June 22, 2004

Metaphors Gone Wild: On Pies, Ships, Regressive Taxes, DRM and Microsoft

First, I just want to be clear when that I'm talking about "DRM" here, I mean DRM backed by force of law, that is, the DMCA's anti-circumvention provisions. It would hardly be important to discuss DRM at all except that the law makes it illegal for companies to provide circumvention devices. All DRM will be cracked, and without law prohibiting the distribution of circumvention devices, there would be hardly any sense in spending money on DRM at all.

Last week, on Copyfight, I wrote up a short piece on Cory Doctorow's rightfully popular piece on DRM (Cory on DRM @ Microsoft). In my piece, I agreed with four of Doctorow's five theses. I disagreed with his ultimate conclusion that DRM is bad business for Microsoft. Fellow copyfighter Wendy Seltzer disagreed with me (DRM Is Bad for Monopolists, Too). Read on for more of my thoughts on the issue...

Posted by Ernest at 12:06 AM

In the comments section of Wendy's post, I attempt to clarify my point that Microsoft may benefit from DRM because it fears true competition. I stand by that point. Without the lock-in DRM provides, the ability of a company like Microsoft to hold on to its customers through the seismic shift of the open source revolution is seriously degraded. Yes, a world without DRM creates a bigger pie, but you only get a slice of that bigger pie if your company can survive in the new world that pie represents. Many companies can't or won't make the transition to a new pie.

Now I believe that Microsoft will make the transition, but it takes a while to steer a corporate supertanker like Microsoft onto a new course (though Microsoft is much more nimble than any previous corporate colossus). DRM slows the pace of transition to a new pie, allowing Microsoft to shift course more readily. Plus, there is little risk in this strategy for Microsoft. If DRM is a failure in the long-term, then Microsoft can easily strip DRM from its products when the long-term costs begin to be felt, while taking advantage of any short-term benefits. Stripping DRM from products is much easier than adding it after the fact (i.e., CDs). If, as a corporate entity, Microsoft is unable to see the value of removing DRM when the long-term costs become apparent, that simply feeds my argument that dumb, uncompetitive companies like DRM.

A Regressive Innovation Tax

Another way to look at this issue is to view DRM as a tax, an analogy that Arnold Kling has made and I agree with (Taxing Hardware to Eliminate Copyright?). However, not only is DRM a tax, it is a regressive tax. The effective tax cost of DRM bears much more heavily on small, innovative startups than on huge, established behemoths.

The way it works is like this: Imagine that you are a startup with a great new idea for dealing with copyrighted works, say, a way to record your CDs onto a handy little digital player, or a digital video recorder that let's you back up video on your computer's hard drive. If you build your product without strong enough DRM, you're going to get sued and maybe the lawsuit alone will put you out of business regardless of its merits. This is a regressive tax on innovation. Startups have a hard enough time getting investment without having to deal with the risks of a Hollywood-backed lawsuit. For a company as big as Microsoft though, while costly, a lawsuit concerning a single product would not threaten the viability of the company.

However, why would Microsoft want to risk a lawsuit at all? Let the small fry defend the frontiers of copyright. Once the court decision is in, Microsoft will be able to adapt whichever way it goes, while the competitor paid the court-based taxes Hollywood demands of every new copying-related consumer technology. Only if the costs are too onerous will Microsoft have to get involved, and if that is case, Microsoft is likely to have many allies in the fight. So, ultimately, Hollywood is paying for barriers to entry on behalf of Microsoft.

Alternatively, the small company can build DRM into its products. This is monetarily expensive, but there are greater expenses. For example, convincing media companies to make their content available in these new formats requires serious negotiating muscle. The moguls aren't going to cut deals with every startup that comes by with a good (or even brilliant) idea. However, when Microsoft calls to make a deal, Hollywood will definitely take the phone call and there will be real negotiations. After all, it isn't as if Apple's DRM was significantly better than what other DRM creators were offering. But Steve Jobs can make himself heard in Hollywood. In contrast, Hollywood's negotiations with startups are more properly termed "demands and conditions" if they take place at all. This is also part of the regressive tax that is DRM and big established companies like Microsoft and Apple benefit from it. Why would they give it up?

Frank Field makes similar points in response to my Who is Bullying Who? post (Our Own Reality TV Show). Field sees these costs, but he thinks they apply to the PC OEMs. I disagree, I don't see anyone threatening to sue PC manufacturers for tertiary copyright infringement for providing third-party software that might be liable for contributory infringement. Before Hollywood goes after Dell, they are going to go after the download sites like If and when such threats exist, then OEMs will have a real dog in this fight. A quick note, however: consumer electronics manufacturers (a pool in which some OEMs are dipping their toes), are one of the groups that has to pay this regressive innovation tax.

Field argues that, "The trick to stopping DRM is going to be finding a way to get the interests of Microsoft and the other software/OS vendors and the hardware OEMs and the consumers aligned." The problem I see with regard to Microsoft is that they are quite happy paying the regressive DRM tax in the short term, so long as costs of the tax are less than the short term benefits of increased barriers to entry. We haven't gotten to the point yet where the long-term costs have been sufficiently felt.

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Given all the above -- which is well-stated and convincing -- what do you suppose Sony's motivation was to bring out the VCR and defend it so vigorously?

Posted by Cory Doctorow on June 22, 2004 10:57 PM | Permalink to Comment

Well, my memories of the era are fuzzy at best and I say everything here based on mostly guesses.

I think there were significant differences in the market at the time. Consumer electronics were not quite so big and didn't have negotiating power, as Microsoft does. I would imagine that when Sony tried to license, they would have run into the "demands and conditions" issue. Can you imagine the Hollywood moguls of the time deigning to give time to some Japanese geeks? "Hollywood knows what people want, not some electronics nerds from Japan. Sure, the Japanese make a good transistor radio, but they're best at improving existing items, not creating entirely new markets. You Japanese should just improve and miniaturize what we decide will sell."

Given the precedents of home taping, the photocopier, and the fact that television broadcasts are free, Sony was also probably pretty surprised by the level of opposition.

Additionally, the video market was also completely untapped, virgin territory, so the stakes were pretty big. If they lost, the whole market would essentially not exist. Sony was betting it would be huge (and they were right).

Also, if successful, Sony would beat its competitors to market significantly. At the time, Sony probably weighed the first mover advantage as greater than the barriers to entry advantage. They were innovating and leading the pack, that was what they did, that was the company philosophy at the time. This is unlike Microsoft, which prefers the advantages of being second. They also had a proprietary format (Betamax), which if it was able to establish itself well would provide barriers to entry, while letting the market grow unhindered.

These are all more-or-less guesses as to why, but I would have to do more research to figure it out.

Posted by Ernest Miller on June 22, 2004 11:42 PM | Permalink to Comment
Pro-DMCA Forces Strike Back

Excerpt: Yesterday, I noted that a new consumer electronics coalition was launching, part of the good news regarding the anti-DMCA bill moving slowly through Congress (Anti-DMCA Personal Technology Freedom Coalition to Launch). Today, The Register publishes a s...

Read the rest...

Trackback from The Importance of..., Jun 23, 2004 6:19 PM
Supporting the INDUCE Act

Excerpt: Not too long ago, I explained why I believed Microsoft was a supporter of DRM (Metaphors Gone Wild: On Pies, Ships, Regressive Taxes, DRM and Microsoft). Basically, my argument was that DRM acted as a barrier to entry and slowed...

Read the rest...

Trackback from The Importance of..., Jun 29, 2004 12:29 AM

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