If you read my last post, then you know we’re solving a mystery: Why is it that low-cost competition caused a brutal race to the bottom in service in the airline industry, but yet Steam and Netflix seuccessfully competed with low-cost (free) from piracy.
In this post, I’m going to go through a few ways that airlines and Steam are distinct, and ask if each difference explains the different outcome. I’m going to start with some distinction that I think don’t explain the different outcomes, and then turn to the ones that do.
The wrong answers
First, is it just that airfare is a lot more expensive than video games? In the U.S., the average round-trip flight costs $509.15, whereas even AAA games mostly cost $60 or less—so at first glance this looks like a promising distinction to draw.
But I don’t think it holds up. First, we shouldn’t be comparing the total cost of airlines versus games. Instead, we should compare the price differential between the high-service variant and the low-service variant. And there, the price gap isn’t large at all, if it even exists. The low cost alternative to Steam is piracy, so the price differential is the full price of the game on Steam.
I don’t have great data on how much more airlines would charge for slightly better service, but one way service has gotten worse is that airlines now charge for checked baggage (which is not only annoying for the people who would have checked their bags, but also degrades the quality for everyone else, since it makes boarding take longer and fills up the overhead bins—which means in turn that people want to get on the plane earlier). Airlines typically charge under $50 to check a bag. So it seem plausible that airlines could increase their prices by $50 or less, and offer a premium service in at least some ways.
Second, I would think that the price differential could cut the other way. Psychological research indicates that there’s a powerful allure to “FREE”. People generally are much more drawn to the free option than to a discounted option. Given that, I would have expected the price differential between $60 and FREE to matter more than the price gap between $569.15 and $509.15, even if they are mathematically equal.
If it’s not the price differential, is it that Steam games are purchased and delivered entirely electronically, but airline tickets are used for travel in the real world? Again, I’m not convinced. Anecdotally, it seems like the rise of online price comparison shopping websites (expedia, etc.) are part of what has made the airline ticket market so competitive. And, in general, I’m not convinced by claims that the Internet is different—online news seems to face similar race-to-the-bottom type pressures as airline prices, so being on the Internet doesn’t seem to be proof against this effect.
The right answer (I think)
If it’s not price differences, and it’s not the Internet, what is it?
In a weird way, I think Netflix has the answer. Not modern Netflix, but stone-age Netflix, back when they would ship you DVDs from a list you chose in advance. Back then Netflix had a problem: people would pick out movies for Netflix to ship them several weeks out, and they’d pick these great, critically acclaimed, highbrow movies. But then Netflix would get ready to ship them, and people would cancel that request at the last minute and switch to a junk-food substitute—something much more lowbrow. Or, worse, they wouldn’t switch at all, and the highbrow movie would just sit, unwatched, at the customer’s house. (Source.)
What was going on? It was a predictable and common cognitive bias: when we make decisions about something in the future, we tend to pick the thing that’s good for us. Conversely, when we pick something that gives us an instant (or short-term) reward, we pick the most immediately satisfying thing. So, if you ask someone what movie they want to watch in two weeks, they’ll pick Schindler’s List (93% review on metacritic), but if you ask them what movie they want to watch right now, they’ll pick The Mask (56%).
Interesting enough, but what does any of this have to do with the price of airline tickets?
Well, one key distinguishing feature of airline tickets—indeed, I argue the key distinguishing feature of airline tickets—is that they’re purchased well in advance of when the flight takes place. Thus, people are free to pick the “virtuous” low cost option in the same way they’re free to pick the Oscar-nominated film—in either scenario, they get the immediate psychological reward of having picked the more socially acceptable option, and delay the pain of dealing with it. And by delaying that pain, they reduce the impact it has on their decision-making process.
Conversely, buying a game from Steam is the very epitome of instant gratification. You browse the online storefront, find a game, click purchase and (assuming this isn’t your first time checking out), the game starts downloading instantly. In less time than it would take most people to get halfway to the store, you’re already playing the game. In contrast, pirating the game is an increasingly fiddly process, that may take longer (especially for those of us who aren’t used to it). In a lot of ways, what Steam is selling even more than games is this instant access to entertainment.
So, that’s my thesis: the reason Steam is able to make money charging for a premium product is that the benefit is immediate. The reason airlines aren’t, is that the benefit is delayed. In general, I predict that attempts to sell a premium product are less likely to work when the premium product is not delivered for a considerable period of time.