On Saturday, I wrote a post asking why Apple offers free engraving on iPods and iPads. My answer was that they do this to decrease the value of the secondary market. I wrote the post for my usual readership, which is highly economically literate. Surprisingly, this post received about 100 times more attention than usual, mostly from Hacker News, one of my favorite news sources (though I don’t often comment there). I say surprisingly because, in my opinion, I have written many more interesting posts. In any case, the increase in traffic validated my theory of blog commenting.
Because I wrote the post for an economically sophisticated audience, I took some liberties in skipping over some of the views that non-economists might find persuasive. Furthermore, I haven’t been a non-economist in many years, and I sometimes forget what is persuasive to non-economists. I doubt that many of the horde of readers that descended on my humble blog have stuck around, but we ordinarily have a nice commenting community here, so in case a few of you are still around, here are some of the objections that people raised to my solution to the free engraving puzzle.
1. I thought this was obvious.
As you can see from the many objections I received, it’s not obvious to everyone.
2. When you buy an engraved iPod, you must buy it from Apple and not another retailer, and therefore Apple makes more money.
This objection confuses accounting and economic profits. Retailing is a competitive industry, meaning that retailers make zero economic profits off of their direct retailing activities. Consequently, when Apple sells iPods directly to consumers, although it may make more accounting profits, it is probably making no additional economic profit. Conversely, when it sells iPods through a retailer, it does not make any less economic profit. The way to think about this is that pure retailing consumes as many resources as it generates, and this is as true for Apple as it is for Best Buy. Ordinary accounting methodology does not include the opportunity cost of the resources consumed in retailing.
3. You cannot return an engraved iPod, and this is better for Apple.
It’s true that you cannot return an engraved iPod (unless it is dead on arrival), and that Apple benefits when consumers do not return their products. However, Apple chooses its own return policy, and it has chosen in general for its customers to be able to return their iPods. Why has it done this? Consumers tend to be more risk-averse than corporations, which tend to be risk-neutral. When Apple bears the risk of consumers not liking iPods as much as they think they will, consumers no longer have to bear risk themselves. Because consumers are willing to pay not to bear risk, Apple can charge more for its products when it offers a return policy. Consequently, you can think of a return policy as a separate deal that consumers (as a class) and firms make, one that is positive-sum. Apple would undoubtedly like to make this deal for engraved iPods as well, but once they have been personalized it is no longer positive-sum to offer this arrangement. So while you cannot return an engraved iPod, this is worse, not better for Apple.
4. It doesn’t cost Apple anything.
I have no doubt that engraving itself is very cheap for Apple. They have sophisticated production lines and the personalized engraving occurs at the same time that the serial numbers are being etched on. Nevertheless, there are costs associated with managing inventory in a way that facilitates personalization. These costs are non-trivial. Furthermore, even if Apple can create value for free, why would Apple give away that value for free? Apple is not a charity. The people who make this objection are not grappling with the real problem.
5. Apple is not a monopoly, so its behavior cannot be explained by durable-goods monopoly models.
A number of commenters were surprisingly hostile to the observation that since Apple is the only firm that produces iPods and iPads, it is a monopoly. One commenter at Hacker News bizarrely cites Russ Roberts as evidence that I somehow don’t understand what I’m doing when I use the term. Indeed, when a market is defined sufficiently narrowly, there is always going to be a monopolist, and Russ and I are opposed to antitrust action that has this as its basis (I won’t speak for Russ, but I am opposed to nearly all antitrust action). Furthermore, people often too readily attribute behavior to market power when it can be described in a competitive framework (see Lott and Roberts 1991 on price discrimination). Nevertheless, I don’t think anyone can deny (and I think that Russ wouldn’t) that Apple’s closest competitor in iPods is not other MP3 player manufacturers, but its past and future self. The used market for iPods is robust and competes with new iPods. People hold off on purchases of Apple products all the time to see if new features or price drops are in the works. In this situation, the durable-goods monopoly model is the most appropriate.
6. Engraving reduces theft.
As if thieves are going to check to see if an iPod is engraved before they swipe it.
These were the most common objections; I have not carefully scoured the Internet to see if there are more, though I hope that if there are any more interesting ones, others will add them (and rebut them if necessary/possible, so I don’t have to) in the comments. I continue to stand by my explanation that Apple offers engraving for free because it weakens the secondary market. I received some support from an excellent comment by
Emmanuel, who writes:
This makes a lot of sense. I can think of another example of this. Louis Vuitton also offer free embossing of your leather goods with one or two letters. You can get this done at any time, even years after you’ve purchased an item.
Their stuff lasts forever, however—as opposed to iP*ds—do not become obsolete (unless you are very fashion conscious and wouldn’t be seen dead with last year’s handbag).
Emmanuel is right that there are limits to both Apple’s and Louis Vuitton’s products’ durability, as the computer and fashion industry both create obsolescence. Nevertheless, it is interesting to see that there are other examples of this sort of behavior. Perhaps in the future personalization will be a widely-understood tactic used by durable-goods monopolists.