Whimsley

Movies: Nobody Knows Anything

Via Brad DeLong, a piece in the LA Times that covers some of the ground I cover  about movies in Chapter 9, although the LA Times has better stories. Here are a few excerpts, but it's worth reading the whole thing:

That no one can know whether a film will hit or miss has been an uncomfortable suspicion in Hollywood at least since novelist and screenwriter William Goldman enunciated it in his classic 1983 book "Adventures in the Screen Trade." If Goldman is right and a future film's performance is unpredictable, then there is no way studio executives or producers, despite all their swagger, can have a better track record at choosing projects than an ape throwing darts at a dartboard.

That's a bold statement, but these days it is hardly conjecture: With each passing year the unpredictability of film revenue is supported by more and more academic research...

What the research shows is that even the most professionally made films are subject to many unpredictable factors that arise during production and marketing, not to mention the inscrutable taste of the audience. It is these unknowns that obliterate the ability to foretell the box-office future.

But if picking films is like randomly tossing darts, why do some people hit the bull's-eye more often than others? For the same reason that in a group of apes tossing darts, some apes will do better than others. The answer has nothing to do with skill. Even random events occur in clusters and streaks.

Imagine this game: We line up 20,000 moviegoers who, one by one, flip a coin. If the coin lands heads, they see "X-Men"; if the coin lands tails, it's "The Da Vinci Code." Since the coin has an equal chance of coming up either way, you might think that in this experimental box-office war each film should be in the lead about 10,000 times. But the mathematics of randomness says otherwise: The most probable number of lead changes is zero, and it is 88 times more probable that one of the two films will lead through all 20,000 customers than that each film leads 10,000 times. The lesson I teach in my course is that the fairness of the goddess of fortune is expressed not in alternations of the lead but in the symmetry of probabilities: Each film is equally likely to be the one that grabs and keeps the lead.

If the mathematics is counterintuitive, reality is even worse, because a funny thing happens when a random process such as the coin-flipping experiment is actually carried out: The symmetry of fairness is broken and one of the films becomes the winner. Even in situations like this, in which we know there is no "reason" that the coin flips should favor one film over the other, psychologists have shown that the temptation to concoct imagined reasons to account for skewed data and other patterns is often overwhelming.

In science, data are not accepted as meaningful if they're the result of chance alone. People in the film industry are diligent about gathering data, but are far less skilled at understanding what the numbers mean. The fact is, financial success or failure in Hollywood is determined less by anyone's skill to pick hits, or lack thereof, than by the random nature of the universe. The typical patterns of randomness—apparent hot or cold streaks, or the bunching of data into clusters—are routinely misinterpreted and, worse, acted upon as if a new trend had been discovered or a new epiphany achieved. And so, despite a growing body of evidence that box-office revenue follows the laws of chaotic systems, meaning that it is inherently unpredictable, the superstructure of Hollywood's culture—that pervasive worship of who's hot and the shunning of who's not—continues to rest on a foundation of misconception and mirage.

Reader, you're a right dimwit

Bookslut points to an article in The Times by Libby Purves on how bookstores (in the UK) have publishers caught in a prisoner's dilemma when it comes to promoting books, and as a result readers are stuck in a market for lemons. Here is an excerpt:

Reports have “revealed” the so-called secret fees paid by publishers to booksellers in order to get books stocked, “chosen” and recommended by the big book chains.

That W H Smith’s “book of the week” title, which attracts you as if it had won a prize, has been bought and paid for. The publisher handed over £50,000. Waterstone’s Book of the Week accolade is £10,000, less for ecstatic mini-reviews. Borders charges for “fiction buyer’s favourite”. Smaller sums buy other levels of prominence; only some local staff “picks” are related to actual content. It is not uncommon for a catalogue to recommend a title warmly before the compiler has even seen it. A pre-Christmas push costs £200,000 and a big campaign double that. One publisher told a newspaper: “We’ve got to play by the rules because we need them.” It is considered suicidal not to join in.

...Seventy per cent of promotional budgets go on furtive payments to bookshops. The message to the author is: “Nobody would read you if we didn’t pay, so shut up grumbling.” To the reader the message is: “You are a fool pig, guaranteed to go for the shiniest swill-bucket.” To the newspapers who publish bestseller charts it is simply: “Gotcha!”

Most of these charts cover sales in one particular week, so they favour the fast-selling and heavily displayed. They are no index of pleasure or even real popularity. It is not uncommon for a book to reach high rank one week and live off that glory (“surprise soaraway bestseller for tragic Gwendolen”) when in fact it has shifted fewer hardbacks than another book that never got near the top 20 because it sold more gradually.

Well, so be it. Bookselling is a trade; it is sad but not criminal that it operates like one, cutting deals to maximise profit. It is sad but not surprising that big booksellers do not care that their practices are widening the gulf between hyped authors and the rest, squeezing out new writers and truncating the careers of those who fail to return the publisher’s investment fast enough. They do not care that the literary double-or-quits economy prevents the slower, organic growth of writing careers.

The responsibility spreads wider, though. You would think that, knowing how skewed the trade has become, book page editors would question the status quo as journalists do in every other area. You would think that their mission was to seek out interesting new books while scornfully ignoring hype-fests. There is little evidence of this, except in some odd and praiseworthy corners. Journalists like to feel they are up there with the “buzz”, even if the buzz is largely artificial. Where reviews do diverge from the well-trodden track of the week’s “key” books, it is often only into a cosy circuit of settling old scores, or bigging up friends who will soon return the favour. This is often undeclared, which shocks the strait-laced American media (read the New York Times arts ethical policy online, boys, and hang your heads).

Newspapers and magazines are also magpies, attracted to the glitter of the young, the pretty, the well-connected, the celebrity. If Keira Knightley publishes a novel tomorrow it will not go short of attention, while if a new Orwell or Greene emerges from the ranks he may fall back unnoticed. There are some flukes, but even notable “word of mouth” successes often turn out to be no such thing. And the moment an unhyped book starts to move, the big chains will be on to the publisher with display offers they dare not refuse. All success becomes a commodity.

This fits with what I've seen, and with my argument in Chapter 9. Other reports (which I can't find now) suggest that compared to ten years ago, more books are published now than used to be, and more titles are carried (in some form or other) by bookstores. But the total volume of books sold is about the same as it used to be, and of that amount more goes to just a few bestsellers. It's what happens in a market when you don't know what you're buying. Book buying is going, apparently, from being a high-information market to a low-information market.

On the down side, it's kind of a depressing view of the book industry. On the up side, it's a great excuse if No One Makes You doesn't do that well.

Libby Purves, by the way, wrote my favourite parenting book, How Not To Be a Perfect Mother.

Learning By Drinking

An article I am working on, hoping to publish somewhere...

Once upon a time, 35 years ago to be precise, the British beer industry was dominated by five big breweries. It had been that way for a long time, and it didn’t look like changing: fifty years had passed since any new ale breweries had been founded. Sure, some people complained about the poor quality of beer, but they were probably just dreaming about a non-existent golden age and grumbling about progress. After all, if cask beers from small breweries were really better than the brand-name, large-scale production of the big brewers, why had the small breweries gone out of business? If people really wanted a different kind of beer, surely companies would be competing to provide it for them?

But then a strange thing happened. As many people know, some of these grumblers got together to form the Campaign for Real Ale (CAMRA). CAMRA held local beer festivals, published an annual Good Beer Guide, and local CAMRA groups published newsletters that helped to keep information as well as ale flowing. And they didn’t stop there: CAMRA campaigned for less restrictive pub licensing laws and selling practices, against takeovers of smaller breweries, and against deceptive advertising. CAMRA tries all kinds of tactics: “Lively and sometimes controversial campaigns are mounted at local level, with backup from headquarters. MPs, councillors, trade unions, licensees and workers might be involved. Tactics we have used include petitions, threatened boycotts, publicity stunts, marches, laying wreaths outside closed breweries and so forth.”

CAMRA now boasts a membership of 75,000. Three hundred new breweries operate in the UK. The Good Beer Guide claims that “In spite of the best efforts of the global brewers who dominate British brewing, there is greater choice today than at any time since the … early 1970s.” CAMRA has changed the British beer landscape. It turns out that there was a demand for a different beer after all.

*  * *

Why write about a thirty-year old British beer-drinkers organization? Because CAMRA’s success has a lot to tell us about the world we inhabit as consumers. It shines a light on one of the basic questions about our society: does a free market economy really give us what we want? Many areas of our consuming lives are dominated by a few big companies and their heavily advertised brands, just like the market for beer in Britain in 1970. And just like CAMRA, we can ask the question, does their success mean that we really like them?

Another way of asking this question is “who is in charge when it comes to brands?” There are two common answers. Here in the red corner representing the anti-corporate constituency is Naomi Klein, who argued five years ago in No Logo that brands provide a front for “corporate rule” and that we are being pushed around by “Brand bullies”. And over here in the blue corner representing the free-market enthusiasts is The Economist, which claims that “Brands do not rule consumers; consumers rule brands… When we like a brand we manifest our loyalty in cash. If we don’t like it, we walk away. Customers are in charge.”

CAMRA showed that there is a third possibility. Enterprising landlords always had the right to set up “free houses” which could sell beer from any brewer. So although the big breweries made it easier to drink their beer than that of their smaller competitors, it is difficult to argue that beer drinkers were being bullied. On the other hand CAMRA’s success proves that the market was not giving people what they wanted: for many years, the British beer industry really did provide low-quality, albeit predictable, fare and got away with it.

Some free-market enthusiasts would argue that CAMRA is simply the market at work, facilitating the sharing of information needed for the market to work properly. But are activist, volunteer groups setting out to discredit big companies (and with a Trotskyist ex-leader of the Socialist Workers’ Party playing a leading role) needed for markets to work well? If so, we are a far cry from the way that the invisible hand and consumer sovereignty is supposed to work.

So consumers were not being bullied, but they were still trapped by the big breweries. In principle they were in charge, but in order to be in charge you have to have a way to issue orders. Until CAMRA came along something was stopping British beer drinkers from demanding better beer and was keeping them in a bad-beer trap. But what?

The answer matters because although the CAMRA story is interesting—at least, I think it is—it would be interesting only in an anecdotal, “isn’t that odd” kind of way if it was only an exception to the rule. But there are good reasons to believe that the forces at work among British beer drinkers are working in a lot of other areas of our consuming lives. The CAMRA story is a tale of conflict between marketing-driven brand-name companies and smaller suppliers who have to rely on word of mouth for their success. It shows that the success of brands may not be a good thing, and it shows that individual choice and the market may not be enough to get us out of the various traps we find ourselves in.

The answer matters because faith in markets is now so widespread. It is commonplace to hear that if people are eating at McDonald’s while independent restaurants go out of business, or if people are watching American sitcom re-runs while Canadian productions can’t find funding, then—like it or not—this is a reflection of what consumers want. If we liked Canadian-made TV shows we’d watch them without any help from the CRTC. If we really cared about healthy downtowns, we wouldn’t be shopping at Wal-Mart. The argument is used as a verbal cudgel to beat those who argue for government intervention or who protest the global spread of brand-name companies and cultural homogeneity. Even Paul Krugman—New York Times columnist, fierce George Bush critic, and every US liberal’s favourite economist—argues that because “no one forces you to eat at McDonald’s”, anti-globalization activists are hoping that “individuals be prevented from getting what they want”.

* * *

To better understand the CAMRA story we turn to economist George Akerlof. Just before CAMRA was founded he had an insight that explains why markets often fail. Akerlof’s big idea is called “the market for lemons”—lemons as in bad quality cars, not as in the fruit—and it has had a huge impact on economics, winning him the Nobel Prize in 2002. Unlike some other big ideas it has not made the jump into the realm of public discussion. It is time it did so, because it has a lot to say about many of today’s most topical issues, including the conflict between the big brands and smaller vendors.

Akerlof observed that, in many exchanges, buyers cannot tell the quality of what they buy before they buy it, while sellers know the quality of what they are selling. The used car market was his example; when you buy a used car direct from its owner it is hard to tell if it is in good shape or whether the brakes are just about to fail. On the other hand, sellers know how well they have maintained their cars and have a better idea of whether there is anything dodgy under the hood.

In situations like this, where one side knows more than the other, there is a problem of trust. Buyers of used cars must ask themselves the question “if he (or she) wants to sell that car, do I really want to buy it?”

The logic goes like this.

• Buyers will only pay a premium price if they are confident that they will get what they are paying for. If they can’t identify or verify quality then they will not offer top dollar because they know they might be buying a lemon instead (they can’t tell the difference). They don’t trust the seller.
• As buyers will not offer a high price, sellers of good quality used cars will tend to hold on to their vehicles rather than selling them at an unwarranted discount. They are driven out of the market.
• Realizing that sellers with good quality used cars will hold on to them, buyers will further lower the price they are prepared to offer. This drives the sellers of the second-best cars out of the market.
• The spiral continues and the market unravels until the only cars that can be sold are those for which the quality is certain: lemons.

The morals of the story are that markets where trust cannot be established are much less active than they would otherwise be—they are “thin”—and that it is particularly difficult to buy and sell high quality goods when their quality is not easily verified. Even when buyers would be happy to spend money for good quality merchandise, and even when sellers could make some money by providing it, the “lemons problem” means that many potentially beneficial exchanges fail to take place. There is no magic in the market that guarantees success for producers of good things unless they can establish a level of trust in what they are supplying.

But there is more to the lemons problem than this.

In many markets where trust is difficult to establish, there are “nearby” markets where it is less of a problem. The quality of a new car is more easily verifiable than that of a used car, because the seller can offer guarantees, and legally is held to account more than the private seller of a used car. Faced with a choice between a predictable new car and a second hand car that may be a lemon, the good choice is to go with the predictable.

It is not quite so simple, of course, as Akerlof knew very well. The market for lemons is both less than and more than the truth. On one hand, few goods are of completely unknown quality ahead of time: sellers can offer guarantees, and buyers can tease out information in many different ways. Plenty of used cars, even good quality ones, do get bought and sold. But on the other hand, the forces Akerlof identified are present to some extent in almost every market transaction. In fact, many aspects of consumer society are taken up with trying to get around this basic problem of establishing trustworthiness. Establishing trust is not impossible, but it is costly.

* * *

Hidden in the market for lemons is an explanation of why British beer could stay as low-quality for years, and of how CAMRA could give independent producers a chance to sell their products.

The competition between the big breweries and the independents in the UK was really a battle between two ways of establishing trustworthiness and reputation. Brands rely on direct communication to the consumer through large-scale marketing campaigns and an obvious uniformity, while the independents have to rely instead on word of mouth among an educated customer base to build their reputation.

Once the big breweries had tightened their hold on the market, small breweries were faced with an information Catch-22. They lacked a base of well-informed consumers to establish their reputation, and consumers lacked good quality products to be informed about. Consumers were not bullied, but they were trapped. In a market dominated by brands, individual consumer choices were not enough to re-establish a market for independent producers.

What was needed, and what CAMRA provided, was collective action. A group of people who, by banding together, managed to give the market enough of a kick to propel it from one kind of outcome, dominated by brands and low customer information, to another in which better-informed drinkers could make better-informed decisions. CAMRA solved the lemons problem faced by independent breweries.

* * *

Malcolm Gladwell’s hugely successful book The Tipping Point explains how word of mouth works. Gladwell takes his readers to meet a set of “connectors, mavens, and salesmen”. These are people who, because of a gregarious nature, or an inclination to collect information, or a natural persuasive ability, carry information about good and bad products to the rest of us and spark what Gladwell calls “word-of-mouth epidemics”. But powerful as these connectors are, and engaging as Gladwell’s book is, we cannot always trust that individuals will provide the information needed to sustain good products. Word-of-mouth information about a beer, or about a restaurant, or about a new book, requires a certain density of people who know about it to transmit the information to the rest of us, and even though Gladwell shows that a surprisingly small number of people can manage to be a conduit for a lot of information, a critical mass is still needed to reach the “tipping point”. In any particular market left to the vagaries of individual choices there is no guarantee that it will ever be reached.

The market for lemons means that brands can drive out word-of-mouth products as long as they are “good enough” to make the search for reliable information too costly. If a branded product can get a foothold in the market, it takes some customers out of the market for word-of-mouth goods. By doing so, it increases the cost of word-of-mouth information for all consumers and so makes the lemons problem a little worse. The effect is a spiral, with each turn cutting into the word-of-mouth culture that maintains independent producers and adding to the market share of brand-name companies.

In some cases, word of mouth can keep an independent market healthy, but in other cases brands drive word-of-mouth goods to the periphery, where only the most enthusiastic will even hear about them, or even eliminate them all together. The predictability of brand-name goods can literally dumb down the market, even if we continue to make good individual choices. Despite what The Economist says, a victory for brands does not prove a real “preference” by individual consumers. It may simply show that the brand is no so bad that it is worth the effort of finding out about alternatives.

Despite its recent woes, McDonald’s is a brand archetype. McDonald’s restaurants scream predictability, from the identikit restaurant design to the employees’ uniforms and scripted dialogue (“would you like fries with that?”) to the production-line cooking techniques to the global marketing efforts. A tourist in a new city may never have heard of any of the local restaurants, and may not know their quality, but certainly does know what the food will be like at McDonald’s. It may not be great, but it is “good enough”. Food in some tourist areas is notoriously bad because the repeat business needed to establish a reputation for quality is just not there. Restaurants that provide good value cannot find a market for the food they sell. Such areas are prime territory for the guaranteed predictability of the franchise.

Ron Galloway, director of the new film Why Wal-Mart Works & Why That Makes Some People Crazy, claims that "138 million people vote with their feet to go to Wal-Mart. And Americans are pretty smart. And I think Wal-Mart, if Wal-Mart were really doing something genuinely wrong, the American people would be able to figure it out and not go." But it has nothing to do with how smart we are as individuals. Instead, it is simply that in the face of the economies of scale and large-scale marketing, maintaining knowledge about alternatives becomes increasingly difficult.

Once you see how the market for lemons works, less obvious examples are all around. Networking is often a vital step in getting a good job. The ability of “old boys clubs” and networks based on common universities and schools has sustained many an insider group, and outsiders (women, racial minorities) who do not have access to these networks can be excluded, even when the people doing the hiring have no intention to discriminate. It simply makes good sense to choose the known over the unknown. The market for lemons is an argument in favour of affirmative action: even the most well-intentioned hiring procedure that is based on information about the individual can leave us with well-connected but only “good enough” people in good jobs, while potentially excellent candidates without good connections can be left in the cold.

Getting credit to start a company is another area where contacts are important. Investors and banks look for real evidence that a loan can be repaid, and personal recommendations or contacts provide an invaluable source of such evidence. Those from the wrong side of the track looking for a loan to start a company may have to look long and hard, no matter how good their ideas are.

Or how about the market for movies? We have heard a lot about the increased availability of online review sites and other ways of finding information at your fingertips. Such developments are real, but let’s not forget the other side of the story. New technology also allows producers to “open wide” in many theatres simultaneously following a barrage of publicity, so making word of mouth information more difficult to get. This provides a way of promoting a brand-based predictability. The inclusion of bankable stars and the production of sequels are other ways of emphasizing the reliability of the product and cutting into the influence of word of mouth.

Any market where there are “acquired tastes” is vulnerable to being dumbed down by brands. The phrase “acquired tastes” suggests fine wines and smelly cheeses, but CAMRA shows that the phrase applies just as much to cheaper products. Groups of enthusiasts help to keep such areas alive, and play a fundamental role in maintaining variety. At the high end, gourmet groups may manage to maintain a flow of information so that independent producers (“boutique” products) can still find a niche without being as militant as CAMRA. At the other end of the market, it is unlikely at this stage that a real market for locally-produced soft drinks can be re-established: the cheapness of the mass-produced product means that any independent variant must be substantially better to make it worth searching out.

Seen in this light, collective action among consumers becomes all the more important. And brand-name companies are aware of this. As the success of consumer campaigns such as those against Nike and Nestlé have shown, people do take information into account when they make their decisions, as long as that information is available. But it requires collective action to make this information available to individual consumers, and to make it part of how we decide what to buy and what not to buy.

If we continue to trust more and more areas of society to the supposed power of individual consumer choice, there is no guarantee that we will end up in a good place. The success of brand-name companies is no evidence of popularity. There continues to be a need for people to band together. Such efforts can have an effect, as CAMRA has done, and make us collectively smarter.

Adverse selection is so the problem

Alex Tabarrok at Marginal Revolution claims that Adverse selection is NOT the problem. This is not surprising given his enthusiasm for Markets Everywhere. Most of the comments address the empirical aspects of one particular case, which is the insurance industry. But while I can't get at the papers he references (they are behind the institutional subscriber firewall) I think there is a more general issue here about asymmetric information.

For me, the key line in the post is this:

You can buy a decent used car, for example just get it inspected or certified. Only if such adjustments are illegal, or in some other way not allowed, will adverse selection become important.

But the whole thing about asymmetric information is surely that information is not non-existent, but it is costly. No one thinks that the lemons scenario is more than a first-order approximation, and signalling and screening make second-order corrections, but the problem may still remain and be important. The information problem becomes central to the whole practice of the industry, as anyone reading an insurance contract will know. Alex Tabarrok is very close to saying that costs can be neglected as long as adjustments are "illegal, or in some other way not allowed". This claim that transaction costs are unimportant seems to be one of the dividing lines between market enthusiasts (AT) and market sceptics (me).

What is more, there is often a collective action problem in obtaining that information that is particularly important when the buyers are those who are ill-informed. When the seller is ill-informed, it may be the case that they can compensate: I think that Alex Tabarrok is right that, for example, the insurance company knows as much about my life expectancy as I do, and I know considerably less about the details of my coverage than they do. I would say that in this case overcoming asymmetric information becomes a fixed cost, leading to economies of scale in the insurance industry (which at least in Canada is an oligopoly with fewer members by the year) and leading to market failures of a variety of types. On the other hand, when the consumer is ill-informed, the collective action problem is real.

My favourite example of an asymmetric information problem comes from beer-drinking in the UK. Small independent breweries have no mechanism for establishing a reputation (and thereby overcoming the lemons problem) unless there is a critical mass of well-informed beer drinkers who will transmit that reputation to others. In the 1970's the beer industry in the UK was in a
Catch-22 that is typical of asymmetric information problems: there was no demand for real ale because there was no supply, and there was no supply because there was no demand. The big breweries offered low quality, but predictability. AT would have claimed, I believe, that the market was working.

The problem has been resolved to some extent by the efforts of the Campaign for Real Ale (CAMRA), who included a prominent Trotskyist in their leadership and had a strong anti-big-business slant. Their efforts have led to 300 new breweries being set up, while in the 50 years before their formation not one was founded. CAMRA has moved the equilibrium in the market, which is presumably evidence that it was failing before. And unless AT is prepared to
accept anti-business volunteer lobbying and protest groups in the requirements for a properly functioning market, it would seem that the problem was fixed by a successful organization overcoming the collective action problem.

So yes, I think asymmetric information, including adverse selection, is really a problem in many markets.

Update: on asymmetrical information in insurance, see December 18th's Dilbert.