Flat rate pricing (was Re: Bitten by NIMBY, CA power system goes socialist)

From: Peter C. McCluskey (pcm@rahul.net)
Date: Wed Jan 17 2001 - 13:54:57 MST

 hibbert@netcom.com (hibbert@netcom.com) writes:
>Brian D. Williams said:
>> The future? if we ever get permission to do long distance, I predict
>> flat rate pricing.
>I believe that the customers will demand it. Why will the LDCs be able to
>provide unlimited service at a flat rate?

 For the same reason that ISPs are currently able to provide "unlimited"
internet access. There doesn't appear to be any major obstacle to switching
most of the phone system to run over the internet (although there are lots
of minor obstacles and the incentives to start the switch are fairly weak).
 Of course the term "unlimited" as used by ISPs is somewhat deceptive, but
is close enough to the truth to satisfy more people than it offends.

 Why do consumers demand flat rates when charging by usage would produce
better incentives, presumably resulting in better service? The easily
measured transaction costs associated with pricing by the minute and
billing electronically seem too low to explain the behavior of ISPs.
 One possibility is that businesses consistently set prices too high
when pricing small increments of service. My gut reaction when comparing
fine-grained prices to flat rate prices seems to suggest this is happening,
but I can't come up with a plausible explanation of what would insulate
this phenomenon from competition effectively enough for it to be the main
 It seems that there must be significant transaction costs somewhere.
 Could it be that the costs of resolving billing disputes are much higher
with fine-grained pricing? I doubt this is the main explanation. I worked
at Quote.com during a period when it moved from getting a significant
fraction of its revenue from per-web-page charges to getting most of its
revenue from monthly subscriptions and ads, and I heard no indication
that it had much effect on customer service expenses (responses to a
customer survey indicating customers griped about per-web-page charges
but not monthly subscription fees seemed to be the main reason for
migrating to the latter).

 The best explanation that I can come up with is psychological transaction
costs. Back when our ancestors lived in small tribes, commercial exchanges
consisted mainly of transactions with strangers, while interactions with
familiar people used a different mode, sometimes called a gift-exchange
economy, which often has much lower price negotiation costs.
 For dealings with people you may never see again, it makes sense to
adopt a policy of always disputing an attempt to "cheat", even if the
effort involved in the dispute exceeds the disputed value. A reputation
for always disputing a class of phenomena can effectively deter those
phenomena. So people look for a "Schelling point"-like threshold for
distinguishing between interactions that deserve carefull individual
scrutiny and those for which the scrutiny can be averaged flexibly over
numerous interactions.
 Monthly subscription fees look sufficiently different from one-time
commercial transactions that some people are able to fit them into a
mental model that doesn't require carefull cheater detection analysis
(it sounds like buying membership in a group), and even those who don't
fit them into a different category only feel the need to do the cheater
detection analysis once a month or less.
 But when paying for each web page or each minute of access, people
apparently feel obligated to perform mental cheater-detection calculations
that would be appropriate for occasional large transactions, but require
too much thought to be appropriate for $0.10 transactions.

Peter McCluskey          | Fed up with democracy's problems? Examine Futarchy:
http://www.rahul.net/pcm | http://hanson.gmu.edu/futarchy.pdf or .ps

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