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Kevin Grier, the sufferable half of Kids Prefer Cheese, writes this about AirBNB:

I used to think AirBNB was cool, but now that Thomas Friedman has slurped it in the Times, I’m not so sure. One interesting thing in the piece was how the AirBNB founder confuses his company’s revenue with new economic activity.

Surely most of AIRBNB’s revenues are actually just diversion, no? I’d guess that at least 75% of their revenue is just diverted from hotel/motel revenue.

This is a common mistake. “look how much NAFTA increased trade”, “Look how much the new stadium will boost the local economy” are examples of this kind of erroneous thinking.

Creation vs. diversion is an important and often overlooked distinction.

I just had a great stay in an AirBNB property in Brooklyn, but the Staten Island Hilton Garden Inn lost the revenue that AirBNB generated.

He’s right about Tom Friedman, of course, but wrong about everything else. But wrong for interesting reasons!

The first, and simple reason, is that on the margins AirBNB, by creating cheaper, unique, higher-quality, or differently-located lodging options, may result in more overall travel. I may choose to take that why-the-heck-not weekend trip to FunTown if I know I can book a super-cheap night in someone’s apartment, or stay in the cool gentrifying neighborhood that doesn’t have any formal hotels.

Secondly, and more importantly, it is certainly the case that AirBNB is more often than not “diverting” trips that would have otherwise occurred in hotels. But that doesn’t mean it’s not creating new economic activity!

A house or apartment is capital, a machine that provides a flow of services, primarily “comfortable shelter.” When you own a house, you can choose to consume those services however you want – entirely for yourself, rent them out to others, occasionally donate a share of those services to friends or relatives (for example, my in-laws just stayed with us the past week, and next week a friend is staying with us). However, until recently, was difficult and uneconomical to rent out one’s residence for simply a day or weekend or week because of issues relating to information, trust, payment mechanisms, and insurance.

But these are all problems that AirBNB, a new technology, has effectively and efficiently solved, making renting out a portion or the whole of one’s home like a hotel or B&B go from “extremely challenging” to “extremely easy.” This makes houses more valuable. To quote the master, Paul Romer:

Economic growth occurs whenever people take resources and rearrange them in ways that make them more valuable. A useful metaphor for production in an economy comes from the kitchen. To create valuable final products, we mix inexpensive ingredients together according to a recipe. The cooking one can do is limited by the supply of ingredients, and most cooking in the economy produces undesirable side effects. If economic growth could be achieved only by doing more and more of the same kind of cooking, we would eventually run out of raw materials and suffer from unacceptable levels of pollution and nuisance. Human history teaches us, however, that economic growth springs from better recipes, not just from more cooking. New recipes generally produce fewer unpleasant side effects and generate more economic value per unit of raw material.

Basically, the combination of AirBNB + house = hotel is a new recipe that makes existing resources more valuable than they once were. If AirBNB really takes off, what we’ll see is that, as more people elect to take trips and stay in people’s homes (as my wife and I have done before and will do again, thanks to AirBNB) the existing stock of homes become more valuable, there will be substantially increased efficiency in the hospitality industry and there will be more efficiency in urban land use since the hotel-to-overnight-stay ratio will decline and thus valuable land downtown can be used for other purposes, like offices, residences, entertainment or commerce.

I’m not a shill for AirBNB, but it’s a great example of how the combination of information exponentiation and aggregation economies of scale that the internet enables can substantially increase economic growth and human welfare by making all the stuff we already had more valuable. My wife and I got an espresso maker on Freecycle, so we didn’t buy one. We bought something else instead (probably a couple of board games). So in one sense that was just consumption diverted from one thing to another, but comparing the equilibria that’s clearly a net increase for human welfare. In the pre-internet days, that espresso maker goes to a landfill. Instead, it goes to us. So the original owners are unaffected, the public waste burden is reduced, and we get the espresso maker we wanted and other stuff. Someone else went on Craigslist and bought a board game for $5 that cost $60 new, and used the savings to help buy a new espresso maker. It’s all about increasing efficiency, and just because it doesn’t always increase GDP doesn’t mean it doesn’t increase welfare and, eventually, growth.

Spark Letterpress Pic

I linked to a bunch of stuff lately talking about how small businesses were over-rated and that consumers benefit when more efficient firms can expand and replace their less efficient competitors. True! Yet when firms become more efficient it often means they can do more with less, and specifically less labor which means there could be fewer consumers to take advantage of the efficiencies. I wrote about the potentially horrific endgame of this scenario as well. But I think there is a more complex third way to all this where this all plays out in different directions, as I learned this weekend when my fiancée and I went searching for wedding invitations.
First we went to a larger store in downtown DC. That store showed us a brochure of invitations made by a very efficient firm that allows for some customization within their constraints, and apparently have some sort of agreement to license with vendors. This store, though, didn’t offer any input or very good service, and we didn’t like them.

Then we went to another, smaller store further from that seemed to be primarily the work of one or a handful of people. And the individual we met there showed us the same brochures from the same firm to which the printing could be outsourced! But this individual was much more attentive and engaged then the clerk at the large store, and was much more involved in our ideas and interested in using the capacity of the larger printing firm but not their pre-made designs.

Lastly we met an independent designer in a coffee shop in Old Town Alexandria who did everything from scratch with equipment she purchased herself, and her work was awesome and she was also very engaged with our ideas and questions.

So what we have here, I think, is multiple paths to the way that big, efficient firms can empower smaller, more independent firms. If a centralized firm is doing the grunt work of actually printing the designs, then the economies of scale that often make bigger, more efficient firms more cost-effective even while they are drained of unique personality don’t really apply, since the big store and the little store both get to take equal advantage of those economies of scale. So why would we ever go with the big store that has worse service and no constructive creative input?

Also, to speculate, the totally independent designer was probably able to invest in her own letterpress equipment because the cost of the equipment has dropped drastically relatively recently due to opening new labor markets and replacing human labor with mechanical labor.

So ideas about how to empower small and independent businesses:

· Allow more efficient firms to gobble their competitors (without forming monopolies), thus freeing resources for other pursuits.

· Try to provide things that robots or people very far away can’t provide, like creativity or personalized and engaged service.

· Allow the surplus of cheaper and cheaper goods to not only allow people to collect small benefits from consumption but also to allow them to control the means of production on a smaller scale so they can compete with larger firms.

· Contracting, licensing, and franchising can be a way to combine the economies of scale that only larger firms can achieve with the benefits of smaller firms.

Of course, as long as we remain mired in recession we won’t be able to take full advantage of innovation and efficiencies – for example, I can’t find a link, but I just heard on NPR the other day that a million marriages essentially didn’t happen due to the recession. This obviously represents lots of lost economic activity, as well as lost happiness.

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