Web 2.0 Economics 101

This is going to be a short post about economics, a subject I never studied in school. Even though I am no Bernake, I do know one thing: capitalist economies operate on supply and demand. As supply goes up, it indicates that demand is heading down. As demand goes up, then it points to supplies going down. Any 7th grader knows that. It's the law. (Tell me if this severely math-challenged monkey has this all wrong.)

Yet people are not thinking about economics when it comes to the web - particularly Web 2.0. Here are two key trends to consider.

A) As the supply of content rises, attention decreases and demand lowers -  e.g. traffic thins
As I wrote earlier this week, the entire concept of measuring sites on traffic is becoming totally moot. Why? Yup, good ol' uncle supply and demand. It's much harder to attract people to web sites when there's much more content and it becomes a commodity. The people who got in early and achieved scale or have a truly differentiated approach will be the winners (thanks in part to Google Juice). The Attention Crash is another force at bay here too. It's directly related.

B) As the supply of ad-supported media rises, inventories swell - e.g. this equals less ad revenues
There's a good story on Reuters today about how there will not be enough ad dollars to go around to all of the sites that hope to make money from it. Why? Yup, uncle supply and demand. As media proliferates, the ad budgets gets flattened across all of these sites. There is one key exception, however. Advertisers still - for now - like to buy lots of eyeballs. So once again uncle supply and demand spoils all the fun and that's why consolidation rules.

The economics of the web are truly deflating. These two trends are directly related. When people start ignoring basic economics that spells trouble (which rhymes with bubble). If you're a start up or an advertiser, pay attention to these two trends. They will have a big impact. It's going to get very hard for advertiser-supported startups to get any scale when it comes to revenue.

Comments

[Michael Bailey]

Yeah Steve - you nailed it with this one. Funny how people "forget". I can hear them now..."but...but...this is the Internet - it's magic!"

[John]

As supply goes up, demand goes down. As demand goes up, supply goes down.

You really might want to get a book about economics.

[Steve Rubel]

Thanks John I've edited my post to make it a little more clear. Like I said, I am not an economonkey. Still, I do see a trend.

[Thomas Terry]

The prediction depends entirely on the efficiency of the current marketplace remaining the same.

Here is why. As the supply of content increases, the best and most relevant content will always garner the majority of traffic (but ever shrinking). And, smart people will continue to discover smaller and smaller niche markets that exist and develop content that appeals to those niches.

As this occurs, there will be a further democratization of advertising (al la Google Adwords) that will enable a greater number of people and companies to advertise to a much smaller but VERY targeted audience at a lower total cost. As companies are enabled to reach their target market with much less inefficiency and waste, the cost per impression goes up while the campaign cost drops.

My prediction -- advertising will continue to become more efficient and individually targeted. As the Long Tail demonstrates, niche advertisers will likely make up a greater and greater portion of the total advertising revenue.

[Patrick]

You've misstated your point but in they way most people misstate it for shorthand...supply and demand actually go "up" and "down" *independently*. What changes is the price at which they "meet" - the clearing price. To logically make the sort of point you are trying to make, you actually need to hold either supply or demand *constant*. So to properly state your points (which are really the same point restated using different currencies to measure price), I suggest restating as follows:

A) As supply of content goes up & demand for that content stays constant, the price we are willing to pay per piece of content (in attention) decreases.

B) As the inventory of ad supported content goes up & the demand for that inventory stays constant, the price per unit of inventory goes down.

Important to note that in these scenarios, aggregate attention and revenue *may go up*, that is the economy may get bigger. It's the price per unit that goes down...hence a push for businesses to play for either efficiency (keeping costs low) or volume (aggregating many transactions).

[Trey]

Hi Steve... Sorry but you can indeed have supply and demand increasing at the same time. And vice versa. They are not necesarily tied to one another. For example, more and more people demand iPhones. And Apple supplies more and more iPhones to meet that demand.

Even in the digital world, you can (and do) have increased content supplied. And time spent demanding then consuming this content has been increasing as well. For a specific site, what you write may be true, but what you write is by no means economic law.

If this were an Econ 101 class you would likely get a C- (some points for effort). Sorry!

[Patrick]

Two additional things worth noting (separate post in case you want to ignore/delete)

1. In the attention economy (the media and entertainment industries) it is useful to treat demand as constant (i.e. "people only have two hours a day to spend on entertainment) because there is no substitute for the currency of time (we can make more money, but we cannot, as yet, make more time).

2. Even in the case that demand goes up (due to factors out side of the industry like shorter workdays leading to more entertainment hours), the point of these statements still holds even if demand increases, as long as it increases *less than supply*.

[Patrick]

Finally, the least immediately relevant, but the most interesting thing to note is that it is possible for businesses to unlock markets within the attention economy (capture latent, unmonetized demand) as Google did with AdWords and as we intend to do with future products at ffwd.

[Joel]

As supply goes up, it indicates that demand is heading down. As demand goes up, then it points to supplies going down.

No. Just no. What you're thinking, is that as price increases, ceteris paribus, quantity supplied increases, and quantity demanded decreases, and vice versa. But to refer to an increase in supply, means that the entire supply line shifts down, and to refer to an increase in demand, means the entire demand line shifts up. These are entirely independent events.

[Albert Maruggi]

Steve may not be an economist, but his point well taken and as I see it, the question is, How is this content going to be paid for or justified? Ben Hammersley articulates how bloggers put pressure on the value of middle of the road editorial writers and columnists. His article Converging Lines Sep 2006 is excellent http://www.frontlineclub.com/club_articles.php?id=2

It is a supply and demand issue, yeah he's got that wrong. Traffic thins on once popular sites, but total traffic for that content might not thin. I believe those on top today are the ones who stand to loose traffic. Every product and brand has its cycle. The issue will be consolidation, networks, or aggregators on the question of monetizing web content.

Others may not view providing content as a way to gain ad revenue, they may view it as an expense, an effective expense at that.

Good luck on the econ, I changed my major as a sophomore and never looked back.

[Paul Montgomery]

As supply of ignorant Steve Rubel posts about economics goes up, demand for them goes down.

[Derek Abdinor]

good post Steve,

Trad Media and the music industry are having to question their models, urgently. Why do we expect advertising to be exempt from this: because its visible all the time on this medium we should't assume it doesn't need to change. Why no heralding of Advertising 2.0?

Look at friending and soc networking. Content may be trite and unimportant, but the popular dude will get the hits. Imagine if Facebook paid commission ($1 per 10 hits*time spent on page*ads clicked)

yeah, so my economics sucks too. I'm a filter, not a cruncher.

[r]

As supply goes up, it indicates that demand is heading down. As demand goes up, then it points to supplies going down. Any 7th grader knows that. It's the law. (Tell me if this severely math-challenged monkey has this all wrong.)

Just stick to using frameworks you understand. Don't write about economics ever again, Steve.

[Colin Henderson]

Steve, economic credentials aside, you are hitting on an important point imho. Internet is not about (only) advertising. Said another way, advertising will not support the entire internet. Some content will by driven by advertising, just as some MSM is driven by advertising.

Internet is a medium for business, and that requires business models, which encourage people to want to be there, participating, buying, transacting etc. Advertising is only part of the picture. As hinted in the Reuters article you reference, advertising is only part of the supply picture.

If we look out 10 years, advertising might be part of how consumers (people) find things, but my bet is that will be in the minority. Word of mouth & social methods will be the larger part of the picture.

[Doug Clinton]

Steve,

Apart from the other glaring mistakes in your understanding of economics (most of which have been pointed out already in other comments), your argument assumes a constant demand. In this case, a constant number of people looking at content on the internet, each with a constant amount of time to spend. Both assumptions are wrong. Each year more and more people are getting on the internet (largely driven by the supply of better and more easily accessible content). At the same time, more and more people are diverting the attention time they spend on other media (TV, newspapers, etc) to internet content.

So it is not simply apparent that the increase of content is diluting the overall economy. It is a much subtler question of how the supply and demand are growing in an interrelated way.

[Dave Fleet]

The business grad in me is screaming, "noooo" at your economic theory but the social media guy in me loves the way you think.

I have to agree with a couple of other commenters - my take is that both supply and demand are growing.

It may be, however, that the increase in content is outstripping the increase in advertising, which I think is what you're getting at. If so, that would drive the price of advertising down, causing big problems for advertising-related startups.

[Yen]

Steve,

Putting the overall demand/supply debate aside, I think there maybe a different issue. While there certainly has been an explosion of supply, I would argue that their hasn't been a corresponding increase in high quality supply. There is demand for high quality inventory that can help advertisers reach their target consumers in the appropriate context(s). And that if advertisers could get more of this quality inventory, there would shift more off line advertising online.

For example, when I ran Travel at Yahoo, Yahoo overall had billions of ad impressions (no surprise) unsold, but all the high quality and targeted inventory on Travel and on Yahoo was sold out at massive premiums. Premiums over pay-per-click and over run of site. We could seldom meet the needs of our advertisers for more "of the good stuff".

On a more self-centered note, we have started a travel planning site (www.kango.com), focused on enabling consumers to search based on their desired experiences (e.g. Monterey romantic hotels or warm weather family beach destinations) and give advertisers high quality experience and graphical inventory rather then price and text-based inventory to target their consumers with.

[kathy gill]

Hi, Steve -- this statement isn't really correct:

As supply goes up, it indicates that demand is heading down. As demand goes up, then it points to supplies going down.

The law of supply and demand says that as prices decrease, people are willing to buy (demand) more but businesses are interested in selling less, all other things being equal.

However, if supply goes up and the firm had not increased its prices, then yes, one can argue that demand *for that product* is dropping. As to why it's dropping -- there are lots of possible reasons.

There is also the demand for individual product (content) - which is the subject of micro-economics - and demand for the aggregate product (all content on the web) - which is the subject of macro-economics.

The demand for the second can be going up while the demand for the former is going down.

That said, the economics of information, especially on the internet, is VERY different from the economics of coca-cola or housing -- because the second two are rival goods and the former is not. The traditional economic system is built upon scarcity -- which is "missing in action" on the Net. One or 10 or 100 of us can read your blog at the same time w/out impacting one another's experience. Only one of us can read a the same story in a copy of the NYT at the same time.

I encourage you to rethink your economic models -- although I agree that the space available for a given set of ads in a given piece of content falls under the scarcity model because page real estate is limited. Read Benker. Or Lessing, even. Or see my reading list for my economics class: http://neteconomics.wordpress.com/

Cheers!

[randy]

Cool thing!

[buddy]

Yes its really cool

[monica]

If both supply and demand for a good increase at the same time, which of the following must also increase?
a) equilibrium price
b) the use of substitutes
c) equilibrium quantity
d) all of the above