A tale of two retailers

Spot the customer

HMV stands on the brink of extinction with 4,500 jobs at risk. The shop is a fixture of High Streets up and down the country. It will have a sentimental value for many customers who fondly remember their first album purchase. But online retailers like Amazon and iTunes, able to undercut HMV due to lower staff, property, and inventory costs, have eviscerated HMV’s customer base. In 2010 HMV generated sales of over £2 billion. Last year that was down to £932 million.

This is an excellent example of how the market process enables individuals to work to increase the prosperity of society. To the consumer, the CD purchased from HMV for £7 yields no more satisfaction than the same CD which, thanks to a leaner business model made possible by advances in technology, Amazon can sell you for £3.99. The consumer’s enjoyment of the CD is exactly the same but he or she has money left over that they wouldn’t have had if they had bought the CD from HMV. With this they can buy something else they also enjoy, good or service X or Y. Their total utility, to use the jargon, is increased.

This is not the case for everyone. HMV’s creditors and employees will suffer from this. If the credits extended to HMV represent only a small part of a creditor’s portfolio then the losses will be bearable. For the employees, on the other hand, the loss will be more profound – the greater the share of their income comes from their employment with HMV.

This example shows the market process in action very clearly. It also shows how obstacles can arise.

The utility gains from a new way of providing goods or services can be very large but, spread over society, the gain to each individual can be small (though, of course, if a number of such improvements are taking place at once the cumulative gains to each individual can be large). The losses, however, are concentrated among those who provided the goods or services the old way.

There is an asymmetry here. If the gain to each individual consumer from buying CDs from Amazon rather than HMV is, say, £50 over a year (more accurately, whatever else could be bought with that £50), but the cost to each HMV employee is £5,000 in lost wages (assuming they believe there are other jobs available but paying £5,000 less) then the employees will be incentivised and concentrated and so could agitate for measures to prevent the market process by which the new method takes their market share.

We see this in markets the world over. There are the vast subsidies to US farmers (usually big agribusiness who donate generously to political campaigns) which cost the average American family a few hundred dollars a year but form a large chunk of agricultural income. There are the associations of High Street shops who band together to prevent supermarkets opening nearby although, in that case as in others, the balance of lobbying power can lie with the new method.

Whichever side has the most power, entrenched producers or potential market entrants, doesn’t really matter, what is important is that this moves us from the market process to the political process. Producers try to win market share, not by providing a good or service at a price and quality that is more attractive than others, but by shutting others out of the market. As a rights based argument, we have moved from voluntary contracting to coercion.

As a practical argument, the non-market protection of existing producers at the expense of relatively more efficient new producers decreases the welfare of consumers which eventually decreases the welfare of producers too (insofar as they are  also consumers). The history of all human material progress is the history of increasing productivity; of getting the same output from reduced inputs or more output from the same inputs.

If Amazon or iTunes are able to put Bob Dylan on your turntable or Fritz Lang on your screen with fewer resources than HMV can – the buildings, the staff, and everything that went into producing them – then those resources are freed up to produce something else to increase our enjoyment beyond Blonde on Blonde and Metropolis; good or service X or Y.

This is how the market process enables us to live better and better. Joseph Schumpeter called the market process “creative destruction”. HMV was destroyed but Amazon was created.

This article originally appeared at The Cobden Centre

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