# The supply and demand of Virtual Products

We know that the fundamental economic problem is scarce resources relative to unlimited wants. **Does this apply to apps and Ebooks?**They are essentially virtual products who have in theory have unlimited supply.

• Virtual products don't have unlimited supply. The free ones have nearly unlimited supply, to an extent that someone bothers to spend resources to distribute them for free. The supply of virtual products that are not free are controlled by the copyright holder, who sets the price (which determines how much is sold according to demand). Almost like a monopoly, but there are often tons of substitutes for apps and e-books so pricing can get very competitive too to the point that a marginal cost of uploading an additional unit (1000 units's, 10000000 units's) becomes considerable. – Arthur Tarasov Apr 10 '18 at 10:09

The book Information Rules by Google Chief Economist Hal Varian (with Carl Shapiro) deals with many issues raised by the particular features of the digital economy. In general, he finds you don't need new models, and that things are well approximated by high fixed and low or zero marginal cost of production.

• Sweet, will check the book out. – Surya Shyam Apr 9 '18 at 18:35

Your broad idea is right. Since the marginal cost of reproducing digital goods is essentially zero, there is a sense in which is appears optimal to give the good to any consumer who has a positive value for it. In this sense, such goods are superficially non-scarce. However, there are some important caveats to this line of reasoning that results in the goods being scarce in practice.

Fixed costs = scarce variety Although producing copies of an existing digital good is almost costless, producing the first copy can be very expensive (e.g. \$XXX million for a Hollywood movie). While it is almost costless to distribute a movie to many viewers, it is extremely costly to produce many different movies. Thus, while copies of any given movie can be non-scarce, there remains a natural scarcity in the variety of movies available and there is a non-trivial economic choice in which movies get produced. Limited attention Although it might be possible to distribute ebooks, music, apps, etc., at approximately zero marginal cost, the attention needed to consume these digital goods is fundamentally scarce (we all have only 24 hours in each day and can't pay attention to more than a couple of things at a time). Thus, even if we can distribute infinite quantities of these goods, we can only ever consume them in finite quantities and must make choices—just as for more traditional goods. Thus, there is a non-trivial economic choice in which digital goods we consume. Intellectual property = monopoly One feature of digital goods is that they can be reproduced at approximately zero marginal cost. But the initial cost of producing the first copy (i.e., the fixed cost) is comparatively large. This raises a problem: how can we allow sellers to cover their fixed cost when a competitive market (with$\text{price} = \text{marginal cost}\approx0\$) would leave them with zero profit? The main approach society uses to do this is to grant intellectual property rights (such as copyright) to the authors of the first copy. But that makes the author a de facto monopolist in produciton of the digital good. Like any monopolists, they will have an incentive to ration supply in order to increase the price (and profit). Thus, even if it costs the seller almost zero to produce a copy, it will often cost the consumer a non-trivial sum to buy it. So protecting intellectual property automatically results in a kind of artificial scarcity.

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Someone still has to build the app or ebook. In other words, these products are characterized by large fixed costs of production and low variable costs. The marginal cost is positive because there exists a small distribution cost (such as internet bandwidth or maintenance of a website).

https://www.joelonsoftware.com/2004/12/15/camels-and-rubber-duckies/

As he owns and runs a software developer company, his angle was "What price should I charge?".

His main points:

• Sunk cost is irrelevant, unless you go bankrupt.
• You are a monopoly and can maximize profit * sales rather than marginal price.
• Segmenting the market is a win. (Home/Professional/Enterprise Editions)
• Everything he has said so far is wrong, because psychology.
• What you really want is a loyal customer base that stays with you and keeps paying a little for a long time.

I highly recommend reading the whole essay. It is well written and has implications far beyond the software industry.

Another way to look at this is that for many virtual products, users only use them once. No single person needs 2 copies of the same e-book.

Thus there are many subscription style services for these, and traditional supply and demand applies directly to them:

• Supply is determined by the cost of producing a constant stream of new material for the subscribers.
• Demand is determined by how much material each user watches per month.