No free lunch!

After a hiatus, I picked up my half-read copy of Chris Anderson's Free: The Future of a Radical Price today. At the end of the book Anderson talks about three classes of "Free" business models. Are these business models really making a product or service available for free?

The first is "direct cross subsidies" where one product subsidizes another but to the same customer. For example "free gift inside a cereal box". In microeconomic terms, this is a degenerate for of bundling. The seller in this case is trying to maximize profit by enticing a wider swathe of buyers with a bundle of two products. The profit for the bundle is higher than that which is achieved with two products with their individual demand curves. In the end, the consumer does pay for both items, even if one of the two items is marketed as free.

The second is "one customer class subsidizes another". For example media supported by Google Adsense, Yahoo Display Ads and the like. In this example, the consumers (web viewers) and advertisers are the two customer classes and the advertisers subsidize the consumers. Or do they? The consumers pay with their time (attention) whereas the advertisers pay with money. If we are willing to think of time as valuable, then consumers aren't really getting anything for free. They are simply paying with their time rather than with money.

The third is "some customer classes subsidize the others". For example, the Freemium payment model popular with many web based services - the basic service is free but the advanced features cost money. Since only a portion of the users pay for the service, they supposedly subsidize the others. It is tempting to think of the users of the basic service as getting a free ride. Closer scrutiny reveals a different story. The basic service user usually has to fill out a profile or otherwise make private information available to the service provider. In aggregate, this information is used by service provider to improve the service for both basic and premium users. In other words, the basic users pay with their time (in filling out the profile) and/or private information - whether that information be demographic or behavioral.

Bottomline, consumers aren't really getting anything for free. If they don't pay with money, they end up paying with time or with their private information.