Internet Exchanges for used books: An empirical analysis of product cannibalization and welfare impact.


In this blog post I will provide a summary and discussion of the article Internet Exchanges for used books: An empirical analysis of product cannibalization and welfare impact, written by A. Ghose, M.D. Smith and R. Telang. This article was published in Information systems research in march 2006 and can be accessed for free. The URL to the article can be found in the reference list.

The market for used books is nothing new. Even before the rise of the internet people have been buying, selling and sharing used books. Since the inception of the online market platform amazon.com this process has become much easier. In contrast to a brick-and-mortar bookseller, Amazon is not limited by geographical location or shelf space, and can sell for a lower price.

Groups like Association for American publishers believe that used-book sales through Amazon will cannibalize new book sales and even “threaten the future of authorship.” (Russo, 2014). Ghose, Smith and Lang put it to themselves to quantify and publish the effect of used book sales though amazon on the welfare for all stakeholders, and it is these findings we will analyse.

Let us start with the theoretical analysis.

The authors identify two ways the market for used books has an effect on the market for new books. These effects are dubbed the price effect and the substitution effect. The price effect works as follows: when there is a market for used goods, such as books,  a consumer will be willing to pay more for the product because he can sell it later on the used-goods market. A consumer that values a book at $25 will be willing to pay a maximum of $40 when he knows that he can sell this book on the secondary market for 15. This mark-up, which is equal to the second-hand price is a direct welfare gain to the original seller.

The second-hand market also creates a substitution effect: For many consumers, new and used products are substitutes. Some people who would otherwise have bought a new product will instead buy a used version. This is the cannibalization the authors guild is afraid of.

The welfare gain or loss to the publisher is therefore the net effect of the price effect minus the substitution effect. A positive number means welfare gain, while a negative number means welfare loss.

The empirical evidence seems to indicate that the substitution effect outweighs the price effect. The authors’ results show that publishers lose about $45 million, or 0,03% in gross profit per year from amazons  used book market. Consumer surplus is estimated to be around $67 million annually, and Amazon’s increase in gross profit from used books amounts to about $88 million annually. The net effect on welfare is therefore positive, with consumers of books and amazon’s shareholders being the clear winners from this development, and traditional book publishers losing out.

According to the researchers’ data, only 16% of used book sales through amazon cannibalize new book sales, while 84% of used books would not be sold without amazon. This 84% helps explain the net welfare gain. Amazon sells these books above cost, therefore creating producer surplus. Consumers value the books above their sales price, which is where the consumer surplus comes from.

What about the authors? Are they helped or hindered by the rise of amazon?

The researchers did not investigate the effect amazon has on the authors themselves, which could be an interesting topic for further research.

One effect on author welfare that must be considered is what is known as the “Long tail effect.”

Because physical stores have limited shelf space, they generally only sell items that are popular. This is great for authors of popular fiction, but that means there is less space in the store for niche books. This is unfortunate for the authors of these books, but do the customers ever care? According to the Long tail theory, the answer is yes. The theory of the long tail effect postulates that the demand for goods that are not sold in physical stores might as big as, or bigger than, demand for goods that are. Because amazon.com and similar online platforms are not limited by shelf space of physical location, they are better equipped to fill this demand. This is great news for authors and consumers of niche books, and an additional source of welfare gain.

amazon

Source: Brynjolfsson, Yu and Smith (2006)

There is also an additional threat to the welfare of authors that was not mentioned in the articles: the rise of e-books. Traditionally, the net profits of a book were split evenly between publisher and author. For e-books , the author receives a much smaller share of net profits. The division of profits differs from publisher to publisher however, and this topic is still hotly debated between authors, publishers and amazon. Only time will tell how the market for e-books will develop.

Conclusion:

Since the inception of amazon.com the market of used books has grown to a size never seen before.  While it is natural for publishers to worry that this will cannibalize new book sales, this fear is largely unfounded. New and used books are imperfect substitutes at best, and many book sales would not have occurred without amazon. Because the platform is less limited by physical constraints, amazon can serve niche markets in a way physical stores cannot, thereby increasing welfare for consumers and writers of niche books.

Will e-books help or harm authors? How will the market for books, new and used, develop from here? Can traditional booksellers capitalize on the digital revolution? I’m interested to read your thoughts and ideas in the comments.

Martin Braakhuis

S.I.D: 333718mb

References:

Ghose, A., Smith M.D. and Telang, R. (2006), Internet Exchanges for Used Books: An Empirical Analysis of Product Cannibalization and Welfare Impact, Information Systems Research Vol. 17, No. 1, March 2006, pp. 3–19

Available: http://pages.stern.nyu.edu/~aghose/UsedBook.pdf

Brynjolfsson, E., Yu, H. and Smith M.D. (2006), From Niches to Riches: Anatomy of the long tail. Sloan Management Review,  2006, Vol. 47, No. 4, pp. 67-71.

Available: http://www.heinz.cmu.edu/~mds/smr.pdf

The Authors Guild (2014), Letter from Richard Russo on the Amazon-Hachette Dispute

Available: https://www.authorsguild.org/industry-advocacy/letter-from-richard-russo-on-the-amazon-hachette-dispute/-math-the-house-always-wins-2/

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2 responses to “Internet Exchanges for used books: An empirical analysis of product cannibalization and welfare impact.”

  1. Vincent Laduc says :

    First of all the exchange of used books is an interesting and important topic, since books have long been important for us to obtain knowledge (Yang, et al., 2013). This means that buying and selling (used) books is contributing to this impact, since reading or studying a book is more important than the actual ownership. However, the ownership of books is changing, since electronics devices offer a substitute for the consumption of the book’s content. This will continue to result in an exponential growth of eBooks, since its revenue is expected to rise from 2.31 billion in 2011 to 8.69 billion in 2018 (PwC, 2015).

    The question remains if this new form of book content consumption is beneficial to obtain knowledge. Liang and Huang (2013) claim that it is plausible that a student is able to benefit from digital reading. In contrast, Norman and Furnes (2016) conclude that digital book consumption does not have a consistent effect on metacognitive calibration or resolution. In extent, Wright et al. (2013) also concludes that there are no significant differences in vocabulary and reading comprehension between digital and non-digital consumption, but adds that students are more likely to utilize other resources to further engage with the digital text. Therefore we should expect further growth of eBooks and digital consumption of the content in the future, since new resources, functionalities and interaction can be added to digital books (and cannot be added to paperback books). Especially young people (e.g. students) have a high level of acceptance towards mobile technology-assisted learning systems (Yang, et al., 2013), and this might motivate us to find new unique ways to interact with electronic texts more effectively (Daniel & Woody, 2013).

    I still believe that sharing (by selling) our old paperback books is relevant and important to extend our knowledge, but this trend will be substituted by the consumption of the same content through electronic devices. From my perspective it is about the consumption of the content and not about the physical material you are reading it from.

    References:
    Daniel, D. B. & Woody, W. D., 2013. E-textbooks at what cost? Performance and use of electronic v. print texts. Computers and Education, Volume 62, pp. 18-23.
    Liang, T. H. & Huang, Y. M., 2013. An investigation of reading rate patterns and retrieval outcomes of elementary school students with E-books. Education Technology and Society, 17(1), pp. 218-230.
    Norman, E. & Furnes, B., 2016. The relationship between metacognitive experiences and learning: Is there a difference between digital and non-digital study media?. Computers in Human Behavior, 54(29), pp. 301-309.
    PwC, 2015. Revenue from e-book sales in the United States from 2008 to 2018 (in billion U.S. dollars). [Online] Available at: http://www.statista.com/statistics/190800/ebook-sales-revenue-forecast-for-the-us-market/ [Accessed 23 September 2015].
    Wright, S., Fugett, A. & Caputa, F., 2013. Using E-readers and internet resources to support comprehension. Educational Technology and Society, 16(1), pp. 367-379.
    Yang, C. C., Hwang, G. J., Hung, C. M. & Tseng, S. S., 2013. An evaluation of the learning effectiveness of concept map-based science book reading via mobile devices. Education Technology and Society, 16(3), pp. 167-178.

    • laduc01 says :

      To avoid indistinctness, I have posted this comment without my WordPress account. Therefore hereby my student number:
      Vincent Laduc – 417658vl

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