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Long Tail Economics

Long Tail Economics. Implications of Power Law Distributions. The Long Tail. Sales by sales rank: Blue line for Brick and Mortar Retailers; Red Line, Internet Retailers. Long Tails and Power Laws. S = aR k S is quantity sold R is sales rank of individual titles

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Long Tail Economics

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  1. Long Tail Economics Implications of Power Law Distributions

  2. The Long Tail Sales by sales rank: Blue line for Brick and Mortar Retailers; Red Line, Internet Retailers

  3. Long Tails and Power Laws • S = aRk • S is quantity sold • R is sales rank of individual titles • A log-linear equation: Log S = log(a) + klog(R) • Brick and Mortar Retailers • Market is limited to local area • Inventory is limited by high probability that low ranking items will not sell • Internet Retailer • Market is national or international in scope • Inventory relatively unlimited; even low ranking items likely to sell

  4. Traditional retailer’s products account for only 10% of Online retailer’s inventory, 75% of revenues, 66% of profit

  5. Traditional vs. Online Retailing • For Traditional Music Retail • New album releases account for 63% of sales in 2005 • The top 1000 albums make up almost 80% of sales • At big-box retailers, top 200 account for 90% of sales • For Online Music Retail • New music accounts for one-third of sales with two-thirds from older “catalog” items • The top 1000 albums account for less than 33% of sales • Albums beyond the top 5000 account for 50% of sales

  6. Power Law or Long Tail Markets • Require (Anderson): • Variety (differentiated products) • Inequality (variations in “quality”) • Network effects that amplify differences • Notice similarity to superstars • Imperfect substitutability among “goods” • Some sellers (“performers”) are preferred to others • Differentiated products • Economies of scale in production (realized online) • Costs of production do not rise in proportion to a seller’s market • Access to a market of large or increasing scope (due to Internet) • Often due to technological change • Online Retailing is a Superstar Phenomenon

  7. Online Superstars • As online music markets grow • Total number of retailers declines • Traditional retail has become limited to • Big-box retailers carrying 4,500 albums or less • Small local “specialty” retailers often selling “used” music as well as new • Online Retailers expand • Amazon carries about 500,000 albums (CDs) • iTunes, Amazon, Pandora, Spotify can carry almost unlimited digital inventory at near zero marginal cost

  8. Infinite Variety? About 30,000 items WalMart ≈ 5,000 500,000 items

  9. Power Law sales distributions display “Self-similarity at multiple scales” If S = f(R) = aRk , then f(cR) = a(cR)k = ck(aRk) = ckf(R), where c is a constant.

  10. What Makes the Long Tail Change? • Anderson • Increasing market scope (technology) • Network effects and filters or search functions • Niche titles’ sales increase relative to hits • Bentley, et al. • Random copying behavior with “u” fraction of “innovators” • Produces power law sales distributions • Increasing numbers of “innovators” increases top list turnover producing a longer tail

  11. References • Anderson, Chris. 2006. The Long Tail. Hyperion: New York. • Bentley, R. Alexander, Carl P. Lipo, Harold A. Herzog, and Matthew W. Hahn. 2007. “Regular Rates of Popular Culture Change Reflect Random Copying.” Evolution and Human Behavior, 28, 5-158.

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