Thursday, January 01, 2009

Is There a Price Fix in Text Messaging?

I would find the accusations of cell phone companies engaging in price fixing all too amusing if this weren't being taken so seriously. Here is the short of the story from Faux FOX News:

But what also went up in the last three years was the price — doubling from 10 to 20 cents per message while the industry consolidated from six major carriers to four.

Sensing a potential rip-off, Sen. Herb Kohl, D-Wis., chairman of the Senate Judiciary Subcommittee on Antitrust, Competition Policy and Consumer Rights, began to take a closer look at the doubling of prices American carriers were charging customers.

NYTimes also picked up the story. First of all, let's look at the profit margins of the Big Three:

Verizon 6.49%
AT&T 11.03%
Sprint -82.66%

So if text messaging costs next to nothing and they charge "high"* prices, what is with the low profit margins? How can their be above marginal cost pricing on texts while appearing to be a highly competitive market?

I think the reasonable answer is bundling. The text messaging is an add-on service to a bundle of services that carries a high margin. Since customers are most mindful of the base package rates (minutes and rates), the producers sell those packages at a loss (or close to it) and hope to make the money back on selling the add-ons at a high margin. In short, those text messagers subsidize the rest of us to get a lower rate on the base package.

Some of you will recognize the similarity of this story to the expensive concessions at the movie theater, where theater's sell the tickets at a lower price that is subsidized by the concession consumers.

*Since most text plans offer unlimited texting for $x per month, I wonder how you come to the conclusion that $x divided by infinity is a "high" price.

1 comment:

Anonymous said...

Same thing happened when mobile plans went from measured service (price per minute) to bundled minutes. The bundles kept getting bigger with the implicit price per minute falling but the price per overage minute rose. This can be consistent with efficient bundling as the higher price per minute encourages subscription to bigger bundles.

BTW, our family gets unlimited texting for an additional $10 per month. Because we have two teenagers, total texting volume comes to ~20,000 or about $.0005 per text. This is pretty small but MC is purported to be close to $0 too. Comparing price levels is a futile test. Better to measure consumer substitution patterns.