personal complications, followed by another book deal.

Investors in early newspapers sought influence and profits through circulation. More often than not, they may have found influence, but not the profits. The paper, however, was well-suited to advancing their individual interests. They may have been merchants or theater owners, so they would use their position to obtain better advertising rates, coverage or otherwise. Michael Harris, in London Newspapers in the Age of Walpole, remarks: “the efficacy of the papers as vehicles for house advertisements could more than offset a limited return.” In these cases, the newspaper is an agent for the partners’ agenda: providing owners a venue to advertise their establishments.

Fred Wilson’s blog has slowly impressed him upon the New York venture community in a way that uniquely positions his venture capital firm among investors and entrepreneurs. Michael Arrington’s thriving conference business owes its origin to Techcrunch. Barry Ritholtz has leveraged The Big Picture to cultivate an asset management business. The reputations in each of these examples drive a venture-investment business, a conference business, and an asset management firm.

Addison & Steele’s were early days in the newspaper business. They and others managed to advance the reputation and interests of themselves and their investors. Soon, however, they would make a dramatic realization. If they could do it for themselves, they could certainly do it for others, and they would have a third leg on which to stand. Doing so would require a dramatic leap: they would have to sell the audience. They would invent advertising as we know it.

Advertising started as the province of the proprietor and his investors. Advertisements were a privilege bundled with ownership – house advertisements. We see advertisements for booksellers, who may have been investors or close associates. But this would change. Just as blogs have been festooned with advertisements, early newspapers would realize that the audience might also be valuable beyond the proprietor and his investors.

The first advertisements in the Spectator were almost an afterthought. They showcased books that their printer, Sam Buckley, or his friends had printed. In Lawrence Lewis’sThe Advertisements of the Spectator, he observes, “As the circulation of the ‘Spectator’ increased among ‘the quality,’ the example of the booksellers was followed, first by the mercers and haberdashers, then by the dealers in snuffs and wines and teas, by quacks and sellers of cosmetics and nostrums for every human ill, and, finally, by the managers of places of amusement.”

Advertisers began to include not just partners, but interested parties. Advertisements for soap or perfume joined those of the booksellers. Harris observes, “by the mid-1720s the amount of space devoted to this material was provoking some vigorous criticism.” By the mid-1720’s, early newspapers had meaningfully unbundled the privilege of advertising from ownership. For the first time, anyone who wanted an audience could access one. The audience became a service to be delivered:the newspaper, a the service provider.

Early newspapers, like new media, flourish when they’re in the hands of an audience. They flourish when they enhance the reputation and influence of their proprietors and, through advertising, others — not because they’ve been charged for it, but because of the externalities that develop from an engaged, reading public. If that’s the case, should The Spectator have become a free publication and follow today’s flat dictum that information wants to be free?

Addison & Steele never conceived of giving the Spectator away, but it’s worth wondering if they would today. They were thrilled to claim a total readership of more than ten times the paying readers, but would they give those paying readers up? Probably not. Addison & Steele’s circulation pattern provides an early example of versioning in information goods. Hal Varian explains versioning as a pricing method for information goods that sorts potential customers based on the quality of the good that they need. In Addison’s case, those who absolutely needed The Spectator would buy it on its first run. Those who could wait would pick up copies from friends or a table at Button’s coffee-house.

Versioning, however, works differently today. The internet has no equivalent to picking up a newspaper from the table at Button’s or the floor of the subway. If there is, it’s in the form of passed links, aggregators, and comments and analysis that show up on blogs. But unlike with The Spectator, or even a paper copy of The New York Times, the chain generally does not begin with an initial sale. The first version is either free or behind a pay-wall: either available or not. It isn’t sold and read, only to be left on the coffee-house table. And if it’s behind a pay-wall, barring any individual indiscretions with copyright, there is no second version for someone to pick up. By analogy, it would mean Addison’s reliance on a readership of 3000, not 40,000. What would that do to his ability to monetize his following? It certainly would have impacted his influence.

The consternation about pay-walls that has captured the current imagination is fundamentally a question about versioning. The New York Times and Newsday and others are looking for the digital equivalent to the table at Button’s coffee-house. What model will allow them to sell a first-version? The physical paper provided a solution, but the shift to digital does not invoke an obvious replacement. And a pay-wall risks severely limiting their audience and influence.

Many online media ventures have avoided the issue entirely by offering one version, free of charge, to their audience. Passed links, blog-mentions, aggregators and others provide the digital equivalent of shared and found newspapers – the digital coffeehouse. Their influence can grow with the appeal and availability of their perspective. Considering half of the Spectator‘s circulation revenue went to the Stamp Tax, after the cost of printing and paper, there was very little left over for the owners, so there would be very little difference between being a free publication on the internet and a paid publication in print. An online Spectator would probably be a free Spectator: today’s raft of free blogs and new media ventures, its inheritors.

The Spectator and early newspapers would evolve into the inky reams that we know today, but it turns out that they may be a closer cousin to today’s emerging media landscape. Both moments fostered marginal businesses that owed their origin to dramatic changes in technology and a change in regulation, in the case of the Licensing Act, and a mind-set, in the case of net-neutrality and open systems that dominates the web. Neither looked like any newspaper that we would recognize in the 20th century, but they would go on to change society’s relationship to knowledge and disrupt traditional sources of information, from the pulpit then to institutions such as modern newspapers now. Their economic success for lay in the ability to derive externalities from their audience in the form of reputation and, later, advertising.

A bright line, however, still separates our modern print publications and the inheritors of The Spectator: the ability to version. The ability to version on the internet has proved difficult to incorporate and become a painful reminder of the many differences between print and the digital medium. What is the digital equivalent to the 18th century coffeehouse? Encouragingly, the New York Times recently answered with the announcement of its paywall strategy. If it’s passed to you, by twitter or a friend, please read it; otherwise, pay. You’re either a patron or a coffeehouse. Perhaps invoking the spirit of Addison and Steele will reinvigorate their prospects.

The PEW Project for excellence in journalism recently published its annual survey on the state of the news media. The report framed readers of online news media as mysterious strangers with dubious habits and few loyalties. They read promiscuously. They spend little time with the news online. And they are quick to abandon any site that might ask for compensation. Online journalism is in trouble.

The business of connectivity, however, is thriving. Both video and internet access, whether it’s through Verizon or Comcast or another, continue to increase penetration and, seemingly, price, and the FCC’s 100 Squared initiative will spread access wider and push it deeper than before. But the PEW project pits an underfunded online news media against the mysterious stranger who doesn’t seem to recognize or care for their impact on or the consequences for the media or perhaps the higher goals of journalism itself.

How can the fate of internet access and online media be so divergent? They’re actually intertwined. It’s not that we’re not paying for news. We are. Internet access bundles the full array of sites, services, and entertainment online with the physical connection, just like cable. But unlike cable, it doesn’t pay for the privilege.

Cable and the internet are a lot a like. Both are networks. Both distribute entertaining and educational programs and services. Both are actually bundles. But unlike the cable bill, which must pay out to the various networks, the internet bill doesn’t pay the panoply of sites across the internet. It pays only the ISP.

Cable bundles content in a way that’s immediately obvious. The guide shows a raft of networks, and with digital cable, many of these programs are available on-demand. Cable permissions the content, pays the rights-holders, and distributes it over a proprietary network — all for a monthly fee. These networks and programs are the complement to the cable network.

The internet portion of the bill, whether it’s from the telecom company or the cable company, appears to do none of that. It’s billed as pure connectivity that terminates in an ethernet connection. The ISP may market tiered levels of access, so an online gamer can experience a faster connection and lower latency than someone who only needs to check their email and stream The Daily Show. Everything about how it’s billed, marketed and promoted would suggest it has only priced connectivity, but it’s not just selling connectivity. It’s selling a bundle, just like the cable side of the bill, and that bundle includes the manifold benefits of all the sites, services, and entertainment of the internet.

Bundles solve one very important problem for companies – pricing. Not every customer will value any one product or service in the same way. A price for one customer might be too high; for another, too low. One could price each good or service to suit each customer, but price discrimination on this order is inefficient and becomes costly with each transaction. Over an entire portfolio of products or services, however, variances in customer perception begin to even out. No customer may value any one product or service, but taken as a the whole, the bundle may be valued similarly by all. Erik Brynjolfsson argues that bundles provide greater pricing efficiency and higher profits, and with digital information goods — the internet — the bigger the bundle the better. This is the power of the bundle.

The ISP bundles connectivity and its network of complements in the form of sites, services, and entertainment available online. The internet bundle, however, is distinguished in one important way – market power. The ISP wields market power in two ways. It’s not only a means to maintain and perhaps increase pricing with the consumer. It is also through the lack of market power inherent in the network of complements that constitute the sites, services and entertainment available online.

Market power starts with an explanation. Economists assume that within a perfectly competitive market no one competitor would have the power to raise prices for a particular good or service. If they did, customers would switch to a ready substitute at a lower price. These are the conditions of pure competition, in which a particular good or service is a commodity. Experience would suggest, however, that markets aren’t always perfectly competitive. What characterizes this divergence? Market power. In those cases, the company has the power to raise prices without losing customers to competition. At the extreme, market power may manifest as monopoly.

The market power of an ISP that has captured most of our attention faces the customer. It starts with the high barriers to entry associated with having laid the local loop in the form of copper lines, cable plant, and now fiber. These barriers limit competition, often to a maximum of two players in any particular area: a telco, such as Verizon, and a cable company, such as Comcast. Indeed, the FCC’s 100 Squared initiative admits 85% of markets have only one player, and in the remaining 15% markets much of the legacy telco infrastructure has not kept pace with the cable offering, so there is effectively one player. As the Berkman Center’s Next Generation Connectivity report suggests, these are regional monopolies and duopolies that have enormous market power over the consumer. Yochai Benkler’s recent op-ed in the New York Times, for example, drew stark parallels between the generous service offerings driven by regulated markets internationally than the relatively stingy offerings in the US.

What has drawn less attention is the effective market power ISPs have over the sites, services, and entertainment online. It’s this condition that allows ISPs to sell the bundle but keep the money.

The ISP operates as a broker and bundler between the user and the Internet. While selling the connection to the customer, the ISP also effectively provides access to the sites, services and entertainment available on the internet. Similar to a cable package, these are the complement to internet access, but unlike a cable package, the ISP doesn’t have to pay retransmission rights. Access is free, ostensibly. Who set the price? Who has market power? The ISP.

The Pew Project for Excellence in Journalism follows the thread all the way to the end customer and dismal results. Some 82% of customers are likely to go somewhere else if their favorite news site were to begin charging for access, and only 35% even have a favorite news site. To customers on the internet, substitutes may be so pervasive and available that it often does not even merit a respondent’s identifying a single one. Taken literally, only 7% of online readers would pay for access to their favorite news site.

Does that mean that customers aren’t paying for news? No. Customers are paying for news. The internet bill isn’t just for connectivity. They’re paying for the bundle – news, among other sites, services and entertainment online. The service would hardly be a worthwhile transaction for as many people as it is at $40 a month without youtube, The New York Times, Amazon. But the ISP’s market power conveys the proceeds of the internet access bill to the ISP, not the media.

Each firm has lost business in, and has reduced investment in and output of United States equity research as a result of the free riding by Fly and other services. This is a bread-and-butter case of hot-news appropriation.

Benjamin Marks to US District Judge Denise Cote: via Bloomberg.

The case of Barclays v. Theflyonthewall.com provides a recent test of the hot news doctrine in the investment research industry. Claims that Fly on the Wall was just reporting the news from the free marketplace of ideas would not protect them. Instead, Judge Denise Cote’s findings of facts and conclusions of law following the March 8-11 bench trial would institute an injunction that embargoed recent headlines and materials from the plaintiffs from publication by Fly on the Wall. The news of her decision has lathered the industry into froth over whether Thomson/Reuters and Bloomberg may be next. But its application may be greater than that. Though the opinion ruled in an industry that is traditionally seen as different than the news industry – investment research – can its application in the broader news industry be far behind? Read the rest of this entry »

this push towards things becoming more open is probably the most powerful and transformative social change… We may be the company that really leads this movement….It’s not clear that anyone else is going to manage it correctly.

Mark Zuckerberg, outlining the steady erosion of the concept of privacy in our time: WSJ

Jessica Vascellaro’s cover-story in the WSJ seats Facebook in a tension between going public and Zuckerberg’s remarkable ability to “delay gratification” and take a seat in “a long queue of tech barons with grand ambitions.” The real story, however, may be in her subtle jibes at one who might become “world’s richest twenty-something.” More than a thinly veiled personal attack, Vascellaro may be hinting at something more substantial: that the question of privacy in the 21st century will be meaningfully shaped by an ambiguous and controlling figure. Read the rest of this entry »

Intellectual Ventures wants to define itself before someone else does. It’s been called a troll, a renegade, just another stop on shakedown street. Now, however, Nathan Myhrvold has launched a round of publicity that includes batteries from the New York Times (blogarticle) and a single shot from the Harvard Business Review. Myrhvold would have his readers believe that we are standing on the edge of a capital market for invention that will unleash and remunerate the full creative power of our economy, and Intelligent Ventures is just the firm to launch it.

Sometimes, however, a troll is just a troll. But Myhrvold is right. He’s not just a troll. Myhrvold’s ambition is greater than that. He’s planning an intellectual property cartel, and policy makers would be well-advised to monitor his project.

Myhrvold had the good fortune to work closely with Steve Lohr of the New York Times to publicize his manifesto in the HBR and share his vision. Lohr provides a patient and adulating witness to the quirky polymath. With an enterprise so shrouded in secrecy, Lohr understands that Myhrvold won’t just speak with anyone and chooses to reserve judgment and ingratiate himself with him: “white hat or black hat, Intellectual Ventures is growing rapidly and becoming a major force in the marketplace.” Lohr goes further, however, and instills the underdog spirit in Myhrvold, who exclaims, “We have to be successful,” following which Lohr warns us that the “issues surrounding Intellectual Ventures, viewed broadly, are the ground rules and incentives for innovation.” Josh Lerner, an HBS economist and patent expert, speaks up in the next sentence and says, “how this plays out will be crucial to the American economy.” Could Myrhvold’s success possibly be tied to answering crucial questions about the ground rules and incentives for innovation in the American economy? Lohr’s thoughtful organization might have you think so, and Lerner’s quote would seemingly substantiate it.

Maybe Lohr was uncomfortable with the persona he had attributed to Myhrvold, for he would couple his article with an early-morning blog post on Bits. While his print subscribers drank deeply of his David & Goliath – styled allegory on patent-law, he quietly published a clarification of the patent litigation dilemma. Lohr frames the next phase of IV in terms of solving the free-rider problem. The label is interesting for two reasons. First, it implicitly says what it is not. For example, it is not greenmail, as Jim Huston, a former licensing and patent executive at Intel, suggested in a 2006 Business Week interview: “If you don’t invest, you’re our No. 1 target.” Second, it suggests that there must be a simple solution to an unacceptable practice. Afterall, we’ve all heard about free-riders.

Intellectual Venture’s limited partners invested to protect themselves from trolls. If Intellectual Ventures can buy up loose patents, then the LPs have a quasi-insurance policy against trolls, who could just as easily, though more threateningly, buy those patents. Myrhvold initially called it a defense fund, almost a patent poolMore money means more insurance, but there’s a quirk. It may require litigation to work.

Though litigation may make Intellectual Ventures look like a troll, be assured, it’s not. Myhrvold claims to have only a reluctant interest in litigation. “It’s a stupid and inefficient way to resolve disputes, but in a polarized world, there will be litigation,” claims Myhrvold. It’s necessary, however, to solve the free rider problem. Some people have paid into the defense fund, others haven’t. IV’s hands are tied. They have to sue, so they can protect the interests of their initial investors. It’s their fiduciary duty.

The solution: bring new members into the Intellectual Ventures project. Litigation, or the threat of litigation, Myhrvold believes, will encourage others to join. As they join, he can manage the free rider problem and assure appropriate and legal access to the trove of intellectual property already collected, thus demonstrating the value of their initial investors’ decision to work with them, while creating a market for invention capital – a market for eureka.  “Our licensing task is to go from dozens of companies to thousands,” says Myhrvold.

Myhrvold’s vision would solve the free-rider problem, but it does not mean Intellectual Ventures is not a troll. Lohr mistakenly considers the free-rider problem in isolation. Intellectual Ventures does not have a free-rider problem in the vein of a public good. It’s not the case of a shipping association that has financed and constructed a lighthouse for their benefit, but may inadvertently serve that of the brigands, castaways and competitors who happen along. Lohr’s free-rider problem exists only because Intellectual Ventures has organized a Non-Practicing Entity to collect intellectual property with the intention of monetizing it for their limited partners. The free-rider problem in this case is that which is exploited by a troll.

It wouldn’t be wrong to just say troll, but Intellectual Ventures seems to be more than that. Myhrvold’s proposal would create a troll quite unlike anything that we have seen before – a troll with a cartel-twist: an intellectual property cartel. With “thousands of members” Myrhvold would have an agreement among competing firms to coordinate prices on a vast holding of intellectual property to the disadvantage of non-members. Patents are monopolies, so non-members will have no substitutes. Its alarming size would give it substantial reach in the intellectual property market and engender a network-effect, which would cultivate market power and make membership more valuable on a per-patent-basis as it grows. The problem with this isn’t the idea of patents. The problem is the power that an intellectual property cartel would have.

Intellectual Ventures would increasingly intersect with the interests and inventions of others. When it would, it would find itself better capitalized and equipped to pursue a claim. With growing resources, Intellectual Ventures would be able to take more risks with litigation, actual or threatened. A claim, for example, may be weak, but their credible ability to marshal legal action may force concessions and settlements where none may be merited. Because of the network-effect and the lack of substitutes, settlements and membership will become more costly on a per-patent basis. Moreover, with imperfect information on the scope and character of Intellectual Ventures’ holdings, it may only take a well-phrased bluff to induce a target into membership.

What happens in this model? What is the consequence of an intellectual property cartel? It raises the price of innovation. It puts smaller firms at a disadvantage. And it places us in a world where Non-Practicing Entities can lay in wait, as a hunter in a blind, lash out without warning and stifle the work of companies that may actually be organized to accomplish something, such as provide goods or services, with their efforts. Patents aren’t bad, but these outcomes are.

—part of the quotestream around IV

If I appear to be a total milquetoast and I say I’ll never [sue], then people will rip me off totally…I say, ‘I can’t afford to sue you on all of these, and you can’t afford to defend on all these.’

Nathan Myhrvold: WSJ 2008

You have a set of people who are used to getting something for free, and they are some of the wealthiest companies on earth. I was there. I was in the meetings. This is they way this business thinks about it.

Today invention is an area that people view as too illiquid, too uncertain, and too risky, so that nobody wants to invest in it. The world has shown that if you provide capital and expertise to an area that is starved for capital and expertise.

Nathan Myhrvold, on corporate respect for patents, BW 2006. Izhar Armony, a partner at Charles River Ventures, would say, “I think that Nathan is on to something really good and important. We share a common vision of thinking of [intellectual property] as an emerging asset class.”

The appeal is twofold: the opportunity to interact with a diverse group of thinkers purely for the sake of invention, and the efficiency with which IV translates imagination into intellectual capital.

Dennis Rivet, on working at Nathan Myhrvold’s Intellectual Ventures, which started as aPatent Defense Fund against trolls: BW 2006.

Bruce Sanford and Bruce Brown commented in the WSJ on “Google and the Copyright Wars” (11/12). Many are focused on the status of orphan works in the Google Books project, but Sanford and Brown argue that the idea of fair use and its application by search engines is the controversy’s center, not orphan works. Sanford and Brown would say that a search engine’s use of the web’s content is definite and definitely unfair.

Fair use of a book’s content, a website, or even the news underpins a search engine’s ability to find and deliver websites to users of the internet. Sanford and Brown stake out a position for search engines that is similar to a public library. Just as a library can employ the contents of its archive to establish an index for its patrons, the search engine uses the contents of the internet to establish an index for anyone at all. Sanford and Brown, however, contend that search engines are not libraries, so fair use does not apply.

Sanford and Brown argue that two distinctions separate search engines from the library model. Search engines not only copy text, they reproduce it in their results as snippets. Rights of reproduction are protected for copyright holders. Second, search engines sell advertising, and the sale of advertising is contingent on their ability to copy, store and reproduce copyrighted material. These distinctions, argue Sanford and Brown, disqualify search engines from the safe harbor of any exemption made for libraries. Their remedy: legislation.

The problem is, search engines don’t find safe harbor in the library model, and legislation is not the answer. Yes, a library applies fair use in its practices, and search engines have been compared to them in the past, but not all applications of fair use are found in the confines a library. This may be why they are so quick to demand legislation to expand copyright, even though expanding copyright may drive more business to the lawyers who protect it than the websites involved.

The Ninth Circuit court framed a four factor test for fair use in the case of Perfect 10 v. Google, et al in May 2007. The test would distinguish between copyright infringement and fair use in the case of Google’s use of Perfect 10 material in its search results. The four factors comprise: the purpose and character of the use; the nature of the work, ie fact-based or creative; the amount of the work used; and the effect on the market for the work. None of them invoke the metaphor of the library used by Sanford and Brown.

When Google displayed the Perfect 10 images, the Circuit determined that all four factors weigh in its favor. The images may have been highly original, but the results incorporate “an original work into a new work, namely an electronic reference tool,” and this is highly transformative: “a search engine may be more transformative than a parody because a search engine provides an entirely new use for the original work, while a parody typically has the same entertainment purpose as the original work.” Though Google would use a degraded thumbnail version of the image, its “use of the entire photographic image [is] reasonable in light of the purpose of a search engine.” The Ninth Circuit, therefore, reasoned that Google’s use of Perfect 10 thumbnails would be considered fair use. Though it didn’t provide a decision, it did suffice to vacate Perfect 10’s preliminary injunction against Google.

Sanford and Brown mistake the metaphor of a library as the only example of fair use when alternatives, such as the Ninth Circuit’s opinion, are perfectly acceptable. Perhaps this is why, having fleshed out their metaphor, they seize on legislation as a solution. Indeed, they would have Congress assert, “once the cache is monetized for the benefit of a search engine, the line of copyright infringement is crossed.” Isn’t this a sort of Hail Mary pass to rights-holders?
Legislation could make it illegal to monetize a cache without permission, but it’s not the panacea that Sanford and Brown are driving at. If the legislation mandated payments for rights-holders, it would, but this is probably not a suggestion that would be found in the pages of the Wall Street Journal. More likely, it would not, and it would leave websites in the position of the prisoner’s dilemma. If everyone cooperates and insists on payment, it will be to their mutual advantage, but the search engines direct so much traffic that each website has an incentive to break ranks; hence, everyone reluctantly opts in for fear that they’ll be the lone hold-out. In effect, it’s as though the legislation never happened, with one important distinction: there’s a new law on the books that requires a few good lawyers to understand. Perhaps that’s what’s really driving Sanford and Brown’s comment.

There is an exception, however. Not all players are equal in this game. Some may wager that holding-out is viable regardless of legislation or whether others do. That’s exactly what News Corp has done. They have begun negotiating a possible payment from Microsoft for the exclusive right to index their content. Though derided by many on the internet, should they find an agreement, their example will prove an important experiment in the question of paying for content.

George Will rightly takes Yosi Sergant, the NEA, and an August 10th conference call to task for politicizing the NEA. It perhaps signals an exhaustion with the Bush Administration’s attempts to do the same throughout the judicial system and provides an example to be avoided. Will, however, hitches to his complaint one unlikely carriage – a plea for no state funding of art.

Will’s argument goes something like this. Because “art is whatever an artist says it is, and an artist is whoever produces art,” Will imagines the Obama Administration certifying individuals artists on the basis of their politics and, more important, their ability to convey a political message. The NEA would be the ultimate propaganda vehicle. Its directors could recruit an army of “taste-makers” and “artists” to advance Obama’s politics on American culture under the banner of art. Will’s solution: no more art.

Would it were so easy.

There are several problems with Will’s argument, starting with his definition of art. Will is right to point out the controversy around defining art, but does it therefore follow that “almost everything” is art, just as a matter of one saying so? No. I might say something is art, and it may be hard to change my mind, but that doesn’t mean I have changed the mind of anyone else. And so, an artist might say something is art, but they might suffer a similar inability to convince anyone. Likewise, does that mean the NEA can come forward and decree what art is and art is not? It certainly could, but would it matter? Not at all, and it doesn’t mean art is “a classification so capacious it does not classify.” It just means that art is sometimes hard to pin down.

The Justice Potter test provides a simple and more meaningful alternative to defining art. Potter was asked for the definition of pornography – not exactly art, but a concept faced with a similarly perplexing resistance to definition. Potter avoided a specific answer and responded, “I know it when I see it.” Applied to art, Potter’s test claims that in many cases there is a clear distinction between what is art and what is not, but one should expect to be surprised. Somethings that look like art are not, and somethings that look like they couldn’t be art are. In most cases, it’s clear, but on the margin, it can get pretty controversial. And by the way, this isn’t unique to art. We find this phenomenon throughout any subject of judgement, such as the application of law. Will mistakes these controversies on the margin for the whole enterprise.

Administering NEA grants, therefore, is necessarily controversial, but it’s not a vehicle for propaganda manned by lobbyists directed by a political class. The NEA awards grants for art. In many cases, it’s clear what qualifies as art, but in some, on the margin, it’s just plain surprising. And there’s nothing wrong, let alone political, with that. Sometimes they’ll get it wrong, and sometimes they’ll find they’ve gotten right. We have to accept that it will be, at times, controversial, but that doesn’t mean there’s a conspiracy.

Which leaves Will’s final point: why are we even subsidizing art? Our only rationale, according to Will, is “art is a Good Thing, therefore public spending on it is a Good Deed.” He goes on to suggest that one realize the absurdity by replacing the word art with “surfing” or “religion” and recognize that subsidizing art is not much different than subsidizing corn, but “at least we know what that is.”

But is this ad-libs approach to reasoning appropriate? We’re not talking about surfing or religion or corn. We’re talking about culture, civilization, and our enlightened ambition to advance humanity. We’re talking about art, though perhaps, on the margin, surfing and corn.

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