Thursday, December 8, 2011

The Secondary Market's impact on New Video games sales (and the benefit used video games provide publishers).

In this article I wanted to examine the benefit that used video games provide publishers. And whether the benefits of used video games significantly help the sales of video games.  I look at various studies and determine what factors impact video game sales.

When you allow a durable good to resold, this will impact the price the buyer is willing to pay, because “The more opportunities to resell, the higher the price first period consumers are willing to pay, since they can resell the good after they used it”.(Cayseele, 1993)  This allows publishers to make more money, because they can charge more for games, and it allows consumers to buy more video games.
Used video games sales do provide benefit to the publishers, but does that benefit translate into more revenue? Well, it complicated.  There are a variety of factors that determine if a publisher can increase its profit from used video games.  These factors are the amount of commitment to future production, superiority over secondary market, durability, consumer preferences, and concentration of the primary market.(Chen, 2011)  So let’s hit these factors individually shall we.

There is the dynamic competition between the products price and the product's future self.  Prices will eventually drop and consumers may decide wait until the price drops before purchasing a product.  “Without secondary markets, Coase (1972) famously pointed out that time-consistent firms will be hurt by their inability to commit to high future prices … forcing earlier decreases in prices.”(Chen, 2011) However consumers can anticipate price drops in secondary markets which can cause pressure to lower prices in the primary market.(Chen, 2011)  It’s a complicated relationship, but it appears the secondary market helps more when you commit to higher prices for longer periods of time. “When firms cannot commit, opening the secondary market exacerbates the dynamic competition between firms and their 'future selves.'”(Chen, 2011)

Good Games sell better than bad games.  Pretty simple if used products are inferior to new products “this, in turn, induces high-type consumers to return to the primary market”.(Chen, 2011)  However, one it’s a little more complicated if you consider limiting your features/quality in order to create planned life-cycles for the product.  Decrease the current quality of your product in order to release superior products in the future.  This works to a degree, but shorter lifespan will often lead to consumers paying less for new products. (Chen, 2011)

Durability is the length of period a product can be used before it breaks down.  How durable an item effects of many of those items can be resold and compete with the primary market.  “Although used goods create competition for new goods, a manufacturer would benefit from a well-functioning used-goods market increasing the willingness of consumer to buy new goods easy to resale.”(Prado, 2009)  Make the products too durable and there is too much competition in the secondary market.  Make them too nondurable and you're bound to decrease the price consumers are willing to pay. Also, how active the secondary market also plays a role into this balance. “...when the secondary market becomes more active, firms have a stronger incentive to make their cars less durable.”(Chen, 2011)  It's unclear how much durability affects video games.  While lower durability¥would decrease the supply in the secondary mark, 90% of new games are sold in the first three months. (Zatkin, 2001) So there may not be a way to impact durability enough to increase sales.

Consumer Preferences
Some people just like to buy new products; you can call these high-value consumers.  While others only cares if the product works, let's called them low-value consumers.  Your preference will probably determine which market you're more likely to buy from. And it seems there needs to be a certain amount of people who want to buy new products (high-value consumers), in order for the secondary market to be beneficial.  And the less high-value consumers convert to low-value consumers, the better the secondary market is for the publisher. “When the time-varying component of preference heterogeneity becomes relatively more important, the distinction between high- vs. low-type consumers becomes more that firms are hurt more when the secondary market opens”(Chen, 2011).  It's a complicated relationship, if too many high-value consumers than high-value can't return to the primary market as often, too little high-value consumers, and the publishers are less profitable.   Publishers may have little influence over the consumers' preference, but it is something to take in account when assessing market structure.

Concentration of Primary Market
How much units a publisher is something to take in consideration.  “... (An) increase in aggregate output also implies an increase in the stock of used goods, which exacerbates the negative substitution effect of opening secondary markets.”(Chen, 2011) Of course, there are other options to increase the concentration of the primary market besides limiting your production.  You may also be able to increase the price of the new market by the increasing renting games and buying back stock.(Prado, 2009)  Decreasing the used market will help stabilize or increase the price in secondary market which will allow the primary market to maintain higher profits. “Following disturbance disequilibrium in one market, a short-term effect of arbitraging creates a temporary obstacle to price movement and a move on the other market on the same direction. Then, on a second period, the second-hand market’ disequilibrium slowly liberates constraints of an equilibrating price movement.”(Prado, 2009)

It's quite apparent that video game publishers receive revenue from used video games sales.  The relationship isn't very straight-forward, but the secondary market allows consumers to buy more new video and more often.  There are certainly a variety of factor to consider when trying to make the secondary market work for publishers. Also, an environment with no secondary market may be more profitable than an environment with secondary market (depending on factors mentioned above). Of course, the secondary market has more impacts on publishers besides profits. Such as increases the audience that plays your video game.  And impact on consumer wealth. “The growth of any second-hand market increases overall economic welfare...regardless of whether these markets stimulate demand for new goods.”(Thomas, 2003)

Cayseele, P. Van “Lemons, Peaches and Creampuffs”: the Economics of a Second-Hand Market  (1993) 
Chen, Jiawei, Susanna Esteban, and Matthew Shum. "How Much Competition is a Secondary  Market?." (2011):
Prado, Sylvain Michael "A Family Hitch: Econometrics of the New and the Used Car Markets"  (2009):
Thomas,Valerie M. ”Demand and Dematerialization impacts of second-hand Markets” (2003):
Zatkin, Geoffrey. "Insider Insight: Awesome Video Game Data" PAX 2011. EEDAR. 1400 Sixth  Avenue, Seatlle. 09/04/11. In Person. 

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