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\title{The Case Against Micropayments}

\titlerunning{Lecture Notes in Computer Science}

\author{Andrew Odlyzko}

\authorrunning{Andrew Odlyzko}

\institute{Digital Technology Center, University of Minnesota,\\
499 Walter Library, 117 Pleasant St. SE,\\
Minneapolis, MN 55455, USA\\
\email{odlyzko@umn.edu}\\
\texttt{http://www.dtc.umn.edu/$\sim$odlyzko}}

\maketitle

\begin{abstract}
Micropayments are likely to continue disappointing their
advocates.  They are an interesting technology.  However, there are
many non-technological reasons why they will take far longer than is
generally expected to be widely used, and most probably will play only
a minor role in the economy.
\end{abstract}


\section{Introduction}

This is an extended version of my remarks at the panel on ``Does anyone
really need MicroPayments?'' at the Financial Cryptography 2003 Conference.
For a report on the entire panel, see \cite{vanS}.

Micropayments are the technology of the future, and always will be.  This
was said about gallium arsenide (GaAs) over a decade ago, and has proven
to be largely accurate.  Although GaAs has found some niche applications
(especially in high frequency communications), silicon continues to
dominate the semiconductor industry.

The fate of micropayments is likely to be similar to that of gallium
arsenide.  They may become widespread eventually, but only after a long
incubation period.  They are also likely to play only a minor role in the
economy.  The reasons differ from the ones for the disappointments
with GaAs.  GaAs is playing a minor role because of technology trends.
Silicon has improved faster than had been expected, and GaAs more slowly.
On the other hand, the obstacles to micropayment adoption have very little
to do with technology, and are rooted in economics, sociology, and
psychology.  Known micropayment schemes appear more than adequate in terms
of providing low cost operations and adequate security.  What is missing
are convincing business cases.

This note is not a general survey of micropayments (see \cite{DingledineFM}
for that, for example).  It does not even present full details of the
arguments against micropayments.  Instead, it summarizes what appear to
be the main obstacles to micropayment adoption.  References are primarily
to my own papers that are relevant, and those papers contain more detailed
arguments and references.  (Many of the arguments cited here have also been
made by others, for example Clay Shirky \cite{Shirky}.)

There have been and continue to be many proponents of micropayments.  For
example, Bob Metcalfe was an ardent advocate for them while he was a
columnist for InfoWorld, arguing they were indispensable for a healthy
Internet, and continues to believe they are inevitable.  More recently,
Merrill Lynch's Technology Strategist, Steve Milunovich, has also endorsed
micropayments as a promising technology \cite{Milunovich}.  Many people have
proposed to solve the spam problem by requiring micropayments on email (to
be paid to the service providers or to recipients), to raise costs to
spammers.  The potential of micropayment appears high enough that even
though many micropayment startups have folded, new ones keep springing up.

While I am pessimistic about micropayments, I am not opposed to them.
The standard arguments for micropayments do have some validity.  I have
worked on several schemes, and together with S. Jarecki coinvented the
probabilistic polling scheme \cite{JareckiO}.  However, while that work was
being done during the summer of 1996, I was also involved in another
study, of the economics of ecommerce.  The research of that study led
to a paper that predicted explicitly that micropayments were destined
for only a marginal role in the economy \cite{FishburnOS}.  Since that time,
I have accumulated a variety of additional arguments supporting the
pessimistic conclusion of \cite{FishburnOS}.

As usual, micropayments in this note refer to systems where value
changes hands at the time of the transaction.  Accounted systems, such
as electricity meters, which keep track of tiny transactions and bill for
them at the end of a period, are not micropayments in this sense.  Thus
the arguments against micropayments here do not rule out microtransactions
such as purchases of ring tones from cellular carriers or providers who
bill through the cellular carriers.  (However, some of the arguments do
suggest that even such accounted systems are likely to be less important
than various fixed fee subscription options.)

The following sections outline the main barriers to micropayment adoption.
The final section discusses the most promising avenues for micropayment
diffusion.



\section{Competition From Other Payment Schemes}

There is just one argument against micropayments that is based
on technology.  The same advances in computing and communications
that make implementations of micropayment schemes feasible are also
enabling competing payment systems (especially credit and debit cards) to
economically handle decreasingly small transactions.  Hence the market
for handling small transactions that only micropayments can handle
is shrinking rapidly.  (Note that this is similar to what happened in
semiconductors.  There improvements in silicon technologies have limited
the areas that seemed likely to be taken over by gallium arsenide.)

The slow pace of change in payment systems (discussed in the next section)
strengthens this argument significantly.



\section{Payment Evolution on Non-Internet Time}

Probably the most damaging myth behind the high-tech bubble of the late
1990s was that of "Internet time," that technology and the economy were
changing far faster than before.  While there are a few small grains
of truth to this, overall the pace of change has not accelerated all
that much.  In particular, new technologies still take on the order of a
decade to diffuse widely \cite{Odlyzko3}, \cite{Odlyzko7}.  Changes in payment systems
tend to be even slower \cite{Odlyzko4}.  (In fact, international comparisons
of payment systems provide interesting examples for discussions of "path
dependence," "lock-in," and similar concepts.)  As a simple example,
consider credit cards.  They are ubiquitous in North America and many
other industrialized countries.  They are even spreading in countries
like Germany, where it had been claimed for a long time that there would
be no room for them for institutional and cultural factors.  However,
it took credit cards several decades to achieve their high penetration
\cite{EvansS}.

As yet another example, debit cards (which were common in other countries
for a long time) have only recently achieved significant penetration in
the United States.  The reason for their adoption is largely the push
by banks, which found this to be a high-profit opportunity.  Thus banks
played the roles of ``forcing agents'' discussed in \cite{Odlyzko3} that can
sometimes propel faster adoption of new technologies than would have
happened otherwise.  Even so, the progress of debit transactions in
the United States has not been very rapid.  When there are no ``forcing
agents,'' progress is often glacial, as in the lack of acceptance of
the Sacagawea dollar coin.  It was introduced several years ago without
the serious design flaws of the earlier Susan B. Anthony coin, but is
practically never used in early 2003.  (By contrast, other countries, such
as Britain, France, Germany, or Japan, that did successfully introduce
large denomination coins, did it by government fiat, by withdrawing
corresponding bills from circulation.)

The slow pace of adoption of new payment schemes does not doom
micropayments.  However, it does demolish the hopes of venture capitalists
who invest in micropayment startups, and certainly goes counter to the
general expectations of micropayment proponents for rapid acceptance.
(In particular, it does decrease the ``first mover advantage'' that many
startups count on.)  It also leaves an opening for competing
payment systems to take over much of those parts of the economy that
seemed natural preserves for micropayments, as is discussed in the
preceding section.


\section{Bundling}

Proponents of micropayments have claimed that they would open up new
avenues for commerce.  They would enable microtransactions, such as
newspapers selling individual stories instead of entire issues, Web sites
selling access to individual pages, and even ISPs charging for each packet
transmitted.  We have seen very little of that, and for good reasons.  In
general, it is to the sellers' advantage to sell bundles of goods, as that
maximizes their profits.  As an example, the Microsoft Office bundle
typically sells for about half of the sum of the prices of components
(Word, PowerPoint, ...).  This is not done out of charitable impulses, but
to increase revenues and profits.  What Microsoft and other sellers are
doing is taking advantage of uneven preferences among their customers for
different parts of the bundle.

The advantages of bundling in increasing revenues have been known in
economics for about four decades.  There are various mathematical models
that demonstrate how useful bundling is, and how its advantages depend on
number of items in the bundle, distribution of customer preferences,
marginal costs, and other factors.  (For some references, see \cite{FishburnOS}.)
The general conclusion is that aggregation strategies tend to be more profitable
for sellers.  This argument again does not doom micropayments, since it is
well known that mixed strategies (offering both bundles and individual items,
but with prices of separate items higher than they would be if bundling were
not feasible) are usually more profitable than pure bundling.  (And indeed
Microsoft does sell Word by itself.)  However, this again limits the range
of transactions that seemed the natural domain for micropayments.



\section{Resistance to Anonymity}

Micropayments have often been promoted as providing the anonymity
of cash transactions.  However, while anonymity is often desired by
consumers, it is resisted by both governments and sellers.  Government
resistance is based on concerns about money laundering, tax evasion,
terrorism funding, and other illegal activities, and is well understood.
Commercial entities, on the other hand, might be expected to be more
receptive to their customers' wishes.  In practice, though, they are
the ones most responsible for the persistent privacy erosion we see.
The reason is that sellers have strong incentives to price discriminate,
either explicitly or implicitly, through versioning and other techniques.
Therefore they have strong interests in avoiding anonymous transactions
\cite{Odlyzko2}, \cite{Odlyzko8}.  Thus another factor that has been widely hailed
as an advantage of micropayments works against them.




\section{Behavioral Economics}

Behavioral economics, the study of what had for a long time been dismissed
as the economicly irrational behavior of people, is finally becoming
respectable within economics.  In marketing, it has long been used in
implicit ways.  One of the most relevant findings for micropayments
is that consumers are willing to pay more for flat-rate plans than
for metered ones.  This appears to have been discovered first about a
century ago, in pricing of local telephone calls \cite{Odlyzko5}, but was
then forgotten.  It was rediscovered in the 1970s in some large scale
experiments done by the Bell System \cite{FishburnOS}.  There is now far more
evidence of this, see references in \cite{Odlyzko5}, \cite{Odlyzko6}.  As one example
of this phenomenon, in the fall of 1996, AOL was forced to switch to flat
rate pricing for Internet access.  The reasons are described in \cite{Swisher}:

\begin{quote}
What was the biggest complaint of AOL users?  Not the widely mocked and
irritating blue bar that appeared when members downloaded information.
Not the frequent unsolicited junk e-mail.  Not dropped connections.
Their overwhelming gripe: the ticking clock.  Users didn't want to pay
by the hour anymore.  ...  Case had heard from one AOL member who 
insisted that she was being cheated by AOL's hourly rate pricing.  When
he checked her average monthly usage, he found that she would be paying
AOL more under the flat-rate price of \$19.95.  When Case informed the
user of that fact, her reaction was immediate.  `I don't care,' she 
told an incredulous Case.  'I am being cheated by you.'
\end{quote}

The lesson of behavioral economics is thus that small payments are to
be avoided, since consumers are likely to pay more for flat-rate plans.
This again argues against micropayments.




\section{Incentives to Increase Usage}

Both behavioral economics and conventional economic utility analysis
argue that in an environment of low marginal costs (which are
increasingly prevalent in our economy), sellers have a strong incentive to
increase usage of their goods and services.  Although "network effects"
were a much-overused mantra of the dot-com bubble, they are real.  As one
example, Bill Gates said in 1998 \cite{Schlender}:

\begin{quote}
Although about three million computers get sold every year in China,
people don't pay for the software.  Someday they will, though.
And as long as they're going to steal it, we want them to steal ours.
They'll get sort of addicted, and then we'll somehow figure out how to
collect sometime in the next decade.
\end{quote}

Any kind of barrier to usage, such as explicit payment, serves to
discourage usage.  (That was the basis for the prediction in \cite{Odlyzko1}
that pay-per-view was doomed in scholarly publishing.)  Even small
barriers, such as having to pay for for individual pages, act as
a severe deterrent to usage.  During the mid- to late-1990s, several
scholarly publishers experimented with a variety of payment schemes for
science, technology, and medical information through the PEAK system.
The conclusion that the main publisher in the experiment, Elsevier,
drew, was very clear \cite{Hunter}:

\begin{quote}
[Elsevier's] goal is to give people access to as much information as
possible on a flat fee, unlimited use basis.  [Elsevier's] experience has
been that as soon as the usage is metered on a per-article basis, there is
an inhibition on use or a concern about exceeding some budget allocation.
\end{quote}

The same arguments will be increasingly persuasive as we become more of
an ``attention economy'' \cite{Goldhaber}, in which the most scarce resource is
human attention.  The incentives to increase usage argue for selling goods
and services in ways that maximize usage, and nothing does that as well
as flat-rate (or subscription) pricing.  A general rule of thumb is that
switching from metered to flat-rate pricing increases usage by 50 to 200
percent \cite{Odlyzko5}, \cite{Odlyzko6}.  As one particularly noteworthy example,
when AOL switched to the unlimited usage plans in the fall of 1996,
the average time spent online per subscriber tripled over the next year.
Hence we should expect to see a continuing and even increasing dominance
of flat-rate plans, and this again destroys much of the argument for
micropayments.

As a final example, a  recent story about new communication, information,
and entertainment services stated that ``[w]hat all these emerging services
have in common is a business model based on subscriptions that are billed
monthly or yearly'' \cite{Fixmer}.  The sellers of these services are reacting to
a variety of incentives mentioned in this and previous sections.  While one
can argue that widespread availability of micropayments might lead them to
offer different payment options (for example, to encourage people to try
out a novelty), this is unlikely, since accounted systems (with billing
ultimately to a credit card, say) would be quite adequate for most of these
services, had the sellers had real incentives to use them.



\section{Conclusions}

The general conclusion drawn from the discussion above is that there are
many factors working against the success of micropayments.  Even some of
the features that seemed to be very attractive about micropayments, such
as anonymity, work against them.  The technologists have produced many
micropayment schemes that are efficient and secure enough to be used
widely.  However, economics, sociology, and psychology place obstacles
in the path of micropayments that are likely to keep them restricted to
a marginal role in the economy forever.

Still, micropayments may become widespread.  There are needs that
micropayments are uniquely suited to fill.  However, given all
the obstacles that micropayments face, they are unlikely to succeed
if offered as a service that requires special hardware or software.
They are most likely to succeed if they piggyback on top of something
that is already widely used, such as cell phones, or (in some places)
mass-transit smart cards.  When offered as an additional feature for
something that is already carried by most of the population, micropayments
might be able to overcome the usual chicken and egg problem, and find
their (very likely small) niche in the economy.







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\end{thebibliography}



\end{document}