March 09, 2009

Online news and the prisoners dilemma

Would you pay for a newssite on the Internet? If you won't you're in the vast majority.

But what if we rephrase the question. Would you pay for a newssite on the Internet if there was no other free alternative? The answer would probably be yes, since there would be nowhere else for you to get that constantly updated dose of news that you're probably addicted to. So for a consumer a newssite is obviously worth paying for - yet publishers can't charge a dime for their content.

Quite a paradox.

Here's how the whole thing has played out in the real world, and why news has ended up being a free commodity you can't charge for, even though it has value for the consumer and a very real production price.

Back in the 90's publishing houses were worried. They saw the Internet coming, and it was obvious to them, and everyone else, that news was a natural fit for the Internet. They also saw that this would eventually doom their hundred year old income model of selling a daily paper made out of dead wood. But they didn't know exactly how it would play out, what technologies to bet on, what kind of news would work on the Internet, and who would ultimately be the winners and losers of the coming great news war. The only thing everyone agreed on was that the whole industry would change dramatically.

So many publishing houses were proactive and launched newssites early on that were updated often. This is the New York Times from november 12, 1996 Since they were still in the experimental phases the news was free. Besides there weren't really any good ways of charging users for this new beast of a technology.

Eventually more and more publishing houses started getting an Internet presence, and their sites grew and were updated more often. None of them saw this as an income model yet, but they all acknowledged the potential and importance of having an online brand.

As more users joined the Internet the big newssites started to get more and more traffic, and entrenched web properties such as and were established. Consumers loved it because they could now get constantly updated news for free.

Eventually, a few years ago, online news started becoming so mainstream that a majority of people would start checking news online several times a day. Many of them also started cancelling their daily subscriptions. This was, of course, expected. The quest was to move as many users as possible to your online property, and losing as few subscriptions as possible in the process. "Onwards and Online"

The next step in this evolutionary tale was to start thinking about income models. It was obvious that advertising alone would not hold up the expensive machinery of a news organization, so some kind of subscription model was inevitable. And planned.

And this is where the problems started.

Consumers had gotten used to online news being free. This is what they had come to expect, because this is how it had always been in the past. So they barked and often refused to pay for online access. The implicit threat made by the consumer when a newssite would start charging for content was "OK, I'll just move on to your competitor, who covers pretty much the same news and has a free site". The ramification of this was that the sites that charged for online content would be decimated by the ones that offered free content. And there would almost always be a competitor that was free.

This is the classical game theory problem of the prisoners dilemma. It goes like this:

Two suspects are arrested by the police. The police have insufficient evidence for a conviction, and, having separated both prisoners, visit each of them to offer the same deal. If one testifies (defects) for the prosecution against the other and the other remains silent, the betrayer goes free and the silent accomplice receives the full 10-year sentence. If both remain silent, both prisoners are sentenced to only six months in jail for a minor charge. If each betrays the other, each receives a five-year sentence. Each prisoner must choose to betray the other or to remain silent. Each one is assured that the other would not know about the betrayal before the end of the investigation. How should the prisoners act?

These are the possible outcomes of the game:
Prisoner B Stays SilentPrisoner B Betrays
Prisoner A Stays SilentEach serves 6 monthsPrisoner A: 10 years
Prisoner B: goes free
Prisoner A BetraysPrisoner A: goes free
Prisoner B: 10 years
Each serves 5 years

So the dilemma is whether you can trust your partner. If yes, you can choose to stay silent and get 6 months. You can also betray him, and go free. But if your best choice is to betray him, why should he trust you? If you betray him, and he betrays you you both get 5 years.

A dilemma indeed.

This is the problem online news is faced with. Here's an example of an online world with two news sites. The combined ad revenue is $2 million, and if there is no free alternative ten million users are willing to pay $10, a total of $20 million in subscription charges.

Site B doesn't chargeSite B charges
Site A doesn't chargeThey share $2 million in ad revenueSite A gets $2 million in ad revenue:
site B gets nothing
Site A chargesSite B gets $2 million in ad revenue:
site A gets nothing
Site A and B share $22 million in ad and subscription revenue

If there is a free alternative consumers won't pay for a subscription, so if the sites don't cooperate they will share the $2 million in ad revenue, since the potential income from subscriptions will never materialise because there is a free alternative. But it is to their advantage to trust each other and share the additional $20 million in subscription revenue. In a game with two players they might get together and agree to charge.

But what happens when a new player enters the market. Suppose the two sites have agreed to charge. A new player that enters the market with free news will instantly take away all the customers, because the new service is free, and the new player will get the $2 million in ad revenue. If the old players can't convince the new player to start charging they only have one choice: revert to the free model.

The problem, of course, is that there are a lot of sites out there, and making each and every one of them agree to charge is almost impossible, and probably illegal. If just one site defects it will instantly take over the whole market and get all the ad revenue.

This is the problem that online news faces today.

So what can publishers do?

The theoretical game assumes that all newssites are equal, and can be substituted for one another. This is not always true. Gossip newssites are pretty generic, and the same pictures of Brangelina will inevitably appear on all of them with pretty much the same captions. These sites are to a large degree interchangeable, and thus hard to charge for. But newssites with unique content that is valuable to a consumer and is not easily interchangeable for another newssite can get away with charging for their product, even though the competition is free. The requirement is that the consumer finds that the site is not interchangeable with other newssites. The Economist have managed to do this by giving in-depth coverage, wit and editorial not found elsewhere on the net. Users are willing to pay for it, since there is no obvious substitute.

So if you want to do online news you either have to provide something valuable noone else provides for free, or rely on ad revenue.

Oh, and this analysis applies to most online markets. If you're bright you might even see how this implies that many VC's are a hinderance to online business...

If you made it all the way to the end you must have found it interesting.

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