Chapter 9: Economics

Overview

Ignore basic economic principles at your own risk.

—Carl Shapiro and Hal Varian

Economics offers a number of useful insights on management and on business relationships and strategies in the software industry, insights that can and should affect the strategies of the major players, as Shapiro and Varian (1999b) point out. Many economics issues have already been discussed in earlier chapters. This chapter develops some additional understanding of the economic properties of software, gives additional depth to some issues already mentioned, and raises new ones.

Most prior work on the economics of software—performed by practitioners of software engineering, who are technologists at heart—has focused on serving software developers, where the emphasis is on cost estimation and justification of investments, and to a lesser extent, estimation of demand (Boehm 1981, 1984; Boehm and Sullivan 1999, 2000; Clark and Levy 1993; Gulledge and Hutzler 1993; Kang and Levy 1989; Kemerer 1998; Levy 1987; Thebaut and Shen 1984; and Veryard 1991). As mentioned, software shares some characteristics with information, and thus many concepts of information economics (Shapiro and Varian 1999b), such as network effects and lock-in, apply to software as well as information, albeit with occasional modifications. Considerable accumulated understanding of the economics of standardization (David and Greenstein 1990)—a process that applies to many industries besides software—applies directly to software, again appropriately modified and interpreted.

One goal is to expand the definition of "software economics" beyond its focus on software investments and software development that dominates the use of this term in the literature. A more precise name for the latter is "software engineering economics." The "software industries" include not only developers and suppliers but also various types of consultants, system integrators, service providers, and end-user organizations (see chapters 5 and 6).

This chapter looks at software from the demand and supply perspectives, followed by a discussion of pricing. Most interesting, perhaps, is consideration of the overall economic properties of software compared to many other goods and services, drawing on the perspectives of earlier chapters. At the end of this chapter we summarize the primary similarities and differences between software and other goods and services.