Scarcity (continued)

Michael Mandel responds with a comment on his blog that reveals the point he really wants to make.

But I'm just wondering whether "constrained optimization" or scarcity is really the most useful or interesting angle to approach economics with. Right now I have access to far more information, at a zero marginal money price, than I can ever consume (trust me...we in the MSM are living with the flip side of this right now). I could in theory set this up as a constrained optimization problem--time spent online versus time spent working. But solving the constrained optimization problem never would have shown me that blogging, say, or wikipedia, would be useful ways of organizing the flood of information.

Now we're getting somewhere. The textbooks of economics have not caught up with this. He is talking about the economics of information. This is in part a story of increasing returns (along the lines of David Warsh's Knowledge and the Wealth of Nations). This is about division of labor being limited by the extent of the market. And the internet suddenly make the market bigger--hence, blogging and Wikipedia, and so forth. The result is an incredible expansion of information "goods" and a seemingly limitless supply of said information. Some of it worth paying for (in money and time), some of it not (and some of it worth paying for, but offered free of charge...only costing you the time it takes to read it). Hence the market for news/blog aggregators. Hence the value of having someone or something sift and organize the wealth of information. Scarcity is ultimately still there, but not in its 19th century diminishing returns industrial form.

That's the stuff. Let's shift the discussion in that direction. I need to be somewhere in 10 minutes. More later.

UPDATE: Ok. It was not obvious from Mandel's proposed definition that this was what he had in mind. But given his position in the MSM, I can see where he is coming from. However, while the cost of transmitting knowledge has decreased dramatically, this does not eliminate the problem of scarcity--even from markets where such knowledge is traded. The basic tools of economics do not need to be thrown out. Issues of market power become more important. Pricing decisions and intellectual property rights are pushed to the fore.

Here's an example. Suppose you run a web site with free and premium content. The decision about what to make free and what to put behind the subscription wall and what price to charge is one that requires solid economic logic. It's still a profit maximization problem--as surely as for a manufacturer of widgets. But the cost structure is different. Network effects must be addressed. The key determining factor in your decision is going to be what kind of value you provide for the customer. Through your pricing strategy, you try to capture some of that value. (Elasticity of demand matters!) The firm in the knowledge economy wants to know how to provide value, how much of its product to license publicly vs. keep proprietary, and how to effectively segment the market and practice price discrimination. New uses for old tools.

So we are talking about pricing decisions in the presence of very low marginal costs of production--not exactly an area which hinges explicitly on scarcity. However, scarcity is lurking not far away. Think about the way in which a content provider has to think about marketing itself. Mr. Mandel's time is scarce. An information producer has to figure out the best way to get itself in front of his eyeballs--otherwise it's a tree falling in the forest with no one around to hear it. Positioning itself on scarce advertising real estate, exploiting network economies ("such-and-such links to it on his blog..."), and setting its pricing strategy all come together to determine whether the venture is a success. Scarcity and choice are clearly part of what is going on.

But it's not the Malthusian, diminishing returns sort of scarcity that most people associate with the word (and with economics in general). So, in that sense, I understand why he would want to downplay it. Indeed, as I said in the previous post, I do not include the word "scarcity" in my one sentence definition even though I thoroughly address it in my classes.

And since the story can be told quite well by applying the old tools in new ways, I don't see any reason to radically change the definition of economics. However, I do hope that textbooks can catch up and tell the story of innovation and pricing with high fixed costs and low marginal costs. (There are some specialized texts that are starting to, but it hasn't filtered down all the way.) That would be an improvement.