Monopolies are built from the psychology of "free"

I want to deconstruct a statement from my last post:

“The ease of using using a free product blinds many of us from scrutinizing the product’s true cost. When you can’t identify what there is to lose, there is only upside from something free.”

Studies show that consumers become irrational when goods are free. As an undergrad, I was fortunate enough to gather a few early datasets in a UROP with Dan Ariely, one of the most influential professors studying the irrational economic behaviors around “free” prices. At the time, I felt this was merely an exercise to put something on my resume, but it turns out his research contains some of the most influential theories in business today.

Long after my graduation, he published an amazing book “Predictably Irrational” that I recommend to any business owner thinking about free pricing. In Chapter 3, he highlights a specific case study on prices: Amazon shipping costs in France. There was a period of time where Amazon shipping costs in France were at 1 Franc ($0.20 USD) - meaningless in terms of cost to the customer. As soon as France went to free shipping, sales jumped tremendously. The difference between 20 cents and 0 cents is effectively meaningless in monetary value, but the disproportionate value in sales increase when shipping went to zero cost showed how consumers buy more product because of the “free” label.

Observing monopolistic side effects of free pricing under instant distribution through technology

For the last two decades, consumers exhibited irrational behavior by overusing “free” online services, primarily because these services are instantly accessible (time pressure) and infinitely scalable (quick access). As consumers made instantaneous decisions around highly scalable and free products, they misjudged long term costs to themselves. Eventually when these “free” businesses monetized, consumers that irrationally adopted the product eventually got hurt. We are currently seeing this in cases with FB and Google.

Anti-trust policies do not fit squarely into the big technology company mold. Most anti-trust policies are constructed so that companies can’t raise prices too high. Monopolies become obvious when companies can set whatever price they want. In technology, however, it’s the exact opposite. Prices are the lowest they can be for the consumer – free. When technology companies are able to own the mindshare and monetize behind the scenes, this is when they’ve effectively gained control over the market.

It will take years before anti-trust policies are built for technology companies. Each company is different in its strategy and hard to generalize for. The ways that these companies get to scale are roughly similar, but there are no economic models that understand free monopolies. An additional wrinkle in software companies is its platform aspect. Platforms allow other companies to develop within their rules; monopolistic platforms observe successful ventures and copy them very quickly to take advantage of their instant distribution.