Is agency or wholesale pricing better? It depends on who's asking the question

As part of the ongoing discussion about the U.S. Justice Department's eBook price-fixing case, there's been a lot of back-and-forth about which pricing model, agency (where publishers set retail prices) or wholesale (where retailers set their own prices), is better. I'll cut to the chase: Agency is better for publishers and some retailers (who either can't or won't compete on price,) while wholesale is better for other retailers (those who are willing and able to compete on price) and consumers. Agency allows publishers to eliminate discounting--they authorize every reseller to sell their eBooks at the same price. If a publisher wants to make more money, it simply raises its prices, and those price increases are passed directly onto consumers.

Under wholesale pricing, publishers sell their eBooks to resellers, who have the right to resell them at any price they choose. They can change prices and respond to consumer demand without getting permission from publishers. Without wholesale pricing, there would be no discount resellers in the U.S. Barnes & Noble would have to compete with independent booksellers solely on selection, not price. 

Publishers, or for that matter, any vendors of products or services, don't seek to control retail prices in order to make them lower for consumers--they do it to maintain or increase prices. Decades ago, the term "fair trade" referred not to helping improve income and conditions for producers in developing countries, but to a policy of requiring all resellers to sell the same product at the same price (also called "price maintenance".) The first statute allowing manufacturers to force everyone to sell at the same minimum price went into effect in 1931 in California. Here's a quote from Wikipedia: " (Fair trade laws) were ostensibly intended to protect small businesses to some degree from the competition of the very large chain stores during a time when small businesses were suffering. Many people objected to this on the grounds that if the manufacturers could set the price, consumers would have to pay more even at large discount stores." The last of the fair trade laws was repealed in 1975.

My parents ran a small store that discounted its merchandise. They couldn't sell Sony electronics or Seiko watches, because both companies refused to sell to discounters. So, they instead sold Panasonic electronics and Citizen watches, helping both companies to establish a foothold in the U.S. The fair trade laws kept consumer prices high and created a price umbrella under which competitors could enter the market at lower prices.

That demonstrates a fundamental flaw in the publishers' thinking about agency pricing: In the short run, it bolsters the price of their eBooks, but in the long run, it attracts substitute titles into the market that are sold at lower prices. Experience shows that book buyers are very price-sensitive--that's how Barnes & Noble and Borders killed most independent booksellers, and how Amazon built such a big eBook market share. We're already seeing the effect with the growth of self-publishers who are selling their eBooks at dramatically lower prices than the Big 6.

Price maintenance is a strategy that rarely works in the long run. Resellers figure out ways to get around it, consumers pressure their legislators to outlaw the practice, or the courts intervene.

Who sets the price?

The Amazon/Macmillan dustup brings to mind an important question: Should retailers have sole control over the prices of the products that they sell, or should manufacturers be able to determine prices (or at least price ranges)? Decades ago, many states in the U.S. passed Fair Trade laws that gave manufacturers control over the prices that retailers could sell their products for. (This shouldn't be confused with the Fair Trade movement that seeks to encourage producers in third-world countries to farm and manufacture sustainably.) These laws allowed manufacturers and their distributors to refuse to sell to retailers who would discount the prices of their products.

The Fair Trade rules were fair for manufacturers, less fair for retailers, and not fair at all for consumers, so they were eventually repealed or struck down. However, manufacturers still have the right to set Minimum Advertised Prices (MAP) for their products. Retailers can sell the products at any price they want, but they can't advertise the prices if they're lower than the MAPs set by the manufacturers. That's why you sometimes see "Prices too low to advertise", or on a website, you have to put a product into your shopping cart to see its price. MAP policies are very common with consumer electronics, cameras, watches and other high-ticket items.

In the Amazon/Macmillan situation, Amazon almost certainly has a clause in its contract with Macmillan that allows it to sell books for any price it chooses. Thus, Amazon would be immune from any MAPs set by Macmillan. However, there may be nothing in the contract dictating how long Macmillan has to deliver eBook versions of its print titles to Amazon; if so, Macmillan would be within its rights to delay availability of its eBooks to Amazon in order to encourage sales of full-price print copies. It's an interesting spin on the old Fair Trade argument: "We're not saying that we won't sell you eBooks, we just won't sell them to you until the print versions have been out for 30 or 60 days." It's similar to the release window strategy used by movie studios for decades. The legal problem could come if Macmillan discriminated against members of the same class of retailers.

Let's say that Apple sells an eBook title for $14.95, while Amazon sells it for $9.99.  Apple gets the eBook file and puts it on sale the same day as the print version, but Amazon doesn't get it until 60 days later. Unless there's some legitimate technical reason why Macmillan can't deliver the eBook file to Amazon at the same time as to Apple, its behavior could be seen as discriminatory. (Please remember that I'm not a lawyer, and your results may vary.) Macmillan would be required to provide the files to both Amazon and Apple at the same time, so as not to give Apple an unfair advantage.

Macmillan might still have an "out", again taken from the business practices of the movie industry. Most of us have been to neighborhood "second-run" movie theaters that get movies weeks after they're first released. These theaters sell tickets for a few dollars each, rather than the $10 and up that movie tickets commonly go for. The films that the second-run theaters are showing are exactly the same as the ones that were in the first-run theaters (well, not exactly the same--the prints are usually pretty beaten up), but the movie distributors can discriminate on the basis of price. It's not a fair analogy, because the publishers might actually get paid more by Amazon than Apple, while the film studios almost always end up making less from the second-run theaters than they did from the first-run ones. However, it demonstrates that Macmillan might have some "wiggle room" as to when it releases eBooks to different retailers.

In any event, the battle is now on, and it's likely to end up in the courts.