by Vamika Singh
Despite the incisive forces of capitalism, businesses and consumers have shared more than just a monetary bond. A few years ago, we knew exactly where to go for the things we needed. Often, the shop would be one that had been integral to the lives of several generations of our families before us. We had a go-to person for all our needs, from laundry to mobile recharge. This behaviour allowed shops to form little monopolies in local markets and make profits based on the loyalty of customers. However, the advent of globalization and growing trend of migration has directed this relationship to a new course, the understanding of which has facilitated technology to renovate markets completely.
Free market, as we all know, is far from reality. One of the rudimental assumptions behind Adam Smith’s invisible hand is the invisibility of barriers to information. The ‘free’ in free market depends heavily on the free flow of information between businesses and consumers, allowing for the sustenance of perfect competition and a single price. The cost to consumers to search for the best price among various competitors is known as ‘search cost’ and the barrier that this imposes is known as ‘search friction’. Peter Diamond, addressed the problem of ‘search friction’ in his paper published in 1971, where he proves that even a small search cost can cause the price of a good to vastly differ from its equilibrium price. This directly challenges the law of one price that has been every economist’s right hand for decades. He shows how the existence of a search cost paves the way for monopolies and produces Pareto inefficient outcomes. Recognising the inevitability of information barrier raises the pertinent question whether economies are constraint efficient. At the same time, the boom in technology has helped to alleviate search costs to a large extent but whether this has made consumers and businesses better off, as is expected in a Pareto efficient outcome, is highly debatable.
In order to explore this idea, take the business model of JustDial. JustDial, founded by Mr. V.S.S Maini in 1996, capitalised on the changing nature of the relationship between consumers and businesses and sought to solve the problem of search friction. The technological advancement in the late twentieth century accelerated by hyper globalization led to high labour mobility and migration. The dot com boom corroborated the new behaviour of consumers to look to third parties to reach the right business. JustDial took advantage of exactly this behaviour to establish one of the most remarkable platforms aimed to bridge the gap between consumers and small businesses.
The impact of JustDial was twofold. First, there was the Indian consumer who benefited greatly by this platter of options she received merely with the click of a few buttons. JustDial proved to be a Messiah for India’s youth that was always on the go. It reduced search costs significantly, but this wasn’t a sufficient condition for an increase in aggregate welfare. The business model of JustDial was simple and sophisticated. Businesses needed to purchase a package on JustDial to activate a service that made them discoverable to more and more consumers every day. When a consumer searched for a good or service, JustDial provided her with a list of local businesses that matched her needs while simultaneously providing her contact details to the businesses. The impetus lay then on the business and consumer to strike the best deal. The non-exclusivity of information provided to the businesses, brought down the price of the good to equilibrium as all the businesses were competing to acquire the customer. This would ensure perfect equilibrium, at least in local markets.
But did businesses really behave as Mr. Maini expected them to?
Take for instance, two rational business owners in a local market. There are two broad cases here that need to be analysed. First, we look at a business selling homogenous goods with a relatively high elasticity of demand. Not being discoverable through JustDial can ensure them monopoly profits only to a small extent, since the product is rather inexpensive owing to high elasticity of demand. Being discoverable, will increase their outreach which could have a volume effect on their profits. Thus, the payoff from being on JustDial turns out to be higher than that of not being on JustDial. The payoffs can be summarised as follows: 2
1JDNo JDJD3,34,1No JD1,42,2
From the matrix above, it is clear that the outcome of this game is both payers using JustDial which is the Pareto efficient outcome. Having JustDial is a strictly dominant strategy for both businesses and this ensures that both purchase the JustDial package. This enhances aggregate welfare as consumers as well as businesses are better off with lower search costs.
This result changes in the second case of expensive goods with inelastic demand. In this case, businesses would prefer to retain their little monopolies for monopoly profits rather than entering a competitive market provided by JustDial for greater discoverability.
The best outcome for business 1 in both cases is if business 2 does not opt for JustDial and business 1 opts for JustDial. Simply because this gives the business greater outreach without the risk of competitive prices. 2
1JDNo JDJD2,24,1No JD1,43,3
The result is a Pareto inefficient outcome where both businesses opt for Just Dial even though the outcome where neither of them opt for JustDial would have made both of them better off. These businesses do not benefit from JustDial providing potential customers with information about all the competing businesses in the market, but the risk of losing out in case the others opt for JustDial ensures that they opt for JustDial as well.
Despite the simplifying assumptions, the above analysis throws light on the excellent business model of JustDial, which plays with the behaviour of businesses in a manner so as to ensure that they always opt for JustDial even if it leaves them worse off. This also shows how decreasing search costs will always help consumers but may hurt businesses and the net effect may increase or decrease aggregate welfare.
JustDial witnessed massive growth because of cracking this model for some years. Interestingly, the behaviour that JustDial capitalised on is seen in other markets available. The labour market, especially suffers from the adverse effects of search cost. Peter Diamond, Dale Mortensen and Christopher Pissarides won the Nobel Prize in Economics in 2010 for their extensive research on unemployment caused due to search friction. Now, platforms like GlassDoor, Linkedin, Sulekha and Robert Half are attempting to reduce this search friction in employment to achieve results similar to that of JustDial.
Technology has enabled businesses to capture the new relationship between businesses and consumers. Consumers are now looking to the internet to find businesses that they can trust. They want to find new businesses based on attributes like reviews, ratings and photos that add to the trustworthiness of businesses. Hence, digitisation has become the need of the hour for businesses and the efforts of conveyor platforms like Sulekha, Linkedin, Google, Zomato, etc., to digitise businesses rests on the fact that consumers are online and they need their businesses to come online too.
The beauty of markets is their adaptability to changing behaviours and patterns in society. All it takes to successfully build a business is to observe behaviour; to stop for a moment, look around you, look at yourself, take a risk and leave the rest in the (invisible) hands of God.