Free does not live up to its billing

By John Gapper
Chris Anderson has built a career out of making bold pronouncements that the economics of Silicon Valley – the way in which software and digital technology are built and distributed – are likely to spread to, and ultimately conquer, the rest of the economy.
His first claim, in The Long Tail: Why the Future of Business is Selling More of Less, was that consumption patterns were being fundamentally altered by the plentiful and cheap shelf space provided by digital technology. Instead of most dollars being spent on hits, consumption would instead skew towards thousands of niche products.
Now Mr Anderson, editor-in-chief of Wired magazine, has followed that up with Free: The Future of a Radical Price, a manifesto for giving away products to consumers rather than charging for them. He writes: “There really is a free lunch. Sometimes you get more than you pay for.”
The obvious criticism of Mr Anderson's work is that, as Mandy Rice-Davies said of Lord Astor's denial of an affair with her: “Well, he would say that, wouldn't he?”
Wired is a West Coast magazine, grounded in Silicon Valley's software culture, where companies such as Apple profit from the free availability of “content” that runs on their far-from-free hardware.
Silicon Valley, and particularly Google, has a brutal variation of King Gillette's razors-and-blades business model. According to this theory, the razor is sold cheaply in order to get consumers hooked and then be inclined to buy pricey disposable blades. And in the case of the biggest company of the internet age, it gets newspapers, music, television and film companies to take the losses while it accumulates the gains.
Furthermore, the book is being published at a time when many US newspapers that followed the urging of internet seers and published everything free on the internet are going bust.
Mr Anderson has already been treated to a sceptical review by Malcom Gladwell, the New Yorker writer.
But it is not fair to dismiss Mr Anderson as a digital utopian who is in intellectual and financial hock to Silicon Valley companies: Free is more than propaganda for the West Coast clan. It is largely an insightful, steady and scrupulous analysis of the past and present of free products and services, and how digital technology encourages fresh experiments.
If it was not conceived so smartly and written with such verve, it would be in danger of being worthy but dull. Mr Anderson knows better than to allow his work to read like an economics textbook, however, and brightens up the text with clever historical examples and eye-catching assertions.
The problem is that he veers between sweeping statements and balancing paragraphs in a manner that leaves the reader unsure of what he is actually saying. It is an intellectual version of a ride in a New York taxi whose driver alternately pumps the accelerator and stamps on the brakes.
Early on, we learn: “The new form of Free is not a gimmick, a trick to shift money from one pocket to another [like razors and blades]. Instead, it's driven by an extraordinary new ability to lower the costs of goods and services close to zero. While the last century's Free was a powerful marketing method, this century's Free is an entirely new economic model.”
That is a big claim and it never really gets substantiated, at least not at the scale of Mr Anderson's rhetoric. Actually, quite a bit of what he claims to be new appears really to be the virtual equivalent of “buy one, get one free” or the cheap subscriptions long offered by US magazines.
The internet does, of course, change things. The biggest shift, which formed the basis ofThe Long Tail, is that it allows anyone to send out a digital product, from a document to a song, to everywhere on earth at such a low cost that it might as well be free.
Mr Anderson believes that this allows the vision of the French economist Joseph Bertrand to be fulfilled. As companies compete vigorously, prices fall to just above the marginal cost of production. Since the marginal cost of making a piece of software is zero, and the cost of digital distribution is zero, prices ought to fall to free.
His vision has two flaws. First, as Hal Varian, Google's chief economist, has pointed out, network effects unleashed by digital technology tend not to spawn free competition among equals but a “winner takes all” effect in which a single company emerges with all the spoils. In the software era, that company was Microsoft; in the internet era, it is Google.
The second flaw is that, even if the cost of digital distribution is lower than that of physical distribution, the marginal cost of production is not cut to zero. Companies have many costs, from marketing to employing people to make things. Offering things free on the internet is loss-leading just as surely as handing Jell-O recipe books to American housewives was in 1904.
The most plausible contender for an “entirely new economic model” made possible by the internet is what Fred Wilson, the New York venture capitalist, has dubbed “freemium”.
This refers to companies that allow anyone to use their products for free but offer a premium version for which a few users are persuaded to pay.
Many internet companies employ freemium, from Skype, which charges customers to make computer-to-phone calls, to companies that charge for more versatile versions of software, and media companies, including the Financial Times, which offers a tiered subscription model on its website.
Many companies, however, are still experimenting to see what, if anything, works.
By far the most effective ways to raise money from customers are either to charge them directly or to charge advertisers to reach them. Nothing else is half as effective in producing revenues and profits.
Mr Anderson does not really dispute this. Revenues from online and traditional advertising comprise at least half of what he dubs the global “free economy”, which he estimates at $300bn .
There is no question that the internet encourages companies to offer their products free but it has also encouraged a lot of them to burn through their capital and collapse. That is a new economic model of sorts but it is hardly salutary.

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