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 / Spring 2010 / Issue 58(originally published by Booz & Company)


The Thought Leader Interview: Erik Brynjolfsson

On the other hand, an accurate measure of productivity depends on having meaningful measures of output and input. And it’s difficult to capture the true factors affecting quality of life. This doesn’t just relate to productivity. Gross domestic product, for example, which simply adds up what is sold each year, misses some of the most important chunks of the economy. For example, Wikipedia, Google, Facebook, and even the value of a lot of health treatments aren’t priced in these equations. If Wikipedia is available free and a bound set of Encyclopedia Britannica costs, say, $1,000, when someone switches from Britannica to Wikipedia the GDP goes down. Yet, in practice, the value received by the consumer goes up; Wikipedia has much more comprehensive coverage. GDP gives us misleading statistics.

A good supplementary metric for measuring the level of economic growth is consumer surplus. This is the difference between what consumers are willing to pay for an item or service versus the market price they actually have to pay. For example, if I would be willing to pay $10 a month for access to Wikipedia, but I pay zero, then I get $10 a month of consumer surplus from it. Other people might be willing to pay only a dollar or a penny, and others would be willing to pay more. If you could average them all, then you would get the total value of how much everyone would be willing to pay, over the price they all had to pay, and that’s the total consumer surplus from that product or service. All together, there are trillions of dollars of consumer surplus in our society created by new goods and services.

S+B: But how can you measure what people are willing to pay for every product? You can survey them, but wouldn’t the answers be suspect?
Sure, there are issues to resolve in measuring consumer surplus; we would need to triangulate it from a number of different directions. But you can estimate it with available data. In fact, some companies are doing that. They try different prices for different subgroups, using coupons or offer letters, or auction sites like Priceline. You can plot out every point on a demand curve, to see how the popularity changes as prices go up or down. By extrapolating between the points that you measure, you can make some reasonable assumptions about the upper and lower bounds on the consumer surplus for a given product.

And this is the data that we must consider when we want to understand how well an economy is functioning, because the consumer surplus indicates the opportunities for new directions and growth.

S+B: So if there were an overall consumer surplus in products and services — including such expensive domains as housing, health care, and university education — then that would be a reliable indicator of a healthy economy?
Viewed broadly, what we really want to know is the change in consumer surplus over time. Is it moving in a positive or a negative direction? If we’re getting more goods that add to our consumer surplus, that’s a good thing. If we continue to have high consumer surplus but it’s shrinking each year, perhaps from greater pollution or traffic congestion, then even though it’s still a positive number, the decline is a bad thing.

And we also have to factor in other issues, like people’s expectations. In housing prices, for instance, there are factors related to both supply and demand. Part of the price reflects the value that people place on living in San Francisco or New York or Boston, where they are willing to pay a premium. Other places carry lower expectations, and those are reflected in the housing prices. Some of the value in a premium location ends up being captured by the landowners or the housing owners, who, when they sell, can charge more, and raise price expectations even more. Those factors are reflected in metrics like the GDP, but the consumer surplus is more likely to tell you how the overall economic quality of life in a country is going to change.

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