The Economics of Open Source Software and Public Good Provision

In the 1980s and early 1990s, shareware was popular with consumers.  Simple computer programs could be shared among users via disks and installed onto hard drives.  While shareware was specifically authorized to be shared, other software was not intended to be shared.  Unfortunately for software producers, the floppy disks used at the time made it possible for these programs to be copied again and again onto new disks against the producers’ wishes.

The ability of disks to install programs onto multiple computers quickly created revenue problems for tech firms: consumers would try to get the disks from their friends instead of purchasing their own copy.  Similar to pirated copies of movies and music, pirated software reduced the revenue of producers.  Quickly, firms came up with codes and other features to prevent multiple installs and force consumers to purchase their own copies of programs.

Modern “Shareware”: Open Source Code

While shareware went away in the 1990s, a similar evolution of the concept is open source code.  With shareware, multiple users could openly install the same software without having to pay extra.  With open source code, multiple users can copy and edit the same software to tailor it for their own use.  The creator of the software allows users to go to the “source,” the code itself, and make changes.

Economics of Open Source Code

A Public Good

When open source code is freely available online, it theoretically becomes a public good because it is non-rivalrous and non-excludable.  It is non-rivalrous because consumers can collect massive amounts of copied software code without having to forgo other things - it is an and rather than an or consumption.  It is non-excludable because it is freely available online and anyone with an Internet-capable device, which is now virtually everybody, can access it without payment.  With anyone able to take and use open source code as a public good, there are other economic implications of this resource:

The Free Rider Problem 

Eventually, the government usually has to provide and maintain public goods because most consumers refuse to pay voluntarily.  Quickly, producers go out of business due to lack of revenue - the first batch of paying customers simply share with others, who share with others, et cetera.  Therefore, producers of open source code do so for motivations other than profit, such as community service or building a reputation.  While programmers motivated by community service may produce lots of open source code over long periods of time, those motivated initially by building positive reputations as quality coders may quickly transition to profit-seeking professionals.

In the long run, therefore, open source code can theoretically harm the software market by depressing demand as consumers look for cost-free substitutes.  When prices are depressed by a prevalence of low-cost or cost-free substitutes (i.e., public goods), market failure can occur when profit-seeking producers are driven from the market due to insufficient revenue.  The exit of most or all profit-seeking producers can then leave consumers with a shortage of the good or service desired, harming those who did not get enough of the cost-free substitute early on.

Tragedy of the Commons

Lack of consumer payment, seen in the free rider problem, is complemented by overuse of a public or common good (non-excludable, but rivalrous) as seen in the Tragedy of the Commons.  When a good is non-excludable, meaning anyone can access it without payment, it typically is subject to overuse without government intervention.  For example, in the Commons in historic England, all persons could take resources from public lands.  Unfortunately, with no rationing function of prices, consumers and producers quickly drained the land through over-hunting, over-logging, and other resource extraction.

Today, overuse of resources causes them to degrade.  Over-logging and over-fishing results in lack of maturation between subsequent rounds of extraction, resulting in smaller and smaller yields over time.  Similarly, overuse of open source code can result in software becoming over-reliant on old and obsolete code.  Instead of new software being better than its predecessors, it may be more prone to bugs due to rampant copy-and-pasting of free code rather than quality code developed through research-and-development.

Welfare Implication of Proprietary vs Open Infrastructure

So, is it better for society to have open source infrastructure versus proprietary infrastructure, where the software is un-editable and the domain of the producer?  Both have significant risks and benefits.  Proprietary infrastructure is less adaptive because it must be edited by the proprietor, and more expensive.  However, it is likely to be of higher quality.  Paying consumers, including the government, can demand improvements.  Open source infrastructure, by contrast, is more adaptive and cheaper but potentially of significantly lower quality.  With no “owner” of open source code, who can be demanded to make improvements?

Corporate Capture of Open Source Projects

The desire for an authority to be tasked with making improvements may explain corporate capture of open source projects.  Similar to regulatory capture, corporate capture occurs when a private company, typically a large corporation, comes to control (or dominate) a function that was previously handled by a non-business entity, such as a nonprofit or government agency.  This can occur when a business begins to partner with a not-for-profit entity, such as an open source project, but continually exerts increasing control.

Eventually, the business may become the de facto controller of the project and incorporate the project into its profit-seeking operations.  For example, a tech company may partner with an open source software project that intends to benefit the public at large.  At first, the company provides funding, but then begins offering technical assistance.  After a period of time, the software is no longer available to everyone for free.  In the long run, everyone wanting to use the software must pay a fee to the tech company.

However, despite the loss to some consumers due to the new fees attached for using the software, paying customers have much stronger grounds for demanding promised improvements and upgrades, including the threat of legal action.  Thus, there is an economic trade-off between free access and ownership in terms of performance: free-access has lower costs but lower performance.