Just Enough Piracy

It's not news that the main reason the movie and television industries are wary of BitTorrent is that they're freaked out by the music industry's experience with piracy. Although they see the economic advantages of P2P distribution, they're concerned that once they put their stuff out there, even wrapped in triple layers of kryptonite DRM, it might be cracked and then circulate in unprotected form. For movies, that's lost revenues. For TV shows, that means ads could be stripped out, expiration routines could be removed and (gasp!) content could be modified or remixed.

All that counts as Very Scary Stuff to industry executives, and as a result they're looking for "strong" DRM before they consider letting their premier content circulate online. This is a mistake, for two reasons:

The first is about the user experience: Any protection technology that is really difficult to crack is probably too cumbersome to be accepted by consumers.

We've seen all sorts of failures of this sort before, from dongles to laborious and confusing registration schemes. Each seems better at annoying consumers than at building markets. The lesson from these examples is that zero-percent piracy is not only unattainable, it's economically suboptimal. If your content is uncrackable, it means you've probably locked the market down so tight that even honest consumers are being inconvenienced.

Instead, efficient software and entertainment markets should exhibit just enough piracy to suggest that the industry has got the balance of control about right: not too loose and not too tight. That number is not zero percent (which requires protection methods so invasive they kill demand), and it's not 100% (which kills the business). It's somewhere in-between.

The second reason the quest for zero-piracy is a mistake is an economic one: piracy can actually let you raise your prices.

I'll give you a surprising example. I was chatting with a former Microsoft manager the other day and he revealed that after much analysis Microsoft had realized that some piracy is not only inevitable, but could actually be economically optimal. The reason is counterintuitive, but intriguing.

The usual price-setting method is to look at the entire potential market, from the many at the economic lower end to the few at the top, and set a price somewhere in between the top and bottom that will maximize total revenues. But if you cede the bottom to piracy, you can set a price between the top and the middle. The result: higher revenues per copy, and potentially higher revenues overall.

(This is, by the way, the opposite of the conventional economic approach to developing-world piracy, which is to lower the cost of a product closer to the pirate version, closing the pricing gap to try to win customers over to the official version. In practice, however, the pirate price is so low that it's rarely possible to close that gap enough to make much of a difference.)

Add to this the familiar (if controversial) argument that piracy helps seed technology markets, and can be a net benefit. Especially in fast-developing countries such as China and India, the ubiquity of pirated Windows and Office have made them de-facto national standards. Few users could have paid for the retail versions at the start, but now that the spread of cheap technology, including free software, has led to an economic boom, Microsoft is finding a nice market for commercial software at the very top, in big companies and government offices.

When all these effects are considered, it appears that there actually is an optimal level of piracy. That right level would vary from industry to industry. Today the estimated piracy rates are 33% for CDs and 15% for DVDs. The industries say that's too high, but most anti-copying technologies they've brought in to lower that figure have proven unpopular. Would even tighter lock-downs help? Probably not. Maybe 15%-30% is simply the market saying that this is the optimal rate of piracy for those industries, and any effort to lower that significantly would either choke demand or push even more people to the dark side.

So the moral for video content holders and others considering DRM: be careful what you ask for, because you just might get it. "Uncrackable" DRM could make the P2P problem worse, by driving more users underground and depressing prices. Don't imagine that if you release content in a relatively weak DRM wrapper (like today's DVDs) and copies get out that the whole market will collapse. Instead, you may find that piracy stays constant at relatively low levels, leaving the rest of the market happier and more profitable.

The lesson is to find a good-enough approach to content protection that is easy, convenient and non-annoying to most people, and then accept that there will be some leakage. Most consumers see the value in paying for something of guaranteed quality and legality, as long as you don't treat them like potential criminals. And the minority of others, who are willing to take the risks and go to the trouble of finding the pirated versions? Well, they probably weren't your best market anyway.

http://www.thelongtail.com/the_long_tail/2005/08/just_enough_pir.html