A broadcasting media platform can only succeed if it has viewers. Otherwise, its revenues from advertising as well as its revenues from charging viewers would be zero. In the traditional world of free-to-air television, there is no direct mechanism for charging viewers, rather financing is obtained through advertising bought by firms that wish to promote their products. This environment typically produces a market failure since it is not possible for those viewers who really value a program and would be willing to pay a higher price to do so. The willingness-to-pay of viewers is not internalized by tv channels, thus resulting in sub-optimal allocations. With the appearance of encryption techniques and digital decoders viewers can be charged for their consumption of certain programming. Hence, each channel has two sources of income: subscription revenues and revenues from advertising. New technologies have the potential to transform the TV market into an on-demand service where consumers are able to choose what they want to watch and when they want to watch it. One may thus conclude that the relevance of market failures should be diminished in the new digital world. The purpose of this paper is to investigate under which conditions such conclusion can be supported by a formal analysis.
Clearly, the coexistence of different forms of finance is not unique to broadcasting, as many markets combine revenue streams of different kinds. What is special here is the so-called two-sided nature of the market. Advertising is typically a nuisance for viewers. Therefore, the amount of advertising constitutes an indirect charge to consumers. Viewers are interested in programming with little advertising; hence advertisers exert a negative external effect on viewers. Conversely, advertisers are interested in a large number of viewers; hence viewers exert a positive external effect on advertisers. Platforms compete for viewers and advertisers and the question in relation to sources of finance revolves around whether the outcomes generated by the market match preferences and promote welfare.
This problem has attracted considerable interest in the academic literature that we review below. The move towards digital pay-tv has also initiated an important debate in many countries, challenging the rationale for Public Service Broadcasting (PSB). If, under pay-tv, digital media platforms generate the programmes that viewers want, then the justification for PSB interventions is reduced if not eliminated. An example of this discussion is taking place in the UK where the sector regulator, Ofcom, is currently reviewing the nature of PSB. To give an idea of the stakes involved, the total financial cost of PSB is estimated around £3bn a year in the UK, with the BBC accounting for more than 85% of this subsidy. Most of the total cost is accounted for by the licence fee, but it also includes an imputed value of the analogue spectrum which is given free of charge to PSB providers.
Our paper contributes to this debate in a stylized way. We miss one source of revenues, the licence fee which is typically levied on all viewers. We concentrate only on charges to advertisers and on subscription fees to viewers. We consider a situation where there is no BBC (the public sector broadcaster) and no PSB requirements. Instead we ask what the market would do naturally, in the absence of any obligation. This seems to us a natural first step to investigate if significant interventions (such as PSB provision) are needed to start with and, if so, under which regime they can play a bigger role. We propose a stylized model, which allows us to compare content and advertising decisions in the conventional world of free-to-air television as opposed to the new world of pay-tv. We show how the welfare comparison between advertiser and price funded media is complicated by the viewers’ attitudes towards advertising and by the intensity of competition. In particular, we show that the move from free-to-air to pay-tv is welfare-improving when competition in the market is sufficiently intense.
At a first glance one might expect pay-tv to perform better from a welfare perspective since by charging viewers directly, media platforms may be better able to internalize externalities. However, matters are more complicated. Neither pay-tv nor free-to-air lead to social optima. Market failures arise due to several misalignments between competing platforms’ private incentives and those of society. Content decisions by the platforms are driven by their incentives to exploit market power in the advertising market and, in the case of pay-tv, also to mitigate price competition. With respect to advertising decisions, platforms do not have internal incentives to match the marginal social benefits of ads, which are due to additional trade, with the marginal social costs from advertising, which is the viewers’ disutility from advertising.
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Content and Advertising in The Media : Pay-TV Versus Free-to-Air
