What Is Electronic Commerce?
The term "electronic commerce" has evolved from its meager notion of electronic shopping to mean all aspects of business and market processes enabled by the Internet and the World Wide Web technologies.
Electronic Commerce As Online Selling. Narrowly defined, electronic commerce means doing business online or selling and buying products and services through Web storefronts. Products being traded may be physical products such as used cars or services (e.g. arranging trips, online medical consultation, and remote education). Increasingly, they include digital products such as news, audio and video, database, software and all types of knowledge-based products. It appears then electronic commerce is similar to catalog shopping or home shopping on cable TV.
Electronic Commerce As a Market. Electronic commerce is not limited to buying and selling products online. For example, a neighborhood store can open a Web store and find the world in its door step. But, along with customers, it will also find its suppliers, accountants, payment services, government agencies and competitors online. This online or digital partners demand changes in the way we do business from production to consumption, and they will affect companies who might think they are not part of electronic commerce. Along with online selling, electronic commerce will lead to significant changes in the way products are customized, distributed and exchanged and the way consumers search and bargain for products and services and consume them.
In short, the electronic commerce revolution is in its effects on processes. Process-oriented definition of electronic commerce offers a broader view of what electronic commerce is. Within-business processes (e.g. manufacturing, inventorying, corporate financial management, operation), and business-to-business processes (e.g. supply-chain management, bidding) are affected by the same technology and network as are business-to-consumer processes. Even government functions, education, social and political processes undergo changes.
Computers and networks are nothing new. They have existed and business applications such as LAN and EDI are well established long before the World Wide Web took over. Then, why is the sudden talk of the Digital Age and the advance of electronic commerce?
Two things make the Internet quite different from any other existing communications media. Unlike broadcasting media, the Internet (1) allows two-way communications and (2) is built around open standards. A two-way communication means targeting audience and the possibility of feedback. Broadcasting sends out messages to "no one in particular" and without knowing quite who has gotten the message. (What do Nielson and a horde of market research firms do for their living?) An open standard (e.g. TCP/IP) means interoperability and the advantage of a large market and the possibility of integrating one product or process with another.
Both of these characteristics are being challenged.(1) To the WebTV generation, the digital future looks like another version of the passive one-way broadcasting. The "new media" sums up how publishers and media companies view the digital medium. We are so accustomed to "receiving random messages" that we often forget the fact that broadcasting was a 20th century phenomenon. Even "interactive television" envisioned by today's media is a way of providing a more lively entertainment, offering more information "related to existing contents" (e.g. detailed information about characters, plots, and commercials shown on TV). Multichannel, digital TV broadcasting may very well be a model for future entertainment, but it needs to be remembered that it is only one application of the digital communications network. (2) The commercialization of the Internet is forcing businesses to differentiate their products from others by making products incompatible. Unlike the public Internet where standards were open, firms attempt to capture and dominate the market with their proprietary products. In such an environment, TCP/IP would have had a very slim chance of becoming a standard and opening up the digital, networked economy. Whether markets driven by private interests can bring about a better result (e.g., more efficient, technologically superior, etc. system) is still a concern left for arguments.
Perhaps telephone networks are quite similar to the Internet (and indeed most Internet traffic goes through telephone networks). But unlike telephones, the Internet's user interface (computers) is much more sophisticated and flexible. Because of its beginning as a public research network, the Internet has no pricing regime of telephone companies. The world-wide connection, then, may be considered to have been an accident. When usage-based, long-distance charges are implemented, the Internet may look quite similar to the telephone network.
Participants in the electronic marketplace are not limited to so-called digital product companies such as those in publishing, software, entertainment and information industries. The Digital Age and the digital revolution affect all of us by virtue of their process innovations. At the least, through WebTV and digital television, the way we watch TV news and entertainment programs will change. Changes in telecommunication will affect the way we receive information, product announcements, orders, etc. As phones, fax machines, copiers, PCs and printers have become essential ingredients in doing business, so will be emails, Web sites, and integrated digital communications and computing.
While today's office business machines are not integrated (e.g. faxed orders have to be typed in on computers), the much talked about "convergence" will drive all these equipment into one digital platform, whether it be a computer connected to the Internet and intranets, or a new kind of device capable of interacting with other devices, because that device will prove to be more efficient and productive. (Although, will it be easier to use? That depends on how developers and industry leaders promote interoperability and standardization.)
Even seemingly-mundane book stores face different challenges in the electronic marketplace by virtue of having digital processes in their business operations. The case of Amazon.com vs. Barnes & Noble shows that the very definition of "stores" has to be re-evaluated. This also touches upon the issue of taxable nexus and sales tax collection on the Internet.
Distributing books require numerous local outlets (local book stores) to provide convenient access to customers. At the same time, mail order distribution has been used for many decades through various book clubs. Taking this direction into the Internet, Amazon.com has become the leading online bookstore, billing itself as the "largest bookstore" on earth not by opening numerous branch stores but via the Internet. The "biggest bookstore", Barnes & Noble with a towering share of revenues and physical book stores, has been forced to respond to Amazon.com's challenge by opening its own Web store as well as by bringing a law suit against its challenger. (See insert: The Fight Between the Biggest and the Largest) What are competitive strategies of these two book stores? Will any business selling physical products be facing a similar competition?
Intranets and extranets have become en vogue. Intranets and extranets share the common protocol (TCP/IP) and Web technologies with the Internet. Intranet is a closed, business-wide network, but it uses open standards such as TCP/IP instead of proprietary protocols traditionally used for LANs (local area networks, usually hard-wired) and WANs (wide area networks, usually LANs connected by cable, telephone and wireless networks). Extranet is a private WAN running on public protocols. That is, an extranet is a virtual private network among private parties based on open network and protocols. To assure security and privacy, an extranet relies on secured channel using tunneling protocols and digital ID. In a way, extranet is a private street built on public land (although costs may be borne by private parties).
Electronic markets ordinarily refer to online trading and auctions, for example, online stock trading markets, online auction for computers and other goods. The electronic marketplace refers to the emerging market economy where producers, intermediaries and consumers interact electronically or digitally in some way. The electronic marketplace is a virtual representative of physical markets. The economic activities undertaken by this electronic marketplace collectively represent the digital economy. Electronic commerce, broadly defined, is concerned with the electronic marketplace.
The electronic marketplace resembles physical markets (the one we know) in many aspects. As in physical markets, components of the digital economy include:
The difference is that, in the electronic marketplace, at least some of these components are electronic, digital, virtual or online (whichever term you may prefer). For example, a digital player is someone with an email or a Web page. Purely "physical" sellers may be selling a digital product, e.g. digital CD-ROM. One that sells physical products at a physical store may offer product information online (thereby allowing consumers to "search online"), while production, ordering, payment and delivery are done conventionally. Currently, the emphasis is on the core of the electronic marketplace where everything (i.e. all value chains or business activities) is online. But, if any aspect of your business or consumption dwells upon the digital process, you are already part of the electronic marketplace. That is, almost all of us are already players in the electronic marketplace!
The answers to this question provide us with a preview to what we try to achieve in this FAQ: comparing the digital economy with the physical economy, and coming up with a better understanding of the new market. Business strategies must be based on a sound understanding of the market dynamics, for which we rely on standard economics. More in-depth discussion is presented in our book, "The Economics of Electronic Commerce".
Is the electronic marketplace a perfect, "friction-less" market? Will transaction costs become zero? Will the market be perfectly competitive, yielding lowest possible prices? Should the market be left alone to march toward those predictions?
On the surface, the electronic marketplace appears to be something of a perfect market, where there are numerous, worldwide sellers and buyers, who in turn have bountiful information about the market and products, and where no intermediaries are necessary. Such a market is very competitive and efficient (with no need to regulate or intervene arbitrarily).
However, closer looks indicate that consumer searches are not very efficient (due to the cost of having a complete, easily searchable database, and because sellers may not provide all information necessary). Although wholesalers and retail outlets may not be needed, other types of intermediaries appear to be essential for the electronic market to function adequately (e.g. certification authorities, electronic malls who guarantee product quality, mediators for bargaining and conflict resolution, etc.). All these brokers add transaction costs.
Will prices be lower? Digital products are highly customizable due to its transmutability, i.e. easy to revise, reorganize and edit. With information about consumer tastes, products will be differentiated (or "customized", e.g. custom news). The number of potential sellers may be low, or even only one, in a highly differentiated and segmented market, and the price will tend to approach the maximum price the buyer is willing to pay. (In economic terms, sellers practice "first degree or perfect" price discrimination, which is exact opposite to the result we get in a perfectly competitive market.)
How about the often-heard "zero marginal cost" argument that digital products will be priced at zero (given out free) because their reproduction costs will be minimal? The price will approach zero only if (1) the marginal cost is really approaching zero and (2) there is effective competition among sellers. We will discuss the microeconomics of digital products in Section D1 in detail. In short, the marginal cost of a digital product may be substantial. Even when it is close to zero, prices in a non-competitive market will be determined more by demand (or the buyer's willingness to pay) than by marginal cost. Unless we think all information and digital products are of no value, they will never be priced at zero by sellers with market power. (Giving out free products today does not mean that sellers are doing it because the costs are zero nor that they will continue to do so when they monopolize the market.)
Related Web Resources
- George Gilder discusses the effects of digital technologies on a variety of social and economic spheres. Some of his articles are available at George Gilder Article Index.
- Nicholas Negroponte is the author of being digital, 1996, New York, Alfred A. Knopf.
