Searching For the Economics of Software!

A few years ago my primary role was, and still is, an Enterprise Technology Strategist. For the longest time, my role could be summarized in achieving one main objective: To economically justify the software expenditure decisions by my clients both in the Public and Private sector to modernize their IT environments and become more efficient. This article briefly surveys the literature on the Economics of Software, the challenge it faces and why it’s so important for businesses to pay attention to this important topic and the sad state the industry in in today.

What’s my motive in writing such an article? Well, one day I stumbled upon a book, a text book, The Economics of Strategy by  David Besankoet al. I enjoyed the book so much, and at that point have read so many books on the same topic that I decided to pursue a Master’s Degree in Economics. The reasoning (after much research) was that the science of Economics provided a rich base of analytical frameworks, proven theories, and plentiful of ideas which could prove very useful when applied in the comparatively fairly young industry of software.

Think about this for a minute: In the software industry we borrow so many euphemisms, concepts and terms from other industries, such as construction, electrical engineering, math, physics, philosophy, just to name a few, so why not Economics?. So I set out on a mission to find out just how prevalent is the computer science and economics cross-discipline and if I pursue one, would I be rewarded?! I was surprised to find so few examples and academic scholars who are active in this area. I found more economists trying to apply their science to technology and a lot less technologists who were doing the opposite.

The one high profile company who has formalized such role is Google. Google is the only company I found to have a Chief Economics Officer, Mr. Hal R. Varian. Mr. Varian is truly a luminary when it comes to combining the two sciences and synthesizing theories, such as auction theories, applied to Google Ads and the auctioning mechanism. I was awestruck by the precision of the science behind what seems like something mundane! Mr. Varian along with Mr. Joseph Farrell and Mr. Carl Shapiro  published a very important book, Information Rules: A Strategic Guide to the Network Economy followed by an invaluable book, The Economics of Information Technology: An Introduction. Both books, the more recent of which, provide the bridge between the two disciplines. There are of course other academicians worthy of mention here for their positive contributions and ensuring this cross-disciplinary area remains active, Barry W. BoehmErik BrynjolfssonShawn ButlerKevin Sullivan and plenty others whom I simply did not keep up with or their names escape me for which I apologize. Worthy of mention is the Economics-Driven Software Engineering Research or EDSER conference which takes place annually I believe and not to dismiss the great contributions the ACM community makes.

Anyway, once I made the decision to finding an accredited online University (I found two in the entire US in 2009!), and one in the UK (University of Strathclyde) which holds “triple accreditation” a true rarity, I settled on Strathclyde, applied, got accepted and went on my wonderful Economics learning journey. Some of the areas we covered were conventional economics, while others were more specialized such as Regulations, Technology, Healthcare economics, Industrial Organization and so forth. It was a truly mind opening experience (and a tough one considering that I have been out of school for over 20 years!). Finally, I emerged from my studies knowing that my approach to solving problems and tackling technology strategy challenges will never be the same way ever again!

Armed with this new knowledge, as I neared graduation, I did what most new grads do, tried to capitalize or monetize my self-financed Masters’ Degree. I spoke to many employers, including those I was working for at the time period 2010-2014 and reality was shocking! No one I asked from HR to the highest level of the company’s brain trust envisioned how such a cross-disciplinary approach combining the two sciences, Computer and Economics, would be of practical use! Simple stated, no one thought about it!! It was a shock to my system. All a Business person or a technologist or a Marketer in the IT industry have to do is to look at the Table of Content of the book Messrs. Varian, Farrell and Shapiro to see how this cross-breed of sciences is not just relevant but its absence from the corporate arsenal could be and is negatively impacting the business’s bottom and top lines. Why? Because most decisions are being made without a solid data foundation and theory to support them.

A case in point is what I chose for my thesis: I asked a deceivingly simple yet powerful question: How does software expenditure affect the size of the firm? Using Transaction Costs Economics, a branch of economic theory concerned with the analysis of the existence of the firm in relationship to others through a continuum of transactions, along with data from several sources as well as real-life examples of large-scale automation projects I delivered in the past, the results are astonishing.

The “paper argues that at its core…the use of software inside the firm…is to minimize friction costs both within and outside the firm in both governance modes such as hierarchical and market transactions…for the sole purpose of lowering…transaction costs. In other words application such as payroll applications …and EDI systems software’s sole aim is to….automate the firm business process causing transaction costs to drop…. thus impacting the size and organization of the firm and the industry where it operates….”

Only the science of economics when applied correctly to software problems can yield such stimulating and exciting results and guides the conversation through the use of a common and standardized paradigm which could be easily adopted for the software industry.

In summary, whether you are looking for a practical R&D framework to manage your business’s innovation process or simply trying to determine a price point for a new product package or an SaaS-based feature, or just want to find out where your product/business ranks in the marketplace, you are doing your business and clients a disservice by not using the rich foundation of the Science of Economics to apply it to your technology challenges and discover truly innovative and novel solutions to today’s problems.

It would be great if you can share your perspective, experiences and feedback on this topic. It’s been a passion of mine for quite some time now and any contribution would be greatly appreciated.

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