Google President Eric Schmidt was interviewed for The McKinsey Quarterly. One statement that I found fascinating, because of its utter wrong-headedness, was his embrace of the concept that prices for goods and services should equal their marginal cost:
The concept of marginal cost pricing is useful in abstract analysis and virtually worthless in the real business world. In any enterprise which depends on up-front investment, a category that includes everything except peasants scratching the ground with sticks, marginal cost pricing leads to destruction. Every business, including most emphatically Google itself, schemes night and day to avoid consignment to marginal cost pricing hell.
When pressed, economists always say, "well, we did not really mean it -- everyone knows that the concept of static efficiency with marginal cost pricing is an abstraction with little relevance to business decisions in the real real world." Unfortunately, everyone does not know this -- Eric Schmidt, for one, apparently. But this has real consequences, because it seems to underlie Google's drive to turn all its complements into commodities.
To add to the puzzle, Google has a Chief Economist named Hal Varian, from the University of California at Berkeley, who is a very good and sophisticated thinker. I would be quite surprised if he regards marginal cost pricing as a good thing. If it is, then someone should remind Google that the marginal cost of a click search is almost non-existent, so it should be giving away its services.
For more, and references, see:
Solveig Singleton, Is Cheaper Always Better? Misusing the Concept of Marginal Cost in Policy Discussions (July 24, 2008)
James V. DeLong, "Avoiding a Tech Train Wreck," The American (May/June 2008) & "Marginalized," TCS Daily (July 29, 2003)