Lock-in, or how sometimes poor products become best-sellers

It is usually believed that in a free market only the best products will stay and bad products will be discarded, almost like natural selection where the better adapted individuals will survive and the rest will just disappear. But history has proven that mediocre products or suboptimal products can make it in the market, becoming best-sellers or even standards.

Beta vs VHS

Beta vs VHS. Beta was supposed to be technically better than VHS but certain conditions favoured VHS and it became a standard. (Courtesy of Doug Miller)

The main argument for a free market is the idea of equilibrium. If the market is free to negotiate prices, given enough time it will settle into an equilibrium that will satisfy the demand side (consumers) and the supply side (producers). While it is true that such an equilibrium point exists in theory, in practice it is more difficult to observe. Many people criticize the assumptions behind traditional economics, for example that agents are fully rational and posses all the information to make educated decisions, and one easily overlooked problem is the assumption that there is only one equilibrium point.

As in any other complex system, equilibrium points are not unique and one way of explaining this is with the concept of increasing returns and lock-in, proposed by Brian Arthur in the 80s. With diminishing returns you have that every extra effort to produce something will payoff less than the previous effort, there is a tipping point in action. For example, ploughing will make a land more productive but after a certain number of passes it will become less and less useful. The idea of increasing returns is just the opposite, and it was rejected for some time before it was finally accepted. In an increasing returns economy, every extra effort will payoff more than the previous. A common example is knowledge and research strategies, the more you know the bigger the payoff you will get and the more the knowledge will improve.

This may sound as something good, it is possible for any effort to be compensated and there is no such thing as a wasted effort, but remember that not all products experience increasing returns. And, of course, it has a downside: increasing returns makes the economic system susceptible to initial conditions. As Arthur (1989) explained:

When two or more increasing-return technologies ‘compete’ then, for a ‘market’ of potential adopters, insignificant events may by chance give one of them an initial advantage in adoptions. This technology may then improve more than the others, so it may appeal to a wider proportion of potential adopters. It may therefore become further adopted and further improved. Thus a technology that by chance gains an early lead in adoption may eventually ‘corner the market’ of potential adopters, with the other technologies becoming locked out

Sometimes these initial conditions depend on the product or the company itself, like a good prototype or a good market strategy, but there are other factors that can affect the outcome producing many different equilibrium points. Once one of the technologies has an advantage over its competitors it will grow faster than the others because of the increasing returns.

In conclusion, while it is true that the amount of effort put into a product will affect its outcome, there is the possibility that initial conditions, often uncontrollable, affect the outcome locking into an equilibrium state that is not optimal in terms of quality or technical characteristics.

FURTHER READING:

Beinhocker, E. (2007), “The origin of Wealth: Evolution, Complexity, and the Radical Remaking of Economics,” Randome House Business

Waldrop, M. M. (1992), “Complexity: The Emerging Science at the Edge of Order and Chaos,” Simon & Schuster

Arthur, W.B. (1989), “Competing Technologies, Increasing Returns, and Lock-In by Historical Events,” The Economic Journal

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