Sunday, June 22, 2014

Amazon, Hachette, and the holdup problem

If you haven't been paying attention, Amazon and book publisher Hachette are in an ongoing dispute about the distribution of surplus. I wrote about this here, but I underestimated how complicated the situation is. Cory Doctorow reports that Hachette is trapped with Amazon by the nature of its intellectual property policies:

It is precisely because Hachette has been such a staunch advocate of DRM [digital rights management] that it cannot avail itself of this tactic. Hachette, more than any other publisher in the industry, has had a single minded insistence on DRM since the earliest days. It's likely that every Hachette ebook ever sold has been locked with some company's proprietary DRM, and therein lies the rub. 
Under US law . . . only the company that puts the DRM on a copyrighted work can remove it. . . . By allowing Amazon to put a lock on its products whose key only Amazon possessed, Hachette has allowed Amazon to utterly usurp its relationship with its customers.

Now read this excerpt from Ricardo Caballero's excellent Specificity and the Macroeconomics of Restructuring:

Specificity in a relationship reduces the flexibility of separation decisions. . . . To the extent that it is irreversible, entering into a relationship creates specific quasi-rents that may not be divided ex post according to the parties' ex ante terms of trade. Avoiding this transformation from an ex ante competitive situation to an ex post bilateral monopoly--known in the literature as a "fundamental transformation" or the "holdup problem"--requires prior protection through comprehensive and enforceable long-term contracts. (59) [emphasis by RD]

After voluntarily entering a relationship of specificity with Amazon in which Amazon controls the DRM governing Hachette ebooks, the publisher now finds that its counterparty wants to appropriate rents from the relationship. I hadn't before realized that we can view DRM through the lens of the holdup problem, which is ubiquitous in specificity-relevant macro literature (most notably the DMP labor matching literature). Here's the full first sentence of the above excerpt:

Specificity in a relationship reduces the flexibility of separation decisions, which induces reluctance in the investment decision. This is the basic insight of the irreversible investment literature.

So to the extent that the holdup problem characterizes the market for intellectual property, we might expect less creation of intellectual property than is socially optimal. Or, at least, we'd expect sophisticated producers to cover their bases with appropriate contracts. As a side note, this concept is what motivates things like non-compete agreements, though unintended consequences are everywhere.

1 comment:

  1. I know all these points are way more complicated than this, but I've always hated DRM and I'm just going to take this as a complete vindication of my largely uninformed, emotionally charged original decision on the subject.