Lose Your Privacy, Gain the World

Want to set the hard-charging captains of e-commerce back on their heels? Just say privacy. It’s like sunshine to a vampire: It stops them cold.

It does, but it shouldn’t. In their contest with privacy advocates, the defenders of open commercial communication are on solid ground. Sound economic analysis suggests that it is they, not privacy advocates, whose preferred policies best serve the public interest. However, marketers and advertisers have failed – and failed badly – in telling their side of the story.

To see that this is so, one must understand that most wealth is created through exchange and that exchange depends on information. Here is a simple example. Assume that I am thirsty and know that you are hungry. I trade my $.50 Snickers for your $.50 Coke. I now have a drink worth, say, $1 to me, and you a candy bar worth $1 to you (i.e., someone would have to give each of us $1 to induce us to give up our new possessions). Products that were worth $1 are now worth $2. Exchange has increased their aggregate value.

Exchanges like this create most of our wealth. But exchange is generally not so simple. It can easily go wrong – and often does. In a large-scale economy, buyers and sellers lack complete information about the marketplace, so both waste time and money.

Sellers sometimes make things no one wants. Buyers spend a lot of time shopping but still settle for products that don’t fully meet their needs because the products they really want are unknown to them or don’t exist. Everyone is less well off than they would have been if they had had better information and could have put economic resources to their highest use.

Fortunately, the Internet, new statistical techniques, and cheap computing now make it possible for us to approach a perfect information environment. Doing so will produce huge and widely dispersed economic gains.

Which brings us back to privacy. Now that collecting and processing information is much easier than before, the greatest impediment to economic growth is the privacy movement. Privacy advocates resist sharing information, especially with marketers – the very people who use information to facilitate productive exchanges in a modern economy.

Marketers are not Big Brother – we don’t compile dossiers with evil intent. We use – and it’s in our best interest to use – the data we collect on consumers to better meet their needs.

When information is not available, marketers can’t help producers make the things that people most want. Nor can they inform consumers of the products that most precisely meet their needs. Everyone loses. And as innovations in data mining improve our ability to predict demand, the already high opportunity costs of privacy claims will increase.

Of course, privacy itself has economic value for some consumers. So some will be willing to sacrifice other economic benefits to preserve their privacy. If consumers deliberately choose privacy rather than the benefits that flow from full information, they suffer no economic harm. They get the mix of benefits that most satisfies them.

But consumers can make a rational choice between privacy and other benefits only if they understand the costs of their privacy claims. At present, those costs are not well understood. The claims appear to be cost-free – all benefit, no loss.

It’s critically important to our future economic well-being that businesses, both on- and offline, make the costs of privacy claims and the benefits of a free flow of information apparent to consumers. To date, we have not done this. Businesses must provide incentives to share information that reflect the value of the information.

Policy makers should also encourage the free flow of information. For instance, if laws protecting privacy are deemed necessary, opt-out provisions should be mandated rather than opt-in (for example, see the DMA’s opt-out provision). Since most people won’t take action one way or the other, opt-out will produce more information.

Public policy and business practice should discourage privacy claims because these claims involve what economists call a negative externality – damage to third parties. When consumers fully understand the costs of their privacy claims, they will not suffer a personal economic loss if they choose privacy over other benefits. But they may still injure you or me.

We are all unaware of many products that we would purchase if we knew about them. Through data mining, marketers are increasingly able to identify these products and inform us of them. But their ability to identify the products we will want is contingent upon their having information on others who are like us.

When others assert privacy claims, we lose the benefits that fuller information for marketers would make possible. And those benefits are not trivial. Full information would produce for all of us a much more satisfying bundle of goods and services than what we currently have.

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