While reading Chapter 2 of Wealth of Networks, I noticed that Benkler does a great job explaining some economic concepts, but not so great a job explaining some foundational concepts informing his assertions. So, I decided that it may be beneficial to our class to explain a few things about microeconomics that he doesn't cover very well.
1. Marginal cost: the additional cost incurred to create one additional unit of an item
It is one of the assumptions of economics that human beings are rational creatures who think "at the margin." This means that we make lots and lots of little decisions all the time. Rather than going to Walmart and thinking "Should I buy name brand products or generic products for the rest of my life?" we ask ourselves "Do I want to buy great value pasta or Barilla pasta today?" With regards to production, marginal costs are incurred when a producer decides to supply one additional unit of whatever they make. For example, the marginal cost of apple pie is the answer to the question, "What will making one more apple pie cost me?" The marginal cost includes the price of everything that goes into the making of that pie: a kitchen, ovens, pie pans, ingredients, and the time it takes to bake it. This means that the price of pies is more complicated that a constant value. Making the first pie is really expensive. Between buying a room and putting an oven in it and everything else you'd need, we're talking about a pie that costs a few thousand dollars. What about the second pie? You can use the same kitchen and utensils, and it could even fit in the oven at the same time as the first one so you wouldn't need any additional electric. It's marginal cost is probably closer to $5 (the cost of the additional ingredients and prep time).
So, when Benkler talks about information, he takes about the difference between the marginal cost of knowing the info for the first time and the marginal cost of telling the millionth person. Think about writing a research paper. The initial investment that you have to make is pretty substantial. You have to find out information, think of something creative to add, do the actual writing, etc. Then, you can tell our class about what you discovered for a cost that is essentially negligible (the oxygen you used to speak and 1-2 minutes of everyone's time). So, once information is created, the cost of sharing it is basically free. Like the apple pies, high marginal cost for the first unit which drastically decreases.
2. Market Efficiency: In order to understand why a market would be inefficient, it helps to know what makes it "efficient."
Benkler references the fact that a market is considered "efficient" when marginal cost equals price. This is much easier to understand when we look at picture:
The blue line represents demand. It shows how willing people are to buy a product at any given price level. In order to read the graph, you draw a pretend horizontal line from the price scale over to a spot on the blue line, then you can draw a pretend vertical line down to the quantity line to see how many people would buy the product at that price. When price is high, fewer people want to buy an item. When price is low or zero, lots of people want it.
The red line represents supply. A business wants to get enough money to cover the marginal cost of making their products. Therefore, the supply curve goes in the opposite direction as the demand curve. When the price is low, the imaginary box we draw to the red line shows that only a couple of businesses will want to sell their product. When the price is high, many more businesses want to sell the product in question.
To understand market efficiency, we can think about this graph as representing happiness. Let's pretend that it shows the market for apple pies in Geneseo. What if the price of a pie was $50? Draw the imaginary horizontal line high up on the graph. Looking from left to right (low quantity to high), we can see that it hits the demand curve very fast. Only 5 people are willing to pay that much for a pie. The triangular space made by the price scale, the horizontal price level, and the demand line shows us how happy the pie-buyers are. Maybe one was willing to buy a pie for $200, two would have paid $100, and three were expecting to pay $50. For the first 3 buyers, $50 is a steal. They're so happy! If we keep following our price level to the right, we can see how many people want to bake pies where it hits the supply curve. Students would want to drop out of college because pie seems like such a valuable industry. For the 5 lucky pie bakers, they just made a whole bunch of money. If we trace a vertical line down to the supply curve, this shows us how small a price these bakers would have accepted. Maybe $1. So at the end of our auction, a few people are thrilled, all the other pie eaters in Geneseo are indifferent because they care more about $50 than apple pie. Lots of bakers are sad because people don't want to buy huge numbers of pies at exorbitant prices.This is inefficient.
Now imagine that the price of pies is $10. Much more reasonable, so many more people will want to eat pies, and fewer students will want to drop out of school to become bakers. Pretend that $10 is the dotted line already drawn on the graph. The number of pies people want to eat is exactly the same as the number people want to bake! Everyone who wants a pie for $10 can have it and everyone who can bake pies at a marginal cost of $10 can do so. People are so happy! The entire triangle between the red and blue lines to the left of this intersection point shows us just how happy Geneseo is. An efficient market!
What about the information market? If marginal cost of spreading information is zero, lots of people will want it. This makes sense. Also, because the cost of giving away information is nothing, the supply (red) line for this market would be horizontal along the quantity scale. They can give the info away infinite times without incurring any cost. Because of copyright laws, though, the market for information has a high price. Not everyone who wants it can afford it, and even those who can info-buyers are less happy than they would be if it was free. Info-givers are getting a profit because every unit of information costs nothing to them but brings in money. The extra happiness that info-givers get from this profit, however, does not match the amount of potential happiness lost by info-buyers. That's why Benkler gives examples of how much happier info-buyers would be by showing us that the cost of buying access to journal databases and spending money buying sheet music has a negative impact on the amount of new stuff created. Then, he tells us about how only a few industries are even really getting a profit from copyright protection. Profit gained < Potential innovation lost -> Copyright hurts overall American happiness
So, hopefully these explanations help to clear up a few concepts for anyone who is having trouble with chapter 2. Leave a comment if you have questions or if I didn't explain something well enough.