The Cost Shifting Economy

Car dealers train their salesmen to focus the customer on the car payment and not the sticker price. There’s a number of reasons for it. One is that people will take a larger car payment that they want if they like the car. The difference between a $500 payment and a $550 payment is easy to justify when you’re in love. That’s a few thousand dollars more in car, but it only feels like fifty bucks.

The other reason is the dealer can bundle everything up so that the customer cannot negotiate each item one at a time. The last thing a dealer wants is to debate the trade-in, the interest rate, the dealer options and so on. A good salesman can sneak in some high profit items to the dealer, while hitting the customers peak tolerance for a car payment.

The mobile phone market has always worked on this principle. My first mobile phone was from a place in Boston that basically leased you a phone and charged you each month for minutes. They quickly figured out that was a loser and just included the minutes. That was late 80’s and it has been that way ever since. You “buy” the phone, but you’re really just making a down payment. The rest is financed through your monthly bill.

That’s about to change and it is another example of the cracks showing up in the cost-shifting economy.

Verizon Wireless today announced a new set of wireless data plans, and none of them are available with contracts or phone subsidies.

It’s not clear from Verizon’s announcement whether it’s going to completely stop offering contracts and device subsidies to new customers after these plans become available on August 13. Since the announcement doesn’t say anything about killing existing plans, it’s possible that the company could still offer traditional two-year contracts, but without promoting them. We’ve asked Verizon about this and will provide an update if we get one.Going forward, Verizon will encourage customers to either buy phones outright or pay for the entire device in installments. This differs from the model in which you get a discount of several hundred dollars off the price of a new phone but have to sign a two-year contract that can’t be broken without paying early termination fees. When customers own their phones outright, it’s a lot easier to switch carriers to get a better deal.

The mobile carriers have been subsidizing the phone purchase by financing it through the bill. That’s how the broke waitress can afford a $650 iPhone. Apple was shifting the cost of their phone to the carrier. The carrier, in turn, found a way to game the customer by tucking the costs in the monthly bill. They also put some interest in there too.

That worked fine in a growing market, but the market is saturated. They’ve run out of greater fools. Now the carriers are chasing price and that means the subsidies go away. The number of people will be willing to pony up $650 for an iPhone is probably much less than the number willing to pay $200. This will have the inevitable result of collapsing the margins of the phone makers as they have to chase price.

For a long time now the US economy has been based on the belief that growth is forever. When every business in a market is based on forever growth, when the market stops growing, it collapses and takes everyone with it. The housing bubble is a classic example, but large swaths of the tech economy have worked the same way. We’re running out of new people to pay for the old people now. The results are inevitable.

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8 years ago

One of my sons recently was shocked by the idea of ‘planned obsolescence’ when I spoke to him about it. No one seems to talk about it much these days but it was a big thing fifty years back, though it is still vital in keeping the economy — or at least production and sales — going. Fashion ‘trends’ are another way to keep people buying the same thing in a slightly different look, though I can see that mobile phones/cell phones only have so many options. It will be a while before they get away from rectangular with rounded… Read more »