Tuesday, May 30, 2006

Ticket Prices, Part 1

Over at Econball, Tony V argues that under-pricing concert tickets to subsidize CD sales doesn’t make sense. He doesn’t find it plausible that subsidized concerts boost CD sales sufficiently to compensate artists for the foregone concert revenue. I think this is correct. Alan Krueger gathered data on scalped tickets for a 2002 Bruce Springsteen concert in Philadelphia, and found that the Boss passed up between $1.1 and $4 million dollars of revenue. Given that total ticket revenue from the concert was $1.5 million, tickets were substantially under-priced. Ultimately, Springsteen’s “The Rising” tour played 120 shows. If the Philly show is even remotely typical, Springsteen could have raised an additional $120 million dollars in revenues on the tour. Even if the real number is half that and the band only takes home half of the revenue, given how little money artists make on album sales, Springsteen and the E Street Band would still likely have to produce one of the most successful records of all time to equal their lost income from just this tour alone.

This suggests that something else is going on. Tony V. argues that under-pricing concerts may make sense as part of a long term strategy to maintain ties between the artist and their fans. This is on the right track, but I think it is more correct to simply state that ticket prices are affected by social influences.

Under-pricing tickets is only an issue for superstars. According to Krueger, only one-third of concerts sell out. So we are only interested in why superstar artists chose excess demand and potentially lower revenue when pricing their concerts.

As I have discussed previously, I believe superstardom does not depend exclusively on talent. Rather, I think Adler (1985, 2005) is basically correct – stardom arises because people desire a common culture. This article (discussed previously) shows that individuals choosing songs by unknown artists without social influences (i.e., making choices based only on their private assessments of quality) make very different choices from individuals making choices while aware of other's choices. While not perfect (e.g., this finding may not exist in the "real world" because people have more time and resources to devote to assessing quality), this study suggests that Adler’s basic premise is correct.

Adler’s argument relies on a premise similar to the one Gary Becker discusses in “A Note on Restaurant Pricing” (1991). Becker argues that individual demand for some goods (usually with some social component) increases with aggregate demand for that good. One way to think of Becker’s argument is that each person has some private willingness to purchase a good (in this case a concert ticket). This is what the person would be willing to pay if they had to enjoy the good without knowing if anyone else consumed the good. Private willingness to pay is then augmented by a willingness to pay for social goods. This is how much the person is willing to pay in order to consume goods and services that others consume (or that others want to consume). The simplest example of this phenomenon is the willingness to spend more on goods consumed jointly with friends (e.g., I will not go to expensive restaurants or full price movies by myself, but I will eat at cheap restaurants or attend matinees by myself). This principle also applies to goods not consumed directly with one's peers. People are willing to pay more for goods that people in their (existing or expected) social circle demand because they enjoy talking about their experiences with the good and because this consumption choice helps them to fit in and/or confirm their identity in certain groups. Further, as demand increases within my groups, these effects become stronger, and my willingness to pay for the good increases. If this social effect is strong enough, Becker shows that demand curves can be upward sloping.

Becker’s model provides one potential reason for low ticket prices. Firms can only raise prices as long as the positive effect of aggregate demand on my demand outweighs the negative effect of higher prices. Setting prices too high is dangerous because once a few people decide that the price is too high and that they aren’t going to consume the product the whole thing can unravel. These individuals’ unwillingness to purchase lowers the marginal utility of purchase for these people’s friends, and now they don’t want to buy at the high price. And so on until the firm reaches a “low price” equilibrium (closer to the one determined by the “private willingness to pay”).

Thus, two things constrain the concert pricing decision. First, many consumers don’t know their social willingness to pay until after the concert is sold out. Once buyers know that they will share an experience with lots of others and that many others will be jealous that they got to attend, their willingness to pay to attend increases. Current concert sales arrangements prevent artists and promoters from extracting these rents. Instead, they accrue to scalpers and to ticket brokers (and now, with internet sales opportunities, to some fans).

Second, as we discussed in class, markets which rely on this sort of social coordination to maintain high prices are very fragile. The high prices are frequently not justified by differences in the quality of the product. Instead, they reflect arbitrary coordination in consumer tastes. As such, producers have limited ability to maintain their market advantage. They simply have to hope that they remain popular (and invest a lot in marketing/publicity, etc which might help them maintain their popularity). This may constrain artists’ attempts to extract more rents out of their fans. They may be aware that perceived “gouging” of their fans might cause fans to seek out a competitor group and their popularity to evaporate. Thus, they try and avoid going anywhere close to the point where this resentment might grow within any substantial sub-group of their fan base.

This gets us started, but I think there are still some questions which I hope to return to in later posts: How does concert pricing interact with other merchandise (e.g., CD) sales in market with strong social influences? How does the fact that promoters typically had to decide on a price in advance (because tickets for a tour tend to go on sale simultaneously) affect pricing? Do promoters set prices lower then they might otherwise in order to avoid risk? What has changed to allow promoters to raise prices so substantially in recent years? Have some artists more secure in their popularity than they used to be? How much has concert demand increased because the internet more clearly points to what is popular and allows people to enjoy greater social returns to their experiences in on-line communities? Do higher concert prices reflect artists trying to make-up for revenue lost to file sharing? (Probably not, my guess is that, if anything, file sharing just increases demand for concerts.)

I think there's something to what you are saying, but I don't see how it would contribute to the change that's been seen recently. That is, if what you are saying is what's really driving concert pricing, why the recent explosion in prices? That's the critical fact that possible explanations have to get at.

Do we think that someone just started experimenting to see if they could raise prices and stay in the "good" equilibrium, and upon doing so, this practice has taken off? It's possible, because even with higher and high concert ticket prices, these big shows seem to still be selling out.
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