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Payola Case:

I noticed this article on the payola settlement the other day, which dusted off old memories from my Econ grad student days reading Coase explaining the efficiency of payola in the recording industry. Apparently some lessons have to be relearned every generation or so.

Josh Wright guest-blogging on the Conglomerate has an excellent analysis of the case, with an update and extension of Coase's classic article, plus an explanation of why similar deals are efficient in other contexts as well (such as grocery store slotting).

I love his closing paragraph on the unintended consequences of General Spitzer's "victory":

Because radio airtime is a substitute for advertising, it is completely unsurprising that music publishers desired to collude to stop advertising --- an important dimension of competition for record sales. Collusion is notoriously difficult to accomplish in the first instance, and even harder to sustain because members of the cartel increase profits by deviating from the collusive agreement. Successful collusion often takes a third party to regulate the agreement and punish defectors. Occasionally, would-be cartel members are able to persuade the government to take the job. It appears that Spitzer may succeed where the recording industry has failed for over a century by stepping up to police the industry restriction on competitive payments for spins.

Update:

Sorry, I originally forgot to post the link to Wright's post. It is there now.

Hattio (mail):
Just out of curiousity, do any economics specialists out there have an opinion on where payola is most efficient? The reason I am asking is that I've heard that in the 50's and 60's most payola was paid to the actual DJ's. Now, it has moved upstairs so to speak. I would think that payola at the DJ level would make for better music becoming popular, since paying off thousands of DJ's would be expensive, and at some point in time popular demand would take over. I also imagine it would make for a much more regionalized music industry.
8.4.2005 6:31pm
jallgor (mail):
I am curious about what the "efficiency of payola" refers to (I couldn't find the wright article mentioned in the post). Also, I don't understand Wright's quoted paragraph. I don't see how people who pay radio stations to play their records are colluding with each other. Their motive is probably not to stop advertsing their motive is to limit the airtime of other music labels. If one music label gets 4000 spins they will get those spins at the expense of other music labels not advertisers. Isn't this just a classic example of simple commercial bribery? TZ your post seems to imply that Spitzer's crackdown is economically wrong headed but (this time) I just don't see it.
8.4.2005 7:05pm
Drewsil (mail):
Jallgor, the collusion is because they would rather not have to pay for their songs to be played. Think of it as a prisoners dillema, everyone does decently if noone pays for spins. If one party pays for spins then that one party gets a benefit (more sales). If all parties pay for spins, however, then they essentially get the same results as with not paying, but they have higher costs.

So while any individual is better off paying, collectively the group (of music producers) benefits when payola is banned. Hence there is an incentive for collusion. Additionally the big labels get an additional advantage, as smaller labels cannot pay to have a song that they know is good played, and generaly songs by small labels will not see airtime (because they don't generally have broad appeal).
8.4.2005 9:13pm
Joshua Wright (mail):
The fundamental economic point is that payola is an important form of price competition in the music industry and always has been. The recording industry has a long history of attempting to ban payola, which like agreements to restrain other forms of price competition, are unequivocally bad for consumers. As to why payola is efficient, my forthcoming analysis with Benjamin Klein lays out the theory in more detail in the context of grocery store slotting allowances. It is difficult to lay out the complete theory in a comment, and I won't try, but the basic economic point is that music publishers must pay radio stations to promote singles (give more airtime) than they would otherwise because radio stations do not take into account the substantial incremental profits earned by the publisher as a result of record sales produced by the additional airtime. Because the radio station does not take into account these profits when determining the number of spins to give a particular record, it will systematically undersupply spins of a particular song without further compensation under a rather broad set of conditions (again, see the paper). Therefore, the music publisher must pay for the additional spins in order to achieve the efficient (jointly profit-maximizing) solution.

P.S. Hattio, you are absolutely correct that the trend in modern payola is to pay the program director rather than the DJ.
8.5.2005 1:07am