Finding That Free Lunch

from the looking-at-economic-growth dept

One of the most common sayings in economics is "there's no such thing as a free lunch." And, it's true: everything you do has some sort of cost in terms of opportunity costs. That was the point of that statement. Unfortunately, however, it appears that some have tried twisting that statement into saying that "free" doesn't work as a part of economics. A few weeks back the Economist (normally good on such subjects) wrote an article that trashed the concept of "free" within a business model, totally misunderstanding how free is a part of a business model, rather than the business model itself. Chris Anderson already did a good job ripping apart the Economist's article, but I wanted to address a different aspect of the whole "free lunch" question.

Too many people, it seems, assume that "there is no free lunch" means that the market is entirely static. That is, they believe it's a zero sum game. If I do x, then y loses out. So, if I am offered free internet service or a free lunch, then whoever provided that is out the same. But that's simply not true. Economics is not a zero sum game, but is built around economic growth -- where the sum of economic activity can be greater than the parts. If I do a transaction with you, and in the end, we're both better off (i.e., we both got more value than we gave up), then the amount of overall value in the world increased. It might not be a "free" lunch (the economic transaction cost me something), but new utility is created above and beyond what was there before.

This is a key point that is often overlooked by those who slam the concept of free and assume that it can't happen or it can't work. They overlook how free is a part of a larger economic transaction that actually does increase overall utility and economic growth. This is the key insight that economist Paul Romer had a few years back in noting that the core way to increase an economic market was to insert what he called "non-rivalrous, non-excludable goods" -- which I've taken to calling "infinite goods." These are "goods" that can be replicated at absolutely no cost, increasing the size of a market and increasing the overall utility in the world. As Romer noted:

Economic growth occurs whenever people take resources and rearrange them in ways that are more valuable. A useful metaphor for production in an economy comes from the kitchen. To create valuable final products, we mix inexpensive ingredients together according to a recipe. The cooking one can do is limited by the supply of ingredients, and most cooking in the economy produces undesirable side effects. If economic growth could be achieved only by doing more and more of the same kind of cooking, we would eventually run out of raw materials and suffer from unacceptable levels of pollution and nuisance. Human history teaches us, however, that economic growth springs from better recipes, not just from more cooking. New recipes generally produce fewer unpleasant side effects and generate more economic value per unit of raw material.

Every generation has perceived the limits to growth that finite resources and undesirable side effects would pose if no new recipes or ideas were discovered. And every generation has underestimated the potential for finding new recipes and ideas. We consistently fail to grasp how many ideas remain to be discovered. The difficulty is the same one we have with compounding. Possibilities do not add up. They multiply.

The trick (and where the trouble comes in) is that it's not always easy to figure out how to capture a piece of that larger market -- especially if your old business model was based on a very different type of scarcity. Yet, those who figure out how to put these models into practice will find that their markets grow bigger and bigger, and while there are tradeoffs, they'll have something about as close to a "free lunch" as you can imagine.

Anyway... we'll be exploring these ideas and more at The Free! Summit next month, so hopefully you'll be able to join us. Speaking of which, if you're interested in presenting a case study about how you're leveraging free, the organizers of the event are holding a competition via Vator.tv where you can enter to present.

Filed Under: economic growth, economics, free, free lunch, paul romer