Choosing channels à la carte

Would you be better off paying only for those channels that you watch?

The advent of digital set-top boxes and satellite televisions in India was extremely exciting at first. The ability to choose and pay for only those channels that individuals preferred was an appetising offer and held the promise of decreased cable bills for families. Many were under the impression that one could pick and choose exactly those channels that one regularly watches. However, the satellite television companies such as Dish TV and Tata Sky took the established American route and bundled the channels into certain packages. This actually resulted in increased costs for families for different reasons. The most obvious reason is that there is enough heterogeneity in preferences in a family and thus, multiple packages had to be selected. While, hypothetically speaking, one member would want a regional package (kannada movies+news package, for example), another member would want to have a sports package, while a third preferred English entertainment. This diversity leads to most families choosing all channels package, which would cost significantly higher.

The more prominent reason for increased costs, however, lies in economics. Providing such packages is called bundling, which is prevalent in imperfectly competitive markets. Bundling refers to the offering of several products for sale as one product. The reason for doing this is to capture all of the consumer surplus.

Take a hypothetical example: There are two customers and two channels. Amit prefers to pay Rs.75 for the Zee TV, but Rs.50 for Star World. Manjunath, however, prefers the opposite: Rs.50 for Zee TV and Rs.75 for Star World. If the cable company offered the channels individually, it can charge only Rs.50 for each channel and will receive Rs.200 as total revenues. If it charges anything more than Rs.50 per channel, say Rs.75, one of the customers will not buy it – Amit will not subscribe to Star World, while Manjunath will not subscribe to Zee TV. The cable company ends up loosing revenue (Rs.75*2 = Rs.150). So, by charging at Rs.50 per channel, the cable company maximises profits and total consumer surplus is Rs.50 (Each customer gets the channel at Rs.50 when they were willing to pay Rs.75 for one of the channel and thus, enjoys a consumer surplus of Rs.25)

Imagine now that the cable company offers a package for Rs.125, a pure bundling strategy, where individuals cannot choose the channels separately. Now, both consumers pay exactly according to their willingness to pay (thus, eroding their consumer surplus) and the cable provider increases its profits to Rs.250. This extraction of consumer surplus by the cable company is known as price discrimination.

Bundling channels into packages might not be as harmful to the consumer as economic theory suggests.

Bundling channels into packages might not be as harmful to the consumer as economic theory suggests.

Given this scenario, it would be tempting to clamour for a regulation where cable companies should provide à la carte option to the consumer where he gets to choose only the channels that he prefers. While economic theory suggests that the consumer would be better off doing so, it is not evidently clear that this might be the case in practice.Content providers, like Star and Zee, also have high degree of market power and would then renegotiate the price with cable companies. Imagine that, under the bundling offer, Star and Zee, received Rs.120 each as revenue from the cable company (who retains Rs.10 profit). Now, if the cable company offers each channel individually, chances are that Star and Zee will increase the rates of their respective channels to Rs.75 to capture all of the consumer surplus, since they are loosing one of the customers. Thus, both Amit and Manjunath will end up paying a price equal to their maximum willingness to pay for one of the channels and they might be worse off as they are loosing the choice of the other channel. Microeconomic Insights has some interesting research on this and found that “consumers bought and watched fewer channels, and their average spending was estimated to rise by 2.2%.”

Anupam Manur is a Policy Analyst at Takshashila Institution and tweets @anupammanur

 

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