Entertainment and Media: Markets and Economics

1. Entertainment and Media: Markets and Economics Professor William Greene

2. Economic Foundations for Entertainment and Media Pricing and Value for Experience Goods

3. Demand and Value • Demand and Demand Curves • Pricing • Pricing strategies • Price discrimination • Pricing innovations

4. “Value” • What is it? • From the consumer’s viewpoint • From the seller’s viewpoint • Creating Value • Capturing Value • Meaning • Sources of value

5. Pricing and Value from the Consumer’s Viewpoint

6. Reservation Price:Price Strategy Under Uncertainty Your reservation price is $2,500. Auction to take place in 5 days. What would you do now?

7. Price and Value Is it ethical to buy something at a yard sale or a flea market at the seller’s asking price if you know the value of the item to be significantly higher than what is being asked? Let’s say, for example, someone is selling an old comic book worth thousands of dollars but asks for only a quarter because he or she does not know the true value. Is it incumbent on the seller to do his or her research? If the seller does not, is it fair game? The operative word in your question is “true” directly placed before the word “value.” You suggest the “true value” of a specific comic book is a few thousand dollars — but all that means is someone might be willing to pay that much for it, based on extrinsic qualities (rarity, for example). To the person running the flea market, the “true value” of the comic book is virtually nothing. There is no “true value” for any object: it’s always a construct, provisionally defined by a capricious market and the locality of the transaction. Things cost what they are being sold for, and they’re worth whatever the seller can get. … Look at it like this: Let’s say the person at the flea market was selling that same rare comic for $2,000. You, however, would be willing to pay far more than that; because of its sentimental value and the status it will bring among your comic-book-collecting peers, you’d gladly fork over $5,000. Would you feel the need to inform the seller, “You know, I’d actually pay you $3,000 more than what you’re asking”? I don’t think you would, and no one would expect you to.

8. An Important Aspect of Prices for Experience Goods: The Implicit Price • Nominal price: $170 • Implicit price: $ far more than $170 • Transportation • Time – at least 5 hours in total. • This divergence is characteristic of experience goods. They take time to consume. The time used up having the experience is part of the price. Kelly Clarkson,Beacon Theater

9. Consumers Valuation of Products Surplus Value: Consumers must perceive “value” over price. By Attributes: Hedonic Pricing $3000+ The high price was one of the reasons for market failure. Consumers did not get enough surplus value.

10. Appropriable Profits in a Market Come from Consumer Surplus • Final demand for a good or service • Stages in the delivery to the consumer • Total appropriable rent in a market • Surplus from the seller’s viewpoint This is the total consumer surplus that can be extracted from all stages of this market. Different buyers have different reservation prices. Therefore, demand curves slope downward. Price Pm Qm Quantity

11. Scalping: Reallocates the Surplus Why does Ticketmaster care? Do Hanna Montana and the Spice Girls care?

12. A Merger Made in Heaven

13. Why We Worry About this Merger • Horizontal Issues: Will the large market share enable them to raise prices? • Vertical Issues: Will control of venues and artists enable anticompetitive practices? • Foreclosure from markets • Bundling

15. Live Nation Also Owns Tickets Now • Ticketmaster and Live Nation were opposed by DOJ • Tickets Now is LNE’s own scalper. • This is a vertical integration case. • We will revisit later in the vertical integration section.

16. Economic Foundations for Entertainment and Media Strategic Pricing for Experience Goods

17. Demand Concepts • Prices • Reservation price • “Value” • “Bargains • Consumer Reaction to Changes in Price • ”Elasticity • Long and short run effects • Consumer Reaction to Changes in Income – Recreation is the Normal Good (“Why do we work?”)

18. Applying Price Theory to Experience Goods • Different results from consumption: Humdrum goods vs. Experience goods • Implications for pricing and price strategies • The “price” • Monopoly pricing results

19. Demand Curves from the Seller’s Viewpoint • Elasticity of demand • %change Q/% change x • Income, price • Long run, short run • Market power • Consumer surplus • Relation of surplus to profits in a market

20. Pricing Strategies • Exploit pockets of market power • Take advantage of market imperfections • Exploit unusual market configurations

21. New Broadway Math • 2001: Record price: $100  Producers $480 • 2006 Average price about $65 • 2006: “Premium Seats” (The Producer) $200-$500 seats are routine. • Had underestimated the number of inelastic buyers.

22. Price Determination-Standard • Under conditions of “intense” competition • In the presence of “market power” Market power is the ability to elevate price above the competitive norm. Short run profit is obtained by transferring consumer surplus from buyers to the seller. P* Marginal Cost Demand Qm Marginal Revenue

23. Monopoly Pricing Monopolist will price where MR = MC. If MC > 0, this must be in the elastic region of the demand curve. For a performance, MC = 0. Price |Elasticity| > 1(Elastic) |Elasticity| < 1 (Inelastic) MC D Quantity MR If the |elasticity| is < 1, the price is too low. MR is < MC. Basic theory would not predict that a monopolist would price in the inelastic region of the demand curve.

24. Connolly, M. and Krueger, Al, “Rockonomics” http://www.irs.princeton.edu/pubs/pdfs/499.pdf Concert Ticket Prices: Live Nation Effect

26. The Pricing Conundrum in Major League Baseball • Empirical Models of Demand Produce Price Elasticities between -1 and 0. • Team owners could raise revenue by increasing price • Are team owners pricing irrationality? • (I assume models that produce positive elasticities are misspecified)

27. “A current finding in estimates of the gate demand for sports events is pricing in the inelastic portion of demand.” This finding has puzzled analysts who study the demand for sporting events because it suggests that owners could raise ticket revenue by raising ticket prices. Estimated Long-run Elasticities of Attendance Elasticity Real Ticket Price ANA -0.88 ATL -0.57 BAL 0.72 BOS 0.57 CIN 1.95 CLE 2.74 DET 0.78 HOU -2.31 KCR -1.46 MIL -1.14 MIN -0.46 NYM 0.85 NYY 0.73

28. Are owners really pricing irrationally?

31. A Theory That Produces Pricing in the Inelastic Region • Monopoly Pricing Model for Tickets=Q(P,q,m), P=Price, q=quality, m=market conditions • Pricing is cognizant of a second good; Concessions=C(R,P,q), R=concession price • Total profit from both Tickets+Concessions • Ticket Price might be low to draw people to the concessions. Marberger, D., “Optimal Pricing for Performance Goods,” Managerial and Decision Economics, 1997, 18, 5, 375-381.

32. Examples • Concerts and “Stuff” • Sports and Skyboxes plus all the other stuff including food • Movies and the food concession stands

33. Two Part Pricing Strategy: Movie Studios to Retailers – Videotapes Tapes: Marginal Cost = $3.00 • One time: $70.00 - $80.00 • Revenue Share: $8/tape + x% of rental • Unclear which was the better price strategy

34. The Disneyland Dilemma Two part tariff (price): Entry Fee Fixed Marginal Fee Per attraction Higher Fixed Fee (and lower Marginal Fee): Control the number of people who come to the park. Extract $$ from consumer surplus at the gate. Higher Marginal Fee (and lower Fixed Fee) More people come to the park and spend more on rides. Theoretical result: Charge a very high Entry Fee and zero Marginal Fee. Disney: Two part fees 1955-1982; One part 1982-now A Disneyland Dilemma: Two-Part Tariffs for a Mickey Mouse Monopoly Walter Y. Oi The Quarterly Journal of EconomicsVol. 85, No. 1 (Feb., 1971), pp. 77-96

35. Mixed Pricing Strategy: Adventureland, Farmingdale NY Allow customers to sort themselves into low and high elasticity groups. (High ride price elasticity buyers will choose the POP ticket.)

36. Rye Playland, Rye NY

37. Pricing and Value from the Consumer’s Viewpoint

38. Event Consumer Surplus Price=15; 9,000 people willing to pay 70 20,000 people willing to pay 60 (including the 9,000) 40,000 people willing to pay 30 (including the 20,000) 56,000 people willing to pay 20 (including the 40,000) 64,000 people willing to pay 15 (including the 56,000) Price Per Ticket 90 80 70 60 50 40 30 20 10 0 = 9,000(55) = 495,000 = 11,000(45) = 495,000 = 20,000(15) = 300,000 = 16,000(5) = 80,000 = 1,370,000 15 Tickets (1000s) 0 8 16 24 32 40 48 56 64 How can promoters capture the consumer surplus in markets like this?

39. A General Rule for Price Discrimination • Greater profit extracted from the less elastic buyer • Rule: (Price – Marginal Cost)/Price • = price cost (profit) margin • = 1 / |Price Elasticity| • Generally means higher prices charged to less elastic demanders • Always greater profits than a single price

40. Perfect Price Discrimination • First degree discrimination • Every consumer pays their reservation price • The seller extracts all surplus value • Profit is maximized absolutely Price Marginal Cost Demand Quantity

41. Yield Management: Attempt to apply first degree price discrimination • Yield Management: A form of price discrimination • Fixed, perishable product • Low (or zero) marginal cost • Segmentable markets • Applications • Airlines: Timing of sales; fare classes • Hotels: Timing of sales, length of stay • Car Rental: Insurance and damage waivers, upgrades • Sports: Quality of seats • Concerts: Bundling, backstage passes • Online sales (attempts, e.g., Amazon)

44. 2002 Mets Play Ball!

46. 2003 Mets Price Experiment

49. Dynamic Pricing

50. Dynamic pricing might also work for commodities priced on the internet. Time of Purchase Another tactic implemented by the airline industry is changing prices based on the time of day. They do this using analytics to determine the time of day at which most of their customers are purchasing tickets and charge higher prices at those times. This allows them to increase revenue and tailor their prices to the demand on the site. It is a little known secret that Amazon uses similar techniques and changes their prices multiple times a day to match the demand for an item. This type of variable pricing is harder to use than the other two because it requires constant monitoring to determine the appropriate price. Amazon and others have developed algorithms that do this for them and as these algorithms improve it is likely that more businesses will use time based pricing. http://spinnakr.com/blog/ideas/2013/08/variable-pricing-models-work-for-tech-startups/