Whose `Rules?'

In Tom Wolfe's rollicking novel about modern times in Atlanta, "AMan in Full," the real estate developer hero goes broke after readingJoel Garreau's book "Edge Cities" and believing it.

Aficionados of good journalism will remember Washington Postreporter Garreau's 1992 book as a particularly fine piece ofreporting. It caught at full flood the surge in the growth ofsatellite cities situated along the ring roads of major metropolitanareas -- a phenomenon of rapidly falling communications costs and therent gradient.

But fans will also recognize the problem inherent in all suchjournalism based on the discovery of a trend: the form lends itselfto overstatement.Charlie Croker, Wolfe's hero, might not have gone broke if he'dread "Information Rules: A Strategic Guide to the Network Economy,"by Carl Shapiro and Hal R. Varian.For the last year, hardly a week has passed without some brightnew book fetching up on my desk promising to explain some aspect ofthe business dynamics of the new age of information. The most recentto arrive -- and perhaps the foremost exemplar of the trend -- isKevin Kelly's "New Rules for a New Economy: 10 Radical Strategies fora Connected World."This book-length version of a celebrated article by the executiveeditor of Wired magazine urges its readers to forget supply anddemand and learn the new economics of the Internet instead. The atomis passe, says Kelly; the network is the icon of the new age. "Agood definition of a network is organic behavior in a technologicalmatrix," he writes. Sheer poetry!In all this stack of books on managing knowledge, intellectualcapital, the ecology of information and the like, the single volumemost worth reading -- and, for many persons having, for it bearsconsulting again and again -- is "Information Rules."A word of background. Shapiro and Varian are professors at theUniversity of California at Berkeley. Shapiro served for a time inWashington, D.C., as deputy assistant attorney general for economics.Varian is dean of Berkeley's School of Information Management andSystems, an expert on Internet economics and the author of a leadingmicroeconomics text as well.As they increasingly were drawn into the policy battles of theinformation age, Shapiro and Varian heard the constant refrain fromentrepreneurs, consultants, and journalists: the old rules had beenbroken; a new set of principles was required to guide businessstrategy and public policy.They write in their introduction: "But wait, we said. Have youread the literature on differential pricing, bundling, signalling,licensing, lock-in, or network economics? Have you studied thehistory of the telephone system or the battles between IBM and theJustice Department?"Our claim: You don't need a brand-new economics. You just needto see the really cool stuff, the material they didn't get to whenyou studied economics." And so they wrote their book.The battle over incompatible standards, for example, is as old asNorth vs. South in railroad track gauges; between Edison andWestinghouse in electricity. True, the old story had been given somenew twists, by Sony vs. Matsushita in videotape players, or 3Com vs.Rockwell and Lucent in modems. The jury is still out on DVD and Divx(both of which play CDs). But same as it ever was, standards warsmay end in truce, as with modems; in duopoly, as with video games; orin annihilation of one of the parties, as with videotape players.The keys to the analysis of networks are the twin concepts ofpositive feedback and network externalities, the authors say.Neither one is a recent arrival. Network externalities -- when thevalue of a product to one user depends on how many other users thereare -- have long been recognized as keys to transportation andcommunications industries.For example, a handful of telephones will have only limited value.Then positive feedback sets in: as the installed base of telephonesgrows, more and more users find it worthwhile to tap into thenetwork. Eventually growth levels off, but only after a successfultechnology has taken over the market. Railroads, highways,electricity grids, television, e-mail: all obey the same basicprinciples."Information Rules" has something to say about nearly every aspectof today's business terrain; it is hard to exaggerate how pervasiveis the logic of positive feedback. Among the most interestingchapters are those on recognizing and managing "lock-in," thewidespread situation in which choices today are hemmed in byselections made in the past. The cost of abandoning your Toyota fora Ford may not be great, but just try switching from a Macintosh to aWindows PC.Savvy marketers, moreover, are trying to raise the switching coststo their customer base, and not just through tricks of engineering,training, and design. Frequent-flier miles are an especiallysuccessful device for increasing lock-in, a subtle form of volumediscount. Consumer loyalty programs are proliferating everyday ascomputation power creates "synthetic frictions," little barriersdesigned to influence your choice. Those supermarket cards, forexample, that gain you sale prices, in return for the windfall ofinformation about your tastes that store owners receive, are a primeexample.The overriding virtue of "Information Rules" is that it is clearlywritten but deeply grounded in a sense-making discipline that hasevolved over a couple hundred years. If you want to know more aboutthe whys and wherefores of "Goldilocks" pricing -- if your marketdoesn't segment naturally, choose three versions, just likeGoldilocks -- you are referred to a paper by Itamar Simonson and AmosTversy (and to the three sizes of peanut butter in yoursupermarket!). Got a question about the virtues of standardizationthrough committees vs. the market? See the recent work by JoeFarrell and Garth Saloner.Economics isn't perfect -- far from it. But it has raced ahead inthe last 25 years in topics of the greatest concern in industrialorganization. This book is the best available introduction to thenuts and bolts of new learning.