Explaining the great Xbox shortage of 2005.

How the dismal science applies to your life.
Dec. 15 2005 6:09 PM

The Great Xbox Shortage of 2005

Why you can't buy the one present you really need.

(Continued from Page 1)

The economist Kenneth McLaughlin of City University, New York, has suggested that rock concerts deliberately underprice tickets because it means that a younger audience shows up—and teenagers, while they won't buy premium-price tickets, will buy merchandise and music. It's clever, but it's a stretch even for Rolling Stones concerts. (Every extra dollar on the ticket price is pure profit, after all—and how much merchandise do they really expect to sell?) For Xbox sales, it makes no sense at all to apply McLaughlin's theory, which would only work in the bizarro-world where the people willing to pay the most for the consoles were also the ones willing to spend the least on the games.

Barry Nalebuff and Adam Brandenburger, economists at, respectively, Yale School of Management and NYU's Stern School of Business, have argued that the scarcity of Nintendo game cartridges in 1988 was a deliberate attempt by the company to create a strong bargaining position in negotiations with retailers carrying the cartridges. (Retailers requested 110 million cartridges, and Nintendo produced 33 million.) Limiting supply is an age-old tactic for creating a bargaining position, of course, but the traditional thing to do with that bargaining position is to exploit it. What is the point of limiting supply if you don't raise the price?

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Microsoft could certainly have made itself popular with favored retailers. If customers value the console at $700 but it retails at $300, then a retailer such as Best Buy will certainly thank Microsoft for any extra consoles, because they will attract customers into the store. Every $300 console saves a customer the extra $400 he would have had to spend on eBay to buy it (or allows that customer to buy for $300 something he can sell for $700). This is effectively a $400 handout to a few lucky customers, but Microsoft could achieve the same effect for the same price by having its representatives stand around in Best Buy handing out a limited number of $400 checks. Either way, Best Buy enjoys the crowds that result, but what has Microsoft gained?

A final explanation is that Microsoft is creating some kind of cachet by making the console scarce. But that doesn't work either because, again, it isn't the scarcity that's puzzling, it's the low price. Microsoft could create the same cachet by selling the same limited number of units at a higher price. In any case, it's not the Hope diamond, it's just a game console. How valuable can this so-called cachet be?

That leaves us with Napoleon's explanation: Never attribute to conspiracy that which can be explained by incompetence. This view of the world is antithetical to economics, because the dismal scientists tend to be suspicious of people's motives but credit them with vast intelligence.

Perhaps readers will suggest better ideas for the Xbox 360 shortage than my economist colleagues and I have done, but something happened recently to convince me that Napoleon was right: My publisher managed to sell out its rather timid print run of my book, The Undercover Economist. There was no great scheme or publicity effort attached to my book, no cachet, no hard-talking negotiation to raise the price on Amazon. The publisher just misjudged demand, and unsurprisingly so, because life is full of uncertainty.

Microsoft has got it wrong, too, but they have missed out on a far more obvious opportunity. Why didn't they sell their initial supply of Xbox consoles, packaged as a "limited edition," using online auctions? All the while they would promise $300 consoles as soon as stocks were available. Since at an auction the price is set by the buyers, not the seller, Microsoft could have made a killing, absolutely guilt-free, and created no more annoyed, empty-handed customers than they have with their current strategy.

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