INDEX
About the Student
With the advent of data connectivity and voice synthesis/recognition the action space can now be extended further to affect not just humans, but also machines. These machines can in fact be transaction servers enabling the subscriber to interact in a financial manner over GSM.
Going back to the notion of the mobile terminal being constantly with the human, we can also ask whether the mobile terminal can possible replace the wallet, the wrist watch or the keys that we carry. After all, we can only carry a limited number of items - we are human.
This paper tries to outline how we can go toward GSM mobile commerce solutions by utilising Internet-based developments and current development in smart card, Wireless Application Protocols and other new standards and technologies.
The development of Internet communication and the recent expansion in scope for electronic commercial transactions provide incentives to modify the basic organisation of certain types of trade. They have implications for existing methods of producing, pricing, and distributing goods and services; for the structure of firms and for transaction between them; and even for where economic activity actually takes place.
The economics of the Internet and the economics of electronic commerce are really two separate areas of study. The former is a sub-field of communication economics that emphasises the unique nature of the Internet as a communications network. The latter is concerned with trade in digital commodity markets that takes place on any electronic medium. The Internet is only one such medium and is viewed as a transitory infrastructure on which the electronic market place has been launched. Ultimately it is though that virtual transactions will be supported on networks comprising telephone wires, cables, microwaves and satellites.
In this paper we also review some of the main issues surrounding the
economics of Internet trading and electronic commerce.
Development of the "mobile wallet" is being driven by several factors. Most importantly, the first steps forward are highly lucrative to GSM operators. By July 1998, at least a quarter of West Europeans will be using smart cards to make phone calls, to hold loyalty points, travel tickets, identification, medical records, or electronic cash, or even to access Intranet sites, pay-TV channels, or physical buildings. If mobile phone operators can add functionality or convenience to these smart card applications, they will be able to create powerful new distribution channels, enhance customer loyalty, and generate additional traffic.
Also, smart cards are being promoted by a wide range of companies, such as banks, retailers and transport companies. Many such companies are already working with mobile operators: in the UK, at least three major banks will have over 80,000 customers using a mobile phone branded or promoted by their bank by the end of 1998. Schemes will be offered that pay the monthly subscription for a mobile phone as part of the monthly fee for banking services. Petrol and supermarket retailers are likely to be among the early followers, towards the end of 1998. These companies already have serious plans for smart cards: they are starting to appreciate how Mobile Commerce will make those plans much more powerful.
According to Dataquest, the number of smart cards that include a microprocessor is growing at about 55% per year. But consumers have already demonstrated their desire for three enhancements to the basic smart card concept.
Mobile phone operators are well positioned to take advantage of these developments in secure technology.
However to be able to utilise the technology, application standards
need to be developed to which address the mobile commerce concepts.
3.1. The POWERTEL trial
The Powertel project involves 33,000 Florida State University (FSU)
students using smart cards for many activities (e.g. payphone, vending
machines, photocopier, student id). Trialists are given a smart card that
also has SIM capability that they can slot into a Motorola Powertel phone
to make calls. The Powertel trial is going along smoothly and the participants
are "very enthusiastic". There has been surprising levels of interest over
this project, as the trial has not been publicised. There has been numerous
calls made to Powertel from various operators around the world wanting
to use the smart card to differentiate their service, and are very keen
to replicate Powertel's initiative.
3.2. The MOMENTS trial
The Moments project is led by Nokia, with trials being conducted on
the E plus, Orange, and Omnitel networks. The Moments trial is as
concerned with data compression, optimisation of TCP/IP, which is essential
for Quality of Service (QOS) considerations.
Genuine end-user trials will conducted in parallel in three different
countries on a commercial-like basis using operational personal telecommunications
networks and clearing/interchange networks. These will allow the realistic
assessment of wireless multimedia services and verification of the identified
business opportunities.
There are a total of 100 participants, and the trial should be completed
by June 1998. The overall objective of the project MOMENTS is to demonstrate
the technical feasibility and business viability of a wireless media highway
for the distribution of advanced multimedia products. This covers two application
categories, namely online services and entertainment. The aim of the project
is to contribute significantly to the understanding of the users' perception
of the values of wireless multimedia services, to identify how commercial
exploitation of the services using third generation systems can be accelerated,
to create new enabling technologies, in particular for the presentation
of visual material, and to make a valuable contribution to standardisation.
3.3. The MOBIDICK trial
The Mobidick pilot is being conducted by Nokia and Unisource NV. They
have set up a trial where over one hundred users can test mobile, on-line
services in electronic commerce and banking using the Nokia 9000 Communicator.
The official name of the trial is "Nokia Unisource Smart Access Pilot"
and test-users come from different companies, such as Telia, Swiss Telecom,
PTT Netherlands, NatWest and Mondex UK. The Nokia 9000 Communicator enables
transactions to take place using smart card based Mondex electronic cash.
The user inserts the card into the smart card reader, plugs the reader
into the Nokia 9000 Communicator and downloads cash over the air. The money
can be used for live, on-line payments over the air. Users can purchase
value-added information services or buy new software applications to their
Nokia 9000 Communicators over the web at anytime whilst mobile.
Agreements made in the last few months will deliver enough compatibility to give manufacturers significant economies of scale, and to give merchants confidence that smart card readers are a future proof investment. The first of these agreements is upon the Java programming standard. Visa International declared in March that its multiple application cards will be based on Java; Motorola and Hitachi will also programme Schlumberger's Java software onto their smart card chips; and Mastercard has indicated that it will ensure Mondex electronic cash becomes compatible with Java cards. A second recent agreement between the major players promotes the MULTOS standard to let several applications exist securely and independently on a single smart card. The intention to help SIM, loyalty, and credit card applications run securely on the same card was specifically mentioned when the MULTOS standard was announced. MULTOS smart cards will be available in Q1 1998.
The WAP Forum is very active in specifying the first release of a protocol that will enable GSM terminals to have a data Application layer specification. The WAP initiative is being led by Ericsson, Nokia and Unwired Planet. Initiatives such as WAP, if successful, will act as massive enablers for Mobile Commerce solutions. As can be seen from figure 3 it will be a major enabler if it gains wide acceptance. It is in fact a 'missing link' for low-bandwidth (SMS-based) transactions and has the potential to extend over GSM data.
Figure 1. The Operator Service LAN can act as a Gateway to Internet
Commerce Solutions
It must be realised that the network operator is in a very favourable position place between banks/businesses and the GSM subscribers.
The operator can leverage their position with the data they can collect about the customer, including:
The operator is in an ideal position to offer mobile commerce solutions as:
In fact, by converting GSM data into Internet protocols and standards, we can look at Internet trading, markets and e-commerce dynamics which is also not well understood.
We have to ensure that the Quality of Service (QOS) is such that the
conversion process (WAP or protocols alike) will preserve the expected
QOS of Internet service.
Internet trade and commerce can take place within businesses, between businesses, and between businesses and consumers. These interactions are multifaceted but will include such things as acquiring product information, ordering goods and services, paying for goods and services, providing customer services, and also trading products directly. The vast scale of the Internet increases the size of virtual markets and directly links a vast number of producers and consumers. Internet trading and commerce also provide opportunities to gather and coordinate market information in efficient and comprehensive ways, and also in real-time. This information is, in theory at least, accessible to all participants in economic transactions. The absence of geographical constraints and existence of excellent information heighten the strong coordination of economic interactions. Despite these advantages transaction costs are still very low relative to physical markets.
These characteristics of Internet trading and commerce have attracted attention because they appear to have engendered markets with properties of perfect competition. Perfect competition is a theoretical economic model that is based upon four key assumptions about the way markets work:
In real markets these assumptions are seldom met in their pure form. Degrees of monopoly power tend to exist in many industries, 'sunk' costs present barriers to firm entry or exit, products tend to be heterogeneous in terms of appearance or quality, and buyers and sellers make market decisions in the absence of perfect information.
Virtual markets, however, differ from physical markets, and particularly with respect to reduced barriers to entry and vastly improved information about products and demand.
There are two main reasons why barriers to entry are lower in virtual markets. First, because for most types of economic activity it is much cheaper to operate from an Internet site than to trade from rented premises. Second, is that the Internet appears to offers no inherent advantage to large or established corporations over small start-up firms. In physical markets reputations and market share create difficulties for small firms entering the market.
Vastly improved information makes the vital difference that both consumers and producers can know demand and supply conditions accurately at any one point in time. One implication of 'perfect' information is that if there are a sufficient number of firms in the market and products are homogenous, firms will be 'price takers'. The reason for this is that consumers can search the Internet to find out the 'true' market price of any good. In physical markets the time and cost consumers would have to spend in comprehensive market research is often too great compared to the value of the goods being purchased.
From the point of view of producers, improved information in virtual markets makes it possible to analyse demand profiles. They can therefore attempt to meet and react to consumer tastes more promptly and accurately, and can differentiate and customise products to meet sections of market demand.
These characteristics of the Internet have led to speculation that virtual markets may tend to be more 'efficient' than physical markets. Efficient markets allocate resources such that markets clear leaving no excess supply or demand, and also minimise intermediation in market transactions. In real economies geographical distance, imperfect information, and high transaction costs create market inefficiencies. These forms of market imperfection should be much less prevalent in virtual markets. In the following sections of the paper we focus on specific aspects of Internet economics and commerce to examine the accuracy of the efficient market comparison.
According to the theory of disintermediation an efficient market reduces the number of intermediaries or intermediate steps required for market transactions; buyers and sellers interact much more directly. Intermediation is nonetheless prominent in most real markets, for example, in distribution, in ensuring product quality and diversity, in providing information and so on. The supply of consumer goods in physical markets is a classic example that usually involves a chain of intermediation from producer, to wholesaler, to final retail outlet. Transaction costs are incurred along the line of intermediation and transferred onto the value of the goods at any point on the chain.
The need for intermediation in Internet commerce appears less obvious at first sight, at least for certain types of goods. Digital goods and services, for example, may be exchanged directly between buyers and sellers on the Internet. Any networked consumer can directly access any digital producer and pay for and download the product or service. The non-spatial nature of electronic commerce means that for these types of goods, the cost to the firm of selling to consumers direct, despite their relative positions on the globe, could be less than the cost of using an intermediary. The distinction between wholesaler and retailer effectively disappears. For physical goods the problem of transport to final consumption remains, and thus it is likely that intermediaries will still be required. Nonetheless a higher degree of directness is still achieved because virtual markets allow producers to monitor and interact with final consumers, which could at least lead to more efficient or different intermediation chains.
However, the disintermediation theory of Internet trade breaks down upon closer investigation. While Internet commerce for digital products may remove the need for some forms of intermediation it also creates niches for new types. For example, many Internet users do not possess the time or skills to effectively search the web for the information they require. It may be viable therefore for intermediaries to enter the market providing an information retrieval service. Similarly, economists anticipate a growth in Internet intermediaries involved in searching, assuring product quality, enforcing security and privacy in transaction, establishing payment systems and so on. The point is that the virtual market is unlikely to do away with intermediation, what seems more probable is that it will instigate new forms.
A useful parallel can be found in financial trade, which has been conducted electronically for a very long time. Here intermediaries have emerged to match buyers with sellers (brokers), to buy goods from sellers and sell them to buyers (dealers), to buy goods and sell them after modification, or to provide market information. Dealer intermediaries are a particularly interesting case. Here the intermediary exists because they can achieve a favorable difference between the bid price and ask price in the market. This can be achieved due to intermediary relative economies of scale in information gathering and processing which are inherent in specialisation as well as from large numbers.
In the case of perfect competition the firm is a price taker and so faces perfectly inelastic demand. The firms profit maximising strategy is the same although now MR will always e equal to price.
In the short-term AR is above AC at equilibrium q* implying a profit making firm. The break-even or zero profit point for the firm, is when AC is equal to AR at q1, and perfect competition assumes that long-term equilibrium will be found at this point. This is because the existence of profits will entice new firms into the market and competition will reduce price to zero profits. If price were to fall any lower firms would suffer losses and would thus have an incentive to leave the market. At the point of zero profit, assuming no exogenous influence, firms are indifferent to leaving or staying in the market.
It is important to consider the theory of the cost structure of the firm in more detail as it is of crucial importance in the debate over the pricing of digital products. The first point to note is that the average cost (AC) curve, which is total costs divided by the number of units produced (Q), generally assumes a U shape. This curve falls initially because the firm is thought to face fixed costs that do not vary with output. As more units of output are produced these costs do not get any greater and so average costs fall. Eventually the average cost curve bottoms out and begins to rise as diminishing returns set in. The logic here is that economies of scale will lessen and average productivity will begin to fall fast enough to cause average total cost to increase. Two final points worth noting from the diagram are first, that average cost is at a minimum when it is intersected by the marginal cost curve. Second, that if average costs are falling they must always be above marginal costs and when they rising they must always be below marginal costs.
The question is: will the trade of digital products on the Internet closely follow the perfect competition model in which equilibrium is found where price equals marginal cost? Certainly it would appear that the Internet has some neo-classical traits. However, some economists argue that virtual firms producing digital products tend to have peculiar cost characteristics that differ from the assumptions of standard neo-classical theory. In the first instance, digital industries tend to have declining long-run average costs that do not take the assumed U shape. The reason for this is that the greatest part of the digital firms cost is fixed: costs incurred in developing the product. The actual costs of reproducing or distributing digital goods are, it has been claimed, close to or equal to zero. This of course implies that, marginal costs in the strict sense are also close or equal to zero.
Digital products are not characterised by the 'normal' conditions of profit maximisation because the resource allocation problem occurs when the first unit of a product is produced. Traditional marginal cost pricing, therefore, holds little relevance in the digital marketplace. No firm will want to accept a price of zero or close to zero for their output. Another alternative is that prices could be based on average costs, as is the case in long-run perfect competition. However, because average costs are constantly declining, firms can gain market share by increasing output. Theoretically, this particular context offers tremendous scope for destructive price competition that may drive prices to a level where firms will not recover their fixed costs. The end result of this type of price war, known as Bertrand equilibrium, is when there is only one producer left in the market.
Physical markets of the neo-classical type are also open to Bertrand competition. But in these markets, geographical distance, imperfect information and the existence of natural monopolies prevent the pure form of this competition taking place. Not only do digital firms have declining average costs at increased levels of output, which heightens the scope for Bertrand competition, they also exist in a virtual environment which has excellent information and extremely low barriers to entry.
Most economists assume that firms will actively seek to avoid destructive price competition. Instead, they will compete by customising their products or by differentiating them from others on the market. In this way heterogeneity in product type will be introduced, and with digital goods this can be achieved very easily because another important characteristic of these goods is that they are highly transmutable. If firms pursue this strategy they may gain market power by reducing the degree of substitutability between their product and other on the market. If successful, the demand for any individual product would take the traditional downward sloping curve. Firms are then engaged in a form of imperfect competition known as monopolistic competition. In the short term, monopolistic competition implies that firms are no longer price takers and are able to set monopolistic prices as some fixed mark-up over marginal cost. In the longer term it is assumed that firms will be able to enter the market until profits are zero.
Some economists have argued that there is always an incentive towards
product differentiation in the market for digital products because of the
desire to minimise the effects of competition between homogenous products,
which destroys the market due to declining average costs. Others however,
are less certain that marginal costs in digital production will be negligible,
pointing out that copyright payments, which will apply to many digital
products, may be substantial. Furthermore, much of the theoretical debate
over prices depends on the way in which marginal costs are defined. Perhaps
a more relevant definition for digital products would incorporate the necessary
dynamics to account for initial fixed costs.
There are a number of ways in which problems of quality could be addressed. First, companies will probably engage in informative advertising, and along with corporate reputation, this would serve to give a good indication of quality. Second, for some digital products it is advantageous to allow free access to restricted shareware versions of full products. It can be more profitable to allow all consumers to try out basic versions, and to then afterwards focus on charging a suitable price for full products to high value customers. Third, the government may wish to lay down official standards which consumers can consider in their choice of products. Finally, a market driven solution, which relies on the entry of intermediaries with incentives to provide accurate and reliable product information, could solve quality problems.
The issue of security in Internet commerce has received a great amount of attention in the media. Generally it is felt that security and privacy still present risks for commercial transactions. There are four requirements for secure virtual transactions:
[1]Dr. Janko Mrsic-Flogel, "Software Opportunities in GSM", December
1994, Imperial College
[2]Dr. Dan Graham (Economics consultant), discussions, Imperial College,
1998
[3]"Logica's vision of mobile commerce" (http://www.mobilecommerce.com/)
[4] Nokia Moments website (http://veppi.mm.wdss.ntc.nokia.com/)
[5]"Mobile Media and Entertainment Services" (http://www.inforwin.org/ACTS/RUS/PROJECTS/ac002.htm)
[6]"Electronic Payment Services showcased with the Nokia 9000 Communicator"
(http://www.nokia.com/news/news_htmls/nmp_970908a.html)
[7]"Unisource electronic payment services showcased with the Nokia
9000 Communicator" (http://www.unisource-group.net/press/pressrel/Pr97025f.htm)
[8]"Technology agreement between Banksys and Unisource extends Internet
payment system to include Proton smartcard purses"
(http://www.unisource-group.net/press/pressrel/Pr971016.htm)
[9]"Mobile Information Visualization"
(http://www.igd.fhg.de/www/zgdv-mmivs/projects/Moments/moments.html)
[10]"Debitek SmartCity Solution" (http://www.debitek.com/smartcity.html)
[11] "Debitek University Solution" (http://www.debitek.com/solution.html)
[12] Florida State University. (http://www.fsucard.fsu.edu/)
[13] WAP Forum. (http://www.wapforum.com)
[14] Unwired Planet. (http://www.unwiredplanet.com/)
[15] Powertel. (http://www.powertel.com/)
About the Student
Sami Lababidi is in his final year at the Department of Computing,
Imperial College of Science, Technology and Medicine, University of London.
He is pursuing a B.Sc. in Computer Science and Mathematics. His final year
project is based on Automation Control via GSM using X-10. X-10 is
a communications protocol for remote control of electrical devices. The
X-10 GSM switch will allow control of lights and electrical / electronic
devices and alarm systems in the home from the GSM mobile terminal. For
example, you could switch on or off your light in the house by sending
a simple SMS message from a remote location. Sami's current interests reside
in mobile computing, electronic commerce, WAP, X-10, Windows-CE and Java.