An economist walks into a bar | Robert Litan | TEDxKC

Summary

This engaging talk explores the significant impact of economics on the Internet economy, highlighting how artificial scarcity and economic principles have shaped online dating, travel, advertising, and even sports. The speaker illustrates how economists' ideas have revolutionized industries, from Cupid.com's success with limited date offers to Priceline's conditional price model, Google's ad auction system, and the deregulation that enabled Amazon's efficient delivery. The talk concludes by emphasizing the crucial yet often overlooked role of economists in our digital age.

Takeaways

• 😄 The concept of artificial scarcity is introduced using a bar scenario where a man's unsuccessful attempts to buy drinks lead to a similar pattern on an online dating site, Cupid.com.
• 💡 Economists Muriel Niederle and Dan Ariely suggest a solution for Cupid.com by implementing a limit on the number of date offers men can make, creating artificial scarcity and improving the site's success.
• 🚀 The 'Name-Your-Price' model of Priceline was not its key to success; instead, it was the conditional price offer that made customers take their bids seriously.
• 🧠 Jay Walker, who studied economics, is credited with the idea behind Priceline's conditional price offer, which revolutionized the travel industry.
• 🔍 Google's ad revenue, primarily from the right-hand side ads, was not initially successful until they adopted an auction system designed by engineers Eric Veach and Salar Kamangar.
• 🏆 The second-price auction model, which Google uses for ad placement, was proven by economist William Vickrey to be the best solution to the winner's curse and earned him a Nobel Prize.
• 🛍️ The success of web retailing, particularly Amazon, is attributed not only to efficient warehousing but also to the flexible transportation system made possible by deregulation advocated by economists.
• 🏋️‍♂️ The story of Moneyball highlights the impact of economic thinking in sports, with Billy Beane using sabermetrics, a field invented by Bill James, to build a competitive baseball team on a budget.
• 🎯 Economists have played a pivotal role in shaping various industries, from online dating and travel to retail and sports, often behind the scenes and deserving more recognition.
• 🤝 The talk concludes with a call for economists to be respected for their contributions to the Internet economy and beyond, influencing areas from online advertising to efficient delivery systems.

Q & A

What is the concept of artificial scarcity introduced in the script?

Artificial scarcity is the concept of artificially constraining what appears to be an abundant resource, such as limiting the number of date offers on Cupid.com, to make them more valuable and taken more seriously.

How did Cupid.com address the issue of too many date offers leading to user dissatisfaction?

Cupid.com addressed the issue by implementing a sharp limit on the number of date offers that men could make to women each month, creating artificial scarcity and improving the quality of interactions.

What is the significance of the 'Name-Your-Price' model in the context of Priceline's success?

The 'Name-Your-Price' model was not the key to Priceline's success; instead, it was the conditional price offer that made users take their bids seriously, knowing they would be bound to pay the price they bid if accepted.

Who is Jay Walker and what is his contribution to the travel industry?

Jay Walker is the inventor of the conditional price offer model, which revolutionized the travel industry and led to the creation of Priceline.

How did Google's ad auction system evolve from its initial door-to-door sales approach?

Google's ad auction system evolved from a manual sales approach to an automated one, where they auctioned off ad placements and used a second-price auction model to prevent the winner's curse and streamline the process.

What is the 'winner's curse' in the context of auctions, and how did Google's auction system address it?

The 'winner's curse' is a phenomenon where the winner of an auction ends up paying more than the item is worth. Google's auction system addressed this by using a second-price auction model, where the winner pays the second-highest bid plus one penny.

Who is Hal Varian and what role did he play in Google's development?

Hal Varian is a world-leading expert on auctions and the Internet. He was persuaded by Eric Schmidt to leave his position at Berkeley and join Google as its first chief economist, where he helped refine the online ad auction process.

How did deregulation of the airline and trucking industries impact the success of web retailers like Amazon?

Deregulation of the airline and trucking industries led to increased competition and the development of a highly flexible and efficient transportation system, which was crucial for the success of web retailers like Amazon in delivering goods promptly and efficiently.

What is sabermetrics and how did it influence professional sports?

Sabermetrics is a field that applies economic and statistical analysis to baseball data to evaluate players' performances. It was invented by Bill James and used by Billy Beane to build a competitive baseball team on a budget, and it has since influenced the management of various professional sports teams.

Why does the speaker argue that economists deserve more respect in the business world?

The speaker argues that economists deserve more respect because they have played a significant role in building the Internet economy, shaping online advertising and auctions, making it possible for efficient delivery of goods, and even contributing to the success of online dating and sports management.

Outlines

00:00

💡 Artificial Scarcity in Online Dating

The speaker begins by humorously referencing a clichéd joke setup to introduce the concept of artificial scarcity. They use the example of a man in a bar who fails to attract a date, both in real life and online, leading to a broader discussion about the challenges faced by online dating platforms like Cupid.com. The issue is that women on these platforms are overwhelmed by date requests, causing them to leave, which in turn drives men away. The solution proposed by economists Muriel Niederle and Dan Ariely is to artificially limit the number of date requests a man can make in a month, thereby increasing the seriousness with which both men and women approach the dating process. This strategy not only saved Cupid.com but also revolutionized the online dating industry, which is now worth billions in North America.

05:00

🚀 The Economic Genius Behind Priceline's Success

The speaker shares the story of Jay Walker, who, after studying economics at Cornell, came up with the idea of a conditional price offer that became the cornerstone of Priceline's business model. This model compels users to bid on travel services seriously, knowing they are committed to paying the price they bid if accepted. The speaker also discusses the early days of Google's advertising system, which was initially manual and unsustainable. To solve this, Google's founders tasked engineers Eric Veach and Salar Kamangar with creating an automated system. They proposed an auction system where the highest bid would be the second-highest bid plus a penny, preventing endless bidding wars and the 'winner's curse.' This system was validated by economist Hal Varian, who explained its effectiveness and historical precedent by William Vickrey, a Nobel laureate in Economics. Varian later joined Google as its first chief economist, contributing significantly to its advertising and other services.

10:03

🛍️ The Impact of Deregulation on Web Retailing

The speaker highlights the role of economists in shaping the transportation industry, which was crucial for the success of web retailing giants like Amazon. Before deregulation in the 1980s, airlines and trucking companies were heavily regulated, limiting competition and efficiency. Economists like Michael Levine, Alfred Kahn, and Darius Gaskins advocated for deregulation, arguing against the need for such controls. Their efforts, along with supportive politicians, led to the dismantling of these regulations, which in turn sparked competition between UPS and FedEx, resulting in a flexible and efficient delivery system. This system became the backbone of web retailing, enabling companies to deliver goods quickly and efficiently, contributing to the massive growth of the industry.

15:03

🏆 Moneyball and the Power of Economic Thinking in Sports

The speaker concludes with the story of 'Moneyball,' detailing how Billy Beane, the general manager of the Oakland As, built a successful baseball team on a limited budget. The real hero of the story is economist Bill James, who developed sabermetrics, a field that applies economic principles to baseball statistics. This approach revolutionized how teams are built, not just in baseball but across professional sports. The speaker emphasizes the broader impact of economic thinking, suggesting that economists deserve more respect for their contributions to various industries, including the internet economy, online advertising, and even personal relationships.

Keywords

💡Artificial Scarcity

Artificial scarcity refers to the deliberate limitation of supply to increase demand or value, which is a concept introduced in the video through the story of Cupid.com. The video explains how economists suggested creating artificial scarcity by limiting the number of date offers men could make on the site, thereby increasing the seriousness with which both parties approached the online dating process. This concept is central to the video's theme of how economic principles can be applied to solve real-world problems and enhance business models.

💡Online Dating

Online dating is a platform where individuals can meet and interact over the internet with the goal of forming romantic relationships. The video uses the example of Cupid.com to illustrate the challenges faced by online dating platforms, such as the overwhelming number of date requests leading to user dissatisfaction. The concept of artificial scarcity was implemented to address these issues, demonstrating how economic thinking can innovate and improve the user experience in the online dating industry.

💡Economist

An economist is a professional who studies the production, distribution, and consumption of goods and services. In the video, economists Muriel Niederle and Dan Ariely are highlighted for their work on artificial scarcity and its application to online dating. The video emphasizes the significant role economists play in shaping various industries, including the internet economy, by applying economic theories and solutions to practical business challenges.

💡Name-Your-Price

Name-Your-Price is a business model where consumers propose a price for a product or service, and the seller decides whether to accept the offer. The video discusses how Priceline's success was not solely due to the Name-Your-Price model but also because of the 'conditional price offer', which compels consumers to make serious bids. This concept is tied to the video's message about the innovative applications of economic strategies in business.

💡Conditional Price Offer

A conditional price offer is a proposal where a consumer bids a price for a product or service, and if accepted, they are obligated to complete the purchase. The video explains that this concept was crucial to Priceline's success, as it encouraged serious bidding from consumers, thus preventing excessively low offers and ensuring a sustainable business model.

💡Auctions

Auctions are a process of buying and selling goods or services by offering them up for bid, taking bids, and then selling the item to the highest bidder. The video discusses how Google's advertising model was initially based on an auction system for ad placements. The concept of a 'second-price auction' was introduced to prevent the 'winner's curse' and streamline the process, which is a significant example of economic theory applied to technology.

💡Second-Price Auction

A second-price auction, also known as a Vickrey auction, is an auction where the highest bidder wins but pays the price of the second-highest bid. The video explains how Google adopted this model for its ad placements, which was suggested by its engineers and validated by economist Hal Varian. This method prevents bidders from overbidding and ensures a fair and efficient auction process.

💡Deregulation

Deregulation refers to the reduction or elimination of government control over a particular industry. In the video, the deregulation of the airline and trucking industries in the 1980s is highlighted as a key factor that enabled the development of a flexible transportation system. This system was crucial for the success of web retailers like Amazon, as it allowed for efficient delivery of goods, demonstrating the impact of economic policies on business operations.

💡Web Retailing

Web retailing is the sale of goods and services through the internet. The video discusses the role of web retailing as a significant part of the internet economy, with Amazon being a prime example. The success of web retailing is attributed not only to efficient inventory management but also to the availability of a flexible transportation system, which was a result of economic policies and deregulation.

💡Sabernomics

Sabernomics, or more commonly known as sabermetrics, is the statistical analysis of baseball data for the purposes of player evaluation and team management. The video mentions how Bill James pioneered this field, which was later used by Billy Beane in the movie 'Moneyball' to build a competitive baseball team on a limited budget. This concept illustrates the broader theme of the video, which is the application of economic thinking to achieve success in various domains.

💡Moneyball

Moneyball refers to the book and movie that tell the story of how the Oakland A's baseball team used statistical analysis to assemble a competitive team despite financial constraints. The video uses Moneyball as an example of how economic principles can revolutionize an industry, in this case, professional sports, by challenging traditional methods and focusing on data-driven decision-making.

Highlights

Introduction to the concept of artificial scarcity using a bar scenario.

The anti-hero's failed attempts to get a date both in the real world and on Cupid.com.

Cupid.com's problem of women being overwhelmed by date offers leading to their quitting the site.

Economists Muriel Niederle and Dan Ariely's suggestion to limit the number of date offers to create artificial scarcity.

How artificial scarcity helped save Cupid.com and revolutionized online dating.

The rise of the Internet economy and the role of economists in its development.

The 'Name-Your-Price' travel model by Priceline and its real success factor.

Jay Walker's role in creating the conditional price offer that revolutionized the travel industry.

Google's advertising model and the auction system for ad placement.

Eric Veach and Salar Kamangar's development of an automatic system for Google's ad auctions.

The second-price auction model invented by William Vickrey and its adoption by Google.

Hal Varian's influence on Google's ad auction process and his role as Google's first chief economist.

Microsoft's hiring of economist Susan Athey to compete with Google.

The deregulation of the airline and trucking industries and its impact on web retailing.

The role of economists in advocating for deregulation, leading to a flexible transportation system.

How deregulation enabled UPS and FedEx to develop a system ideal for the Internet economy.

Amazon's success and the underlying role of economists in creating a flexible transportation system.

The impact of economist Bill James and sabermetrics on professional sports.

The call for economists to be respected for their contributions to various industries.

Transcripts

Translator: Nga Nguyen Reviewer: Queenie Lee

So, there are these two guys that walk into a bar,

"No, I'm not going to go there."

It could be the beginning of a joke.

But I really want it to be the introduction

to the notion of artificial scarcity.

And you'll see why in a minute.

So let's go back to the bar.

The first guy,

he approaches the first woman that he sees, offers her a drink.

She turns him down.

He, then, decides to work his way down the bar,

and of course, all the women watching this, they see what he's up to,

and they all turn him down.

Now, our guy, I'm going to call him the anti-hero.

He hasn't learned from this experience

in the real world.

So he decides to go to the virtual world.

He goes to the Internet and joins Cupid.com,

and he tries the same technique, and sure enough, with the same result.

They all turn him down.

So our anti-hero is in trouble.

But you know what? Cupid.com is in trouble too.

And the reason they are,

is that the women who have joined Cupid.com

are being inundated with offers from men for dates.

They get turned off, they quit.

And as they quit, men quit. Cupid is in trouble.

Who are you going to call, to solve this problem?

No, the answer is more obvious than Ghostbusters.

(Laughter)

You call an economist.

(Laughter)

Don't laugh, you call an economist.

(Laughter)

In fact, you call two of them.

This is Muriel Niederle of Stanford, and Dan Ariely of Duke.

And they've spent a lot of time,

studying the problem of artificial scarcity and abundance,

in the online dating context, which is the reason Cupid called them up.

And they wanted to know how to fix their problem,

and the two economists said

they had an idea that was as simple as it was profound.

Just put a sharp limit on the number of date offers

that men could make to women each month.

This is the notion of artificial scarcity.

Taking what looks like an abundant resource,

which is date offers,

and artificially constraining them.

And the economist said to Cupid that if you do this,

the men will take their offer seriously.

They'll look at more than just the women's pictures,

and they actually look at their profiles.

And the women will know this,

and they'll be more likely to accept date proposals.

Artificial scarcity help save Cupid.com

and other dating sites that copied the technique.

Today, online dating is a two billion dollar industry

in North America alone.

Now, I want to talk about a lot more

than online dating and artificial scarcity.

Much bigger topic.

I want to try to show to you how economists and their ideas

have contributed to the rise of the entire Internet economy

and to some of the iconic companies within it.

I'm sure many of you are familiar with the notion

of "Name-Your-Price" travel.

That was invented by Priceline.

Well, "Name-Your-Price" travel was really not the key to their success.

Because, if you could name your price, what price would you bid?

Zero, right? Or one or two.

And obviously the airlines or the hotel charges

would not accept the offer.

The key to Priceline was not their great advertising.

It wasn't the fact that you could do searches online.

No, the real key to Priceline success,

by the way, it's a 60 billion dollar company, market cap today.

The real key is they make you this proposition.

They say that if you

bid a particular price for a hotel room or a flight,

and Priceline decides to accept it, you're bound to pay it.

This is called the conditional price offer.

And in basically what it does, it induces you, as the traveler,

to take your offer seriously,

in the same way

that the artificial restriction on the dating proposals

that Cupid.com did for men.

So who is the brilliant guy behind the conditional price offer?

(Laughter)

He's a smart guy, but Captain Kirk was not the inventor of the idea.

He was the pitchman, and he still is for Priceline.

No, the real genius behind Priceline was this guy: Jay Walker.

Jay studied economics as an undergraduate at Cornell.

And he actually listened

and thought two steps beyond what his lecturers told him at Cornell,

and came up with the idea of the conditional price offer,

which led to Priceline and revolutionized the entire travel industry in the US.

I have another example.

It's one that you're also very familiar with.

It's a search page at Google.

It could be in any other search engine,

and what I want you to pay attention to is that right-hand side,

the ads over there.

Google collects about 50 billion dollars a year

from advertisers, large and small,

seeking placement on that right-hand side.

They auction off the sites.

But that's not how the system started,

because when Google was launched,

online advertising was in its infancy,

and Google, believe it or not,

went door to door, advertiser to advertiser,

trying to get them to place an ad next to a search term.

Highly laborious,

you quickly can see this is not going to scale,

as the number of searches exploded on Google.

And so the founders of Google asked two young engineers,

Eric Veach and Salar Kamangar,

to come up with an automatic system that would solve this problem.

Well, they were instinctively attracted to auctions.

But they were thinking about another problem.

That is if they auctioned off the sites,

they feared that the advertisers would bid a very low price

and then incrementally raised their prices just a little bit

and keep the auctions going forever.

And if this happened,

and a lot of searches were also going on at the same time;

the whole site would crash.

So, as an engineering solution, they came up with this idea.

That the winning auction, or the winning placement

will be the price,

the second highest price that was bid plus one penny.

This would cut off the auctions, really simplify the process,

and in the process,

also solve another problem called "the winner's curse."

I'm sure many of you have participated in auctions,

may have regretted winning

because you felt like you paid too much.

Pretty obvious point.

But the CEO of Google at the time, Eric Schmidt,

still wasn't sold on the second price auction as the way to go,

until he ran into this man.

Totally by accident in a party.

This is Hal Varian.

At the time, he was Dean of the Information Sciences School

in Berkeley,

and a world-leading expert on auctions and also the Internet.

Schmidt asked Varian,

"Does this second price auction make any sense?

Why not the first price?"

And Varian pondered the question, and came back to Schmidt,

and he said, "You know, those two engineers,

they have reinvented what this guy came up with."

This is William Vickrey, he was an economist at Colombia,

who proved mathematically,

that the second price auction

was the ideal solution to the winner's curse.

And you know what? That won him the Nobel Prize in Economics in 1996.

Well, now you're Eric Schmidt,

you think "Well, economists, they may be able to help Google."

So he persuades Hal Varian to leave his tenured position at Berkeley,

and join Google as its first chief economist.

Varian then goes on to hire an army of statisticians and economists,

who helped refine the online ad auction process,

and also develop other services for the Mountain View giant.

You know, they say that imitation is the best form of flattery.

Well, guess who was watching, Microsoft from up north?

Their chief competitor or would-be competitor, Microsoft.

They wanted their own Hal Varian.

And they got her. This is Susan Athey.

Susan is a rock star economist at Stanford,

world-leading expert in auction theory,

and she splits her time teaching

with also working as an economist at Microsoft.

I have a third example;

it's bigger than the first two.

It's the entire business of web retailing.

It's a 300 billion dollar industry in the United States alone.

And you all know the poster child of web retailing;

it's Amazon.com.

Now many of you may think that Amazon's success

is due to its fantastic system of warehousing and inventory control.

It's able to basically send out all that stuff that you order online.

But you know, Amazon and other web retailers

would not be as successful as they are

without a highly flexible transportation system

that actually would deliver all that stuff.

And guess who helped bring that system to reality.

Economists.

Because back in 1980, when Jeff Bezos was just a teenager,

the airline and the trucking industries were heavily regulated.

Every fare and every route that they charged, or they flew, or they drove

had to be approved by the government.

In fact, there was a rule that set to an airline

that owned a trucking outfit:

it couldn't deliver merchandise more than 20 miles away from the airport,

at which the merchandise landed.

This rule was obviously in place

to protect other truckers from competition,

which of course was the whole point of airline and trucking regulation

in the first place.

That's why economists long opposed it.

But they also opposed it for another reason.

There are lots of airlines and trucking firms.

They're not natural monopolies in the same way that a local utility is

that needs regulation in order to prevent price gouging.

No, airlines and trucks should never have been regulated.

And three of the economists

who were most insistent about this are in this picture:

Michael Levine, Alfred Kahn, and Darius Gaskins,

and trust me, there were many more, who have been writing for decades

that we ought to get rid of this crazy system.

Well, there were two politicians, courageous politicians

who finally listened to these guys and women,

and persuaded Congress in 1978, and 1980 respectively,

to dismantle the system of airline and trucking regulation

against the stiff opposition, of course, of those industries.

And you may not recall, but prices fell after deregulation.

But more importantly for my story

is that deregulation unleashed vigorous competition,

between the two giants of the transportation industry:

UPS and FedEx.

They went on to develop a highly flexible and efficient transportation system

that was ideal for the Internet economy.

So that 20 years later, when Jeff Bezos and other web retailers came along,

they were able to tap into and use this system.

In fact, Jeff Bezos, if you're watching this,

you should send a thank you note

to three of the economists that I showed before

and many of the others who made your fortune possible.

I want to conclude with one final example,

has nothing to do with the Internet,

unless you want to count the 32 million people,

who play some form of online fantasy sports.

I mentioned sports because I'm a sports nut,

and I want to talk to you about Moneyball.

I'm sure many of you have seen the movie.

It's based on a book, yes, go ahead and applaud.

Fantastic book and movie, and it is written by this man,

Michael Lewis, who by the way,

I think he's probably one of the best non-fiction writers in America

or the world for that matter.

And Moneyball, as you know,

was about Billy Beane, the general manager of the Oakland As

who built a great baseball team on a shoestring budget.

But Moneyball really wasn't a traditional baseball movie.

In the same way, that Bull Durham or Field of Dreams was.

You know, the real hero of Moneyball was this guy.

Now many of you may not recognize him,

but I submit to you:

he had as big influence on baseball as Hank Aaron or Babe Ruth.

Because he applied economics and statistics

to showing how it's possible to produce winning baseball.

He invented a field called sabermetrics

that was used by Billy Beane and other baseball teams

to build their rosters.

In fact, it is used throughout professional baseball,

not just there.

Sabermetrics is used by professional basketball teams,

football teams, and even hockey teams

have people like Bill James on their staff.

Economic thinking has revolutionized sports.

You know, in the course of my career,

I've had a good fortune to meet many many people in the business world.

But unfortunately, from my perspective,

too many of them have no respect for economists.

They say we've never met a payroll - "we" meaning the economists.

What do they know?

Well, economists helped build the Internet economy.

Economists help make it possible for Amazon and other web retailers

to deliver all that stuff that you order

to your doorstep, efficiently and promptly 24 - 7.

Economists shape the system of online advertising,

especially online auctions.

Economists make it possible for you

to get five-star hotels at three-star prices.

Economists may even have made it possible for you

to have a date

and conceivably for you to have met your spouse.

I think economists deserve some respect.

(Laughter)

(Applause)

That answers it, don't you? Thank you very much.

(Laughter) (Applause)