The Hard Facts About the Second Life® Economy

Vacant Lots in Uglyville, SL MainlandSupply and demand!

This is such a simple rule… but so often misinterpreted. Or rather, people tend to interpret it according to their personal preferences (in the sense of what benefits them at the moment) and disregard the main rule of Economics when it doesn’t please them.

Join me in a journey across misinformation spread often around the Second Life® world, which I hopefully will attempt to debunk.

What people are complaining about

Look around and talk to your friends, specially the ones that are either content creators or landowners/landlords. The mantra so often repeated is that “nobody is buying anything”, or that “people are not buying/renting land anymore”, or the unavoidable: “people are leaving SL”.

If people are slighty more introspective about SL, they’ll say something different: “SL is not growing so much these days”. That’s a hint from a slightly different direction. We’ll see that in a moment.

But this is the overall, general feeling you get when roaming across the grid, bumping into strangers or old acquaintances — be they veterans of SL, former workers of Multiverse Development Companies (out of work since their companies failed to employ them on multi-million projects during the glorious days of 2007), illustrious thinkers and opinion-makers, SL bloggers or journalists, or just irregular users of SL, logging in every month or two and emitting opinions on what they hear and see.

In-world experts and journalists like Massively’s Tateru Nino also tended to flood the media with lukewarm articles about the lack of growth, fuelling a depressive outlook for the near future of SL. The optimists around us prefer to point at the usual curves and charts and shrug it off as a seasonal issue — everybody knows that SL grows much slower during the summer and that in-world sales have a boost at Christmas, something that content creators happily forget every January when they announce “massive drops in item sales”. But still, with the real world’s economy at a crossroads with big question marks looming over its incertain outcome, Second Life seems to imitate — once more — the pessimism of real life. “Economic cycles” are replaced by “doomsday predictions” every time the cycle is at the lowest, specially when trend analysts look at short-term data and try to predict the decades ahead. But no matter how much we shrug the numbers off, the fact is that land is left vacant on the mainland; projects shut down with lack of attendance; content creators are losing sales and shrinking their operations or even completely going away from SL; even RL metaverse development companies are closing up shop in SL and moving to develop Flash games or doing plain old Web sites instead.

We all have heard those stories from close friends, and they have become more numerous than usual. It’s hard to dismiss hard facts when everybody is telling the same thing.

There is obviously a typical psychological issue at work here. If you live in a fancy neighbourhood, but suddenly see people leaving, shopowners closing down, criminality rising, streets remaining unkempt as public funding to cover potholes is not enough, and friends and neighbours telling you that the imminent collapse of the neighbourhood is due and you should better pack and go, what should you think? You can look around yourself and see it’s all true: people are really leaving; shops are really closing. You’d be pressed to think that the end is, after all, nearby, and move along as well — specially if suddenly you’re out of a job because the local factory employing you shuts down their operations and move to China.

We humans tend to extrapolate global issues based on parochial (ie. local) issues. That’s normal, since our brains are built to deal with a “tribal” concept: if my tribe is hurting due to lack of food, I should better move it elsewhere. So we’re pretty good at evaluating what’s bad in our neighbourhood and deal with it.

It’s far harder to understand the big picture. The way we’re wired makes us jump to conclusions based on what we look and feel around our immediate neighbourhood, because that’s what we care about. Taking it into SL, if your community’s leader suddenly announces that she cannot pay the tier for the island you use and you have to leave — as have all your friends — you don’t really care if Anshe Chung or Azure Islands or SLNE or Caledon are making huge profits like never before. In fact, when was the last time you heard about any of those huge mega-communities? Probably — and this is also typical of the way people think — you imagine that they were the first to disappear, and that your tiny one-island-community was the last bastion of fun and entertainment in SL. So when your community goes, it’s only rational (and most definitely emotional!) to imagine that there is nothing left for you to do on SL.

There is also another subtle thing at work in our sub-conscience. If you’ve been long enough in SL, you’ve have gathered a long list of places and people you like to visit and meet with. You might never have appreciated the ratio of new places/people you have acquired in your past SL experience (usually it’s a hugely exponential curve at the beginning of your Second Life — everything is new! — and a healthy grow even after that, since more people will lead to meeting more people and visiting more places and meeting even more people… so it’s always exponential, even if over time it tends to be a very flat exponential curve). However, you’ll immediately feel the loss of a good friend that suddenly leaves; or a shop that suddenly announces a “last garage sale before shutting down”. How many of you have gone “No way these guys are gone from SL, they have been here forever!” and shook your heads as you took it at another sign of the dire times that SL is facing?

If these events occur over a long period of time, you tend to shrug them off (there are always new people to visit and new places to find). But if in a single week — or even day! — you get three or four comments that “this person left SL” or “this shop closed down in SL” or “I’m unable to sell my plot”, that will make you think twice. A “sudden rush” of bad news seem to be a sign that things are going terribly wrong, specially if there is a very short period of time between them. It’s typical of our behaviour.

Add to that the snowball effect of telling all your friends about the bad news — and finding out that they have “sudden bad news” to tell about, too! This becomes an exponential curve of bad news, too. One that might be so intense and high as the one of new experiences. Put it into another way: if every day in SL you meet on average one new person and visit a new place, if you suddenly, in a day, get the news that five people left SL and five shops have closed in SL, the perception you have is that the rate of SL abandonment is far higher than the rate of growth. Notice that for this to be felt even more it helps if you don’t get the news directly, but from your friends — by sharing conversations which might go like this:

“Oh, have you heard? Shop A has closed down, and Avatar X left SL in disgust. Poor X! She was losing so much money.”

“No way! X too? I’ve just come from Shop B and Avatar Y has the plot for sale! Fat chance, though, the way the land business is, she won’t make a good deal. I hope she doesn’t lose too much money though”

“Oh no, Shop B is gone? Gosh, I loved those boots; the best ever, since Shop C closed down last week…”

“Wait, do you mean it? Shop C has closed? I had no idea! Why, it was last month when I presented Avatar Z with a nice gift, they had such lovely cobra-skin designs…”

“What, haven’t you heard? Z has gone, too! She had this tiny live music bar and it simply didn’t work out for her…”

So in five minutes you get the sudden impression that everybody in SL is leaving and closing shop. Naturally… this will get passed on to your closest friends, and from there, to their own friends. Very soon this spreads out, and each time, people will add one or two examples of people who left or shops which closed down or plots left unsold for LL to claim back.

And very often these come to the attention of the media as well. Fashionista blogs, with their hundred thousand readers, announce to all of them when a shop closes down. Economy-related articles announce yet another community that fails to pay for tier, leaving their tenants without a place to call home. And then the ones reading these articles propagate the news at even a faster pace: “Have you read about it on Blog D? Wow, things must be going very bad, everybody is leaving — imagine, even Shop E closed down, and I haven’t even noticed that!”

Spreading memes that way — the meme that SL is at its end — is quite powerful and quick. It also reaches beyond the “usual suspects” — the “magic hundred thousand”, my bold claim of the people in SL that actually have an impact in the economy. I’ll explain that theory in a bit, but for now, the point here is to understand a few basic premises:

  • Shops are closing down, plots are left unsold, people are leaving SL. These are all hard facts. They’re easily validated: just travel to old spots where shops used to be or people used to meet, and they’re not there. It’s not “badmouthing SL” or “being a pessimist”. People are really leaving; shops are really closing. This means that there is proof (ie. facts) of all these things happening in SL
  • Memes travel fast. While most people do not read blogs or e-zines or even RL media — and so usually have no clue of what is being said in those — they are aware of the “stalling of the economy” and “of many people leaving”. They have friends who really left. They have friends of friends who told them they left SL. So they’re aware, even if they might not be informed.
  • SL is hardly “a community of residents”, but several, interlocked, overlapped communities. We tend to extrapolate towards the global SL what happens on our parochial community. If everybody is talking about the downfall of SL in our community, we believe the same to be happening on any other community — specially if we belong to more than one (which is the most likely scenario), and we see people leaving on the other communities, too. That’s just the way we humans think, we cannot change it.

All the above, of course, can be supplemented with graphs and charts and statistics, either officially published, or retrieved by yourself (traffic measures or other metrics-retrieval mechanism). They tend to support the observed facts.

“It’s not as good as it used to be”

When content creators complain in January about lack of sales, or landowners grumble about “a bad Summer” when plots are left vacant, knowledgeable residents shrug these off as being merely seasonal variations — they know it has always been the case. But naturally enough, the whole perception changes if you happen to time your SL business launch on the wrong moment!

So let’s see for a moment two typical examples:

Scenario #1 — Fashion Princess

Imagine that you’re a RL designer, with lots of talent, creativity, and skills with Photoshop or a similar product. You see the lovely designs being launched every day in SL by the dozens of thousands and tell to yourself: “I can do this too!” Soon you start assembling your ideas, put them to work, and sometime in October, you open up a shop with your new collection.

Spreading like wildfire through your friends, the launch of a new fashion designer in SL catches the attention of the ever watchful media. A fashionista blogger writes about your new shop; Second Style even might feature one or two of your outfits. Suddenly it’s November, and everybody seems to be buying your content! Very happily, you expand your shop, start using Xstreet SL (formerly known as SL Exchange) or OnRez Shop, buy some new plots for more shops, and the money keeps flowing in.

By December, with Christmas looming ahead, you decide to risk even more. Sales are so good now that you buy your own sim for your shop, launch a huge party for all your friends, get one of the top-notch event hosters to do a fashion show on the catwalk, release a whole new “Winter Collection”, and enjoy the success of having your items on the homepage of Second Style for a few days. That’s more than enough: on December you surpass all your expectations, get an immediate return on the invested land, and start considering to go full-time on your SL fashion designer “job”. Things look good.

Then sales in January get cut by a third, without any explanation. Fashionista blogs still talk about you. Your products are still some of the best. People still come over to your shops, but not as often as you’d like. Managing tier becomes a problem after another month, and you decide to step back from SL: selling your island, keeping the scattered shops, trying to see if you can survive on that. Clearly you won’t leave your day job for SL any more; you’ll be more than happy if you can pay for all the costs.

And by March you simply give up. So many people left SL, your friends tell you. No wonder nobody is buying your products any more. So, six months after you’ve started your fantastic business, you think it was “too good to be true” and simply close your shop, offer all content for free, and give up on doing business in SL. But you also make sure that everybody knows why: it wasn’t the drama or the lack of creativity, but just “the collapse of the SL economy in the past months”.

People will write about your meteoric rise and sudden downfall. They will blame SL, of course; your work was superb, your talent unique, your products of exquisite quality. So the problem is that not enough people bought your products. Some people will shift the blame on CopyBot (with which you will naturally agree). But mostly they will say that SL has so little people these days that no business is safe from collapsing.

Scenario #2 — Community baroness

On this scenario, you log in to SL in, say, March. By sheer luck, you avoid the drama and manage to find a nice, peaceful community, perhaps encroached on the mainland with happy neighbours. Being naturally talkative and a good organiser, you suggest them to do a party, and learn that you can hire DJs to liven up the atmosphere. Things go very well! Your friends and neighbours love the idea, and wish that you do more of the same — which you’re happy to oblige. You might be a newbie in SL, but everybody loves your parties, your communication skills, the way you organise things so well, and your friendly and charismatic outlook to live.

As ever so often in SL, some problems happen around your neighbourhood. Either griefers or other drama-lovers start to bother the community. It becomes a pain just to deal with it; Linden Lab obviously ignores Abuse Reports, as they almost always will do. It’s tiring. The solution seems to be to get out of the current land plots and start your own community.

Deciding to invest on your own private sim, you quickly set it up for your friends and neighbours. You manage to attract volunteers to build some basic facilities, then you all go and shop for extra content. Full of creative ideas, you remember what was wrong on your “old” neighbourhood: the dance floor was too tiny, you had no space for the romantic park you always wished to have, and there was an ugly shop next to your plot — but which had lovely products inside. So you design things from scratch, and with a little persuading, even get the old shop owner to move to “your” sim instead.

Things start to get interesting. At the beginning, you wouldn’t earn enough from rents to pay for tier, but that was all right, since you were not “in for the money”, just to create a new, friendly community with your former neighbours. But your parties and events are really good and attract new visitors. They ask for renting plots with you. An SL artist asks if they can do an exhibit there. Your now familiar DJ has a friend who sings lovely Celtic songs live, and he persuades you that you should enter the live music business, since you have such a cool community and a natural talent to organise those things. Soon there is no choice but to add a few extra sims — you never thought things could go so well! And by late June you’re surprised — rentals are paying off, and you don’t need to put any extra money to pay for tier. Instead, in spite of the ultra-low prices you’ve always charged to your friends, the business is really paying for itself. You buy another set of sims, thinking to develop them over the summer, and come up with something new and unexpected.

Then your DJ says he’ll be off during vacations, and apologises but will only manage to get back in September. You shrug it off; there are other DJs, or other singers. Right now, your focus is to handle those new sims and get them ready quickly. Your builders, however — former neighbours as well — are all away. A few are university students, and are busy with their exams and yearly assignments. A lot are mothers travelling with their kids for the summer. So you have no choice but to hire different people — “friends of friends”; with whom you had no contact before. At first it works well, they build some amazingly creative things… just to leave them undone and disappear without a trace. What’s going on? Perhaps you’re paying them too little? But they now refuse to reply to your IMs and emails, and you imagine that they have abandoned SL entirely.

You start to get worried. It’s now July, and you wished to launch a July 4th big party for the Americans in the community. But your DJ and singers are away; you can’t get replacements; and the nice Capitol reconstruction is just a third done, and none of the builders seem to be available. Your best friends, who might even have some building talent, excuse themselves — “we’re going home for the holiday, but good luck with the event! We’ll catch up afterwards”.

The event is a fiasco, and you know it. Worse than that, people that you’ve known for months now suddenly ‘forgot’ to pay for tier. That’s ok, since you’re not really in for the money, but… there are more expenses these days than you thought. After some talks with a few friends, you consider advertising — on Search, Classifieds, on SL-related blogs, even on “ad farms”. Another expense that seems to be worthless: one or two newbies pop up during the American holiday, but they don’t remain around. Everybody seems to love what you’re doing, but they don’t stay.

When finally getting a DJ to play at a “Midsummer Night” party, the disappointment grows. The DJ accepts to work for tips only, and having heard about your reputation on throwing out large parties, he’s confident he can make a nice income that way. But the party is another fiasco: besides a handful of faithful regulars, nobody else comes around. You weep in frustration! What’s going on with SL these days?

As summer progresses, it’s clear that the new sims will never be ready. And, sincerely, are they worth it? Half of the plots are empty all the time, and you never heard back from the tenants. And as you expect, by the end of the month, they don’t pay a thing. Suddenly “not being in for the money” makes you wonder if you haven’t spent too much already in a community that is slowly dying. After some thinking, you put up the new sims for sale — still unbuilt — and hope that one of the big landbarons pick it up cheap. That never happens. They offer you ridiculously low prices and shrug it off saying that the land market is so low that they aren’t investing much in SL these days.

It seems that the days of glory and fun in SL are finally over. When September comes, you give it up. You can still have fun in SL with the handful of very faithful friends you’ve got in SL (and yes, they come back from their holidays and are as frustrated as you are). So it’s time to give up on the fantastic community project and shake your head at SL. People are leaving so fast that no project will remain alive for long these days. It’s better to forget the bold plans and have a tiny plot somewhere in the mainland, don’t spend anything over a few dollars per month — and still enjoy it that way, without the burden of managing a whole community which, frankly, is not worth your time or your money.

So what went wrong on the above scenarios? In both cases I assume the best possible intentions: people who are charismatic, enthusiastic, optimistic, good planners and organisers, definitely drama-free, caring much more about other people and having fun than making “lots of money” — all attributes that tend to make residents gravitate to them. They’re loved by their friends and community; they’re praised by everybody else; they’re seen as good, positive examples about how SL ought to be. And they both missed the point: doing business in SL is hard, but not for the reasons they thought.

Both were, of course, hit by seasonal changes (which is the typical scenario; ask around your friends, you’ll see that most community projects will close down after the summer, while most content creators will shutdown their business in the early spring. There are, naturally, exceptions, of course). And this was interpreted as “SL’s upcoming downfall” with hordes of people leaving, so it was better to pack and go before losing more time and money on SL.

But “hordes of people” are not leaving.

If we can believe Tateru Nino’s analysis of SL’s statistics (she usually is quite correct in those), there is not much growth. The nice graphic illustrating her article is misleading — it shows a huge growth during the 2006-2007 years, to fall “slightly under the curve” in recent months. Although Tateru labels her chart, most people — and by this I mean journalists and bloggers — tend to interpret things wrongly. Her chart shows percentage of relative growth and not absolute numbers. This basically means that if you got 150 new users per day in mid-2004, when you had just 15.000 residents, that would be a growth of the user base 1% per day — a huge exponential growth. These days, you get an average of 10.000 new users per day, every day. This means that the whole population of early 2004 would be joining up for SL in just 24 hours!

However, relatively speaking, that’s just a growth of 0.066% per day (since we currently have about 15 million registered users), which is rather unimpressive — a growth fifteen times slower than in 2004!

What this means is that if you draw a curve representing the relative growth of Second Life in mid-2008, you’ll have an angle fifteen times more shallow than in mid-2004. But that’s not really “worrying”! It just means that, as more and more residents join, and the pace of subscription stays about the same (since late 2006 it has always been 10-15,000 new users per day, it hasn’t change a lot), the rate of growth will be smaller and smaller.

Where do all these people go? If 300 to 500 thousand new users join SL every month (!), where are they? Aren’t these all fake accounts? (A frequent claim, but obviously false) Or do people just register once and never come back again? (A claim that is better backed up by LL’s official statistics, since the number of unique residents logging in per week rarely goes over half a million, and that has been the case since 2006 as well) Still, they have to go somewhere first, haven’t they?

Where are they?

Again, the ever-observant Tateru Nino provides the explanation. Second Life’s landmass is huge — compared to the number of people simultaneously logged in at the same time. She goes through the numbers showing why Second Life’s population density is so low and provides some thoughts on why that happens: purely psychological profiling shows that most SL residents may simply dislike being in very busy and crowded areas, and prefer to spread around. The result is simple: on 30,000 or so regions you get at most 70,000 residents simultaneously, or little over an average of 2 per region. That means that if you get a 100-resident-event happening on part of the grid, 50 regions will, on average, be empty. Psychologically what this shows is that those 70,000 residents tend to be clumped on a few dozens of groups of 10-100 people, spread across the world, and that the vast majority of Second Life will be, well, mostly empty.

There is simply no way you can get a “feeling” of all those 10,000 new users coming in to SL every day. They aren’t a crowd. They are completely missed, except by a few who might be watching LL’s infohubs — but there are so many of those that you don’t get the feeling that a new avatar is joining SL every seven seconds. In the olden days when you just had a single welcome area and got a newbie perhaps every 10-15 minutes or so, it seemed that SL was positively growing like crazy, since you barely managed to greet them, set them up, exchange a few tips, and a new one was dropping in-world next. These days you would have to be very very lucky to find where a newbie drops in-world among 30,000 possible locations.

So new users are, indeed, entering SL, at a furiously fast-paced rate that oldbies from the golden days could not possible imagine. But they all avoid being spotted in-world. A tiny minority will be around for a few hours. That’s the attention span you need to catch their attention.

The economics of exponential growth

We come now to one of the biggest issues about Linden Lab’s business model, which, not surprisingly, shapes the way residents also set up their own businesses. And you will quickly understand why things all of a sudden look so desperate!

Why have people been worrying about exponential growth since the dawn of SL? Why is Tateru Nino still worried about the low relative growth per month?

To understand this, we’ll have to take a look at two different business models that everybody will understand, and contrast it to Linden Lab’s own business model. Let’s see cars and deskjet printers.

Cars are expensive, luxury items. There is a high cost in manufacturing them, many pieces of the cars are processed by Centerless Grinding and there is a high risk of managing a car stand with Honest Joe trying to get you a good deal. Honest Joe has some running costs — renting the stand’s office space, managing bureaucracy, paying taxes, and so forth. He also needs to pay for the car upfront out of his pocket, and sells it to the client, hopefully with a margin.

Once the client goes out of his stand, however, he’ll not make any more money out of that client — until possibly they come back after a few years for a new car. So there is no much point in establishing a long-term client relationship (which explains why Honest Joe can be anything but honest — the probability of the client returning to make a difference to his sales is very low, and not worth considering). Many stands also have garages, and the client might come back to change the oil or whatever goes behind doors when you take your car back to get an overhaul. But although the service provided there is highly profitable (spare parts are cheap compared to the labour charged to the client), Honest Joe will make far more money selling cars than servicing them.

So Honest Joe is mostly focused on getting new clients, all the time. This is his core business: establish a reputation and make sure that enough new clients come to his stand and regularly buy cars so that he can have a good income on average. If he fails to attract new clients, he cannot wait for the old, faithful ones to come back “soon” — they’ll take years, not months — and so they cannot rely upon them to cover his expenses. Similarly, although providing car service is highly profitable, he cannot make a living from it. It might help to pay a phone bill or two, but his garage mechanics expect payment too. So his risk is to fail to attract new clients.

Now, all Honest Joes in the neighbourhood aggressively compete in the same business, and they have access to a limited, not-expanding customer base. What this mostly means is that car sales are local — on average, you aren’t going to travel far to buy a new car. It’s not something you’ll order via eBay (although you can certainly do that!). So it means that in a community — a town, a city, a county — there is a limit to how many cars you can sell per month. You can figure out averages based on how many people live there, how much money they earn, and how often they replace their cars. Accounting for unpredictable issues (like gas prices rising dramatically, new green legislation, or overall recession), and looking how many competitors are already in an area, a car sales manager can pretty much estimate how many cars they can possibly sell in a month or in a year. Census estimates can also give you an idea on how many new families are arriving — or leaving — your community every year. Possibly this is, say, something between 1-10% per year, not more. New families mean new potential clients. But by far and large, the existing community will be the primary target for sales.

Suppose that all of a sudden everybody is opening up their car stands, tired of Honest Joe’s incompetence, arrogance, and blatant lies. Every tiny little plot of land is used up by a car dealer. What happens?

Since the number of potential clients doesn’t grow, and unless suddenly everybody in the neighbourhood wins the lottery, the number of total cars sold in a month will, on average, not rise. Instead, each dealer will sell less cars, as clients go to the competition instead. Honest Joe, after living on a nice income by being one of the few dealers in town, is suddenly surrounded by aggressive competitors. Suddenly people stop buying his cars. He has to shut down his stand and go away (perhaps to another neighbourhood still not infested with car dealers). The alternative — that suddenly there is a massive influx of new families needing cars — is simply not realistic. He would have a choice at first: dropping prices to see if he could attract more clients that way. But there is a limit on how much he can play around with the price (its elasticity), since, after all, a car costs a certain amount when it comes out of the factory, and you cannot go lower than that.

This is, strictly speaking, basic economics. When supply is far above demand (ie. too many car dealers for the same number of families in the neighbourhood), and the price cannot be changed much (its’s not elastic), suppliers will fail to get clients, and they will go broke and close shop — or be forced to move to other markets instead.

Nothing special here — we all learned this at school 🙂

Let’s see how deskjet printers work. Their business model is quite more curious. A deskjet printer can be sold for, say, US$30 or 40 these days. There is no way this is the real cost for manufacturing it, much less selling it for a profit after a long chain of intermediaries. But that’s no problem for the deskjet printer company. They’re actually not in the business of selling printers. No, what they sell is ink!

Ink is insanely cheap to produce. I’ve read some fascinating numbers — like “a few cents” for tons of ink. But they are quite expensive when packaged as printer cartridges. In fact, as everyone knows, after printing a few thousand pages with your printer, you have spent way more in ink than on your printer! Packaged printer ink is actually one of the most expensive items on the planet, if you take a look at its price-per-weight-unit. It’s more expensive than gold, diamonds, or anything else you can care to mention.

So the industry has moved very cleverly from selling expensive printers (with little margin) and keeping ink costs low to a different model, where printers are pretty much dumped on the market (sold at manufacturing costs or even below), but selling inexpensive ink at insanely huge profit margins is their core business.

What is so good about this model? Once you’ve grabbed a client for your brand, they will continue to provide you with a regular income for the rest of their lives. They will always need to buy more ink, even if they never come back for a new printer (and to force them to do so, it’s easy: launch a new model which uses an incompatible cartridge, so they’ll have to come back when they can’t find any more ink cartridges for their old printer…). So even if you exhaust the market (ie. there are no more people around to buy more new printers), you’ll still get a revenue from them as they continue to buy ink. More fascinating is the concept that even on a saturated market (ie. one where you’re not making any more sales), your income actually grows from continued ink sales (since the profit margins are staggeringly higher) in that same area. Put into other words, if HP could pull it off, they would just sell ink and never launch a new printer in the market, because you can always sell more ink to the same people, while printers require innovation, research, concept, design, production, manufacturing, distribution, marketing, and promotion. Ink is just ink.

Using the car analogy, Honest Joe would make much more of a profit if, in a saturated market, he’d just sell gas (switching his core business) instead of new cars. Alas, gas has also relatively low margins, unlike ink 🙂 But it would be a much better business for him in a saturated market. Also, gas doesn’t require promotion and marketing and a sales pitch: to use a car you need gas, like you need ink to use a printer.

Both products and business models actually enjoy a similarity. They’re not dependent on how the market grows or expands. This basically mean that Honest Joe can continue his sales for all his life, assuming nothing drastic happens to the neighbourhood he lives in. It’ll grow slowly over time — a few percent per year or decade — but Honest Joe will not lose money because of that. Of course, if suddenly everybody starts moving into your neighbourhood, Honest Joe will have an advantage: he’ll sell more cars. If suddenly everybody starts opening their car stands to compete with Honest Joe, while the population grows exponentially, everybody will get new customers and make profits.

So during a period of exponential growth, the market grows, thus allowing more people to supply that market — enjoying the comforts of expanding demand (more clients willing to buy cars). Exponential growth can be hard to manage (Honest Joe might need to hire more car dealers if he can’t take so many calls in a day…) and push companies to extreme limits (as management becomes a mess), but it also means that “everybody enjoys the economy boost”.

In the real world, however, this hardly happens. Neighbourhoods don’t grow exponentially, at least not since the 1850s in the Wild West or Australia.

Except, of course, for the Internet.

Linden Lab’s business model is one of the high-risk ones. It’s not because of competition (there isn’t really any other virtual world with user-generated content), and not even because of technical glitches (SL has improved so much since 2004 that it could be a different product). It’s not because of bad press, or people grumbling all the time. All those factors might have just limited influence in the business by itself.

Instead, it’s because LL’s business model relies on exponential growth. Now, RL businesses never ever do that for two reasons: first, because exponential growth outside the Internet is very rare. Secondly because once the exponential growth phase is over — and normal growth steps in — the business model is not sustainable. Almost all dot-com burnouts experienced this in the flesh. They only made money while their product/service was growing from zero users to a few millions. Once it stagnated in attracting new users — they still had millions, they just didn’t get dozens of millions — their model was suddenly not working any more and they had either to change it and adapt, or simply abandon it.

What is a typical business model that is based on exponential growth? Well, almost everything that relies on startup fees to pay all running costs — while not worrying about monthly fees charged to customers (those are “niceties” to get you an extra income, but not your core business). These models forfeit long-term recurring fees (like Honest Joe, who doesn’t care about car service and repair — he still provides it, but it’s not his major source of income), keeping them low and attractive, and place their focus in attracting as many new clients as possible. New clients, like with car dealers, is all what counts.

The difference between selling cars and LL’s business model is, however, that Honest Joe can live by selling cars at a certain rate, to a population that never grows much, for years and years. He doesn’t rely on more new clients per month to make a living. All he needs is the same number of clients per month. And if you have a constant population (a fixed market), these are easy to figure out.

LL’s business model is quite different. They sell server space mostly. These days, their income comes mostly from selling new regions, not tier fees. This means that they need to attract new clients every month to buy new regions. Since SL’s landmass grows — and so does the total number of residents — LL has more running costs every month. All these residents — all 15 millions of them — don’t pay anything. Just a hundred thousand pay something. So what LL needs is to keep selling more and more regions every month, to keep up with the millions and millions that continue to grow — half a million per month — but which don’t pay anything.

This is, as history shows, the problem with the business model. It’s unimportant if SL is growing more or less over time (it’s actually growing slightly more, with some exceptions during the summer months). The question is if it expands fast enough to provide LL with new orders for private islands. And every month there have to be more orders. Basically this means that LL’s business model relies on increased sales every month to keep itself afloat. So far, they managed to survive, for far longer than most dot-com businesses in the past. And they even managed to lower prices!

You’ll also see a peculiarity of this model, which will make you suddenly realise that although we have such a high churn rate of residents (ie. a high number of people dropping out of SL), LL is not really so worried about it. LL gets a constant income from the 30,000-region-grid — from tier. But if someone goes away and leaves their land to be claimed back by Governor Linden, LL makes a profit. The best kind of user population is one where people are constantly leaving land for LL to claim back and resell as new. For LL, it’s far better to have 100 new clients every month ordering islands from them, and going away next month, and getting 100 new clients, than having 100 faithful clients paying tier every day. It’s obvious: LL makes far more from new sales than from tier. Once they have the hardware in place, setup fees are pure profit, while tier just has a slight margin due to the recurring costs. Thus, for LL, a model where they get half a million new users, but half a million old users leave SL every month, is not important. What counts is how many new islands they sell per month — and making sure that there are not more people leaving than joining SL (taking a look at the statistics, this is not likely to happen).

And here is when things start to get confusing — since everything seems to be holistically connected to everything else, and it’s hard to get the whole picture.

The Hundred Thousand And The Freebie Economy

Judging by the past performance, LL is doing well. The number of new private islands sold are “just right” for their business model. They had to shut down adding new regions to the mainland, since, according to the laws of supply and demand, when there is too much supply and little demand, the prices go down, and people were protesting. Also, LL introduces new regions on the mainland by auctioning them off wholesale on the Land Auction site, with a base price of US$1000, so if they remain unbidded for too long, LL has to take them down again. In the past few months they basically removed them from the auctions, thus effectively preventing the mainland to grow. People would have to make do with whatever parcels are still being offered on the mainland. Prices would probably rise that way, keeping the land speculators happy, but that has not happened to a significant amount. Why?

The root of Second Life’s economy really comes from the wild days of impossibly high exponential growth. With “impossibly high” I mostly mean unsustainable in the long term — there is a limit to the number of people potentially interested in Second Life. After all, it’s hard to learn, you need good quality hardware (and a lot of skill to tweak the performance on your computer), and enough time to spend. It appeals to a certain part of the overall worldwide market, but it’s not a full mainstream product — not yet. Not unlike Apple’s Macintosh computers, which are designed as a mainstream product but will only appeal to a small fraction of the overall market of computer buyers, Second Life is designed to be (or become) a mainstream product, but, at this stage, will only get a limited number of potential residents out of the 2 billion Internet users (this, hopefully, will change as SL becomes easier to use, runs on low-end hardware, and provides a more fulfilling experience — but all these things are as yet in the uncertain future). Obviously we haven’t reached that point yet — those 2 billion Internet users are not yet all aware of Second Life, after all, and this means that there is plenty of possible growth. Still, the Internet also has a limit on how many users actually will join a service. With very few exceptions (Google Search or Microsoft’s Live Search being two good exceptions), it’s very hard to go beyond 100-200 million registered users on any product on the Internet. The reason is hard to explain, but it goes deeply to the way we humans think and behave. Some of us are not wired in their brains to sign up for eBay and shop there, even if we read on magazines how cool that is. We might be aware of eBay but would never register for such a service — and much less use it. Thus, eBay has probably not more than 200 or so million users. It’s more than enough — it’s an economy with a population the size of Brazil, Indonesia, or Japan — but there will not be a day in the future where 2 billion users will register with eBay. (Even if the Internet grew to be planet-wide, ie. 6.3 billion people, this would not bring many more users to eBay; they have effectively hit the limit of “potentially interested people in the service”. They could conceivably add more users to their brand by providing different services, but not the current ones. That’s why eBay is innovating in their services as well).

For Second Life, it means there is still a lot to grow — I believe it could attract 100-150 million users as well, but not more. Right now it just has 15 millions. But… these are, as we know, registered users, not active ones.

How many active users does SL have these days? Depending on whom you ask, the answer is different, because “active user” means something different to different people. LL tends to define “someone that logs in at least in the past two months” or something like that. But that definition is just as good as any others — for example, I have accounts with Facebook, MySpace, eBay, PayPal, Flickr, YouTube, Twitter, Plurk, LinkedIn, WordPress, Plaxo, Amazon and another few hundreds where I’ve registered and that I keep reasonably updated… but I might not log in to all of them every two months. One could suggest perhaps a different definition — someone that spends, say, X dollars per month on a service (making all WoW players heavy active users!). This would make some economical sense, but still make me an active user of eBay, where I spend, on average, more money than on Second Life. Nevertheless, I log in to eBay perhaps a dozen times per year at most — but spend an average of 15 hours per week on SL. Also, one thing is “spending in-world time”. The other thing is spending time — professionally or leisurely — with issues related to SL. If we used the latter definition (one that, of course, is impossible to measure), I’d be completely out of the scale! I’m a full-time Internet user — all my time spent awake is in front of an Internet-connected computer. Almost all my leisure time is on the Internet as well — so I’d qualify at least to be a double-full-time Internet active user. But of all that time, perhaps two-thirds is spent in issues related to Second Life. When I’m logged into my company’s OpenSim grid, I’m not being counted towards “SL user hours”, but I’m certainly spending hours logged in to a SL-related ‘thing’!

So, taking the “active user concept” with a pinch of salt, I’ll stick to the official numbers — about 1.2 million active users in the past two months, or about 8% of the total number of registered users. It doesn’t seem much for an Internet service opened to the public 5 years ago.

The reality is actually a bit more tricky. What exactly are those 1.2 million users doing? One thing is certain: they aren’t shopping in SL. They’re just like page views on, say, eBay and Amazon: interesting to explain their relative popularity, but worthless in economic terms. A user that just visits but doesn’t shop counts certainly towards your running costs (a non-shopping avatar uses as much CPU power and bandwidth as a shopping one), but not towards your profit. You still have to support them, of course, because you will never know when you can turn a visitor into a consumer. This is the basic pillar of the old dot-com “New Economy” mantra: give people something for free, expect them to convert into paying customers, and go for the long tail.

In SL, at the beginning — and until early 2005 — LL had added a nice touch to things. Moving away from the traditional 7-days-trial-period-then-you-have-to-pay, they differentiated their users in two types: Basic Accounts, who would use the service for free, and get a tiny stipend (it used to be L$50/week, if they logged in that week) and Premium Accounts, paying a tiny amount of US$ per month, and getting a much larger stipend and the ability to own land.

The “stipend economy” actually kickstarted what I call the newbie exploitation economy — or, if you prefer, the “newbie tourist trap” model. Briefly explained, this meant that newbies became walking targets for residents to relieve them from their stipends. Even looking in the best flattering light, what this meant is that your success as a service provider in SL (either by selling content or land or other services) was in your ability to grab a steady influx of newbies with their L$50 stipends and put their money into good use — namely, in your pockets. To do that, people devised all sorts of cunning strategies. The most easy one for content creators was simply to forfeit innovation: you can always resell the same content every day a newbie comes in, since for them everything is new.

There were furious battles for gathering that stream of newbies, and in the olden days the winners were… Mentors and Greeters, since they were the very first residents newbies would meet anyway. It was deceptively easy to teleport them over to your shop and relieve them from their initial stipend (I think it used to be L$500 or even L$1000 at some point), and give them landmarks and group invites to make sure they’d get plenty of spamming opportunities to gently remember that your shop is awaiting them.   

Bad or wrong, the newbie exploitation economy worked wonders for the overall in-world economy. There was a regular stream of supply of available L$ that would circulate quickly. At a stage where almost all content was equally bad, newbies would buy it all. Newbie-specific products (like the very early rental facilities — they correctly figured out that newbies, as Basic Users, would look for cheaper alternatives than to go Premium and own their own land) quickly appeared, and that’s why there always was a big sub-L$50 market in SL.

Veteran Premium users quickly became rich in the process. But that’s not bad at all: by having more money, these people also had more money to spend. They were, however, reluctant to buy low-quality (“newbie quality”) items. So a new market niche was filled: the one addressing the needs of a population who would get, at that time, a L$500/week stipend. Now you understand why the next biggest market is for products in the range of L$200-500. This is what the “middle class” was willing to spend. And then, of course, you’d have a range of products which would be “luxury”. Skins is a typical example: while you might buy a pair of shoes every week, you won’t change skins so often — something that is in the price range of a month or two of stipends is quite adequate to be a “luxury item”. In the olden days, these were the products in the L$2000-5000 range.

The roots of SL’s economy go so far back that these days, although everything has changed dramatically (we’ll see how!), the price ranges are still in those bands. I haven’t done a thorough research — and “setting the price” is something quite hard to do properly! — but I still keep looking at the same old ranges for the same old types of products. Supra-luxury items — the ones above L$5000 — fall in the “once in a lifetime” category: things you’ll probably will only buy once. A typical example is, naturally, land; or the house on top of it. And perhaps a yacht or a car, if you’re not exactly a collector of those items; you might just have one of each in case you need them.

The exception to all those price ranges is for items addressing the service industry, ie. people setting up their own business in SL. These are the ones who know they need to invest first in some content, and then provide their services. So devices like club light systems or DJ tables or YouTube video projectors or even office/shop furniture can float widely above those “consumer item” prices. People setting up their clubs do not expect to pick up a prefab for L$500 and get away with it. So a new niche was explored: content creation for professional uses in SL, and these, ultimately, lead to Metaverse Development Companies, which charge RL hourly rates.

But the pyramid is still important to understand. If the vast majority of users are Basic users, you cannot have a working economy just based on products costing L$500 or more. A few content creators and land rentals will get away with it — but not all. So the largest offer of products and services would have to be on the sub-L$50 price range. Only by making sure that the vast majority (90% of all users) are able to participate in the overall economy (by consuming products they can afford), higher levels of the pyramid can be sustained. Needless to say, any efforts by LL to convert Basic Accounts into Premium Accounts would be seen as a blessing — allowing the market for higher-priced items to grow as well.

All in all, by early 2005, the economy was quite balanced that way, and it worked like a charm.

Except that in early 2005 Linden Lab cut the stipends to Basic Accounts to zero.

They still got “an initial amount”, so for a while, things were not so drastic. However, it was clear that the economy could not work any more on the assumption of a recurring income from low-stipend Basic accounts. Basic Accounts would shop — once — but never return (since they had no money left and no way to earn more). It became even more strategic to gather them as quickly as possible out of the Welcome Areas — since once you’d lost them, they’d be penniless and unable to consume any more products.

I don’t know what the best strategy would be in this case (I’m no economist!), but one thing was certain: the economy overall did not hurt much. And why? Because of exponential growth. So, although newbies would shop once and never return, there were always more newbies the next day. By assuring an ever-increasing rate of newbies per day, people would still survive under this economy model, employing hit-and-run tactics: get those newbies to come to your shop and don’t worry any more about them, there would be more tomorrow.

For land owners, however, it meant that rental services wouldn’t be so easy. But they still never felt a ‘recession’ really. After all, content creators also require shops and land for those; while the endless supply of once-rich newbies continued to flood the gates at the Welcome Area, content creators would continue to prosper and expand. This was the era of shopping malls near telehubs: land for placing shops to catch newbies was highly expensive, but worth every cent.

Linden Lab, however, continued to change the rules. Now Basic Accounts did not receive anything when starting in SL. And, to make matters worse for land owners, telehubs were totally removed. And a year later, newbies would not even come through “the” Welcome Area, but be randomly rezzed all across the mainland’s infohubs. This week LL even get rid of that: now a SLURL can be used for new user registration, and newbies can come in anywhere in SL.

But in 2006 what this meant was that newbie exploitation, as a source of regular income for content creators and land rental facilities, was basically over. New techniques had to be devised.

The Freebie Generation vs. The Hundred Thousand

Market changes, and those adapting first will be the ones reaping the benefits — even if only short term, if they happen to adopt a suicidal strategy. Nevertheless, this was exactly what happened in SL, although we are only noticing its effects in mid-2008.

Once established service and content providers in SL understood that the age of newbie exploitation was over, a new model had to be devised. The dilemma was that newbies didn’t have money, so they would be unable to spend it. So the tentative answer was to “get them some money”. Money trees, where a community (usually a business community, but not always) contributes a bit to make the newbies slightly more wealthy and allow them the joys of shopping, was one of the earliest strategies. They were often placed by shopping mall owners, desperate to make the newbies come over and spend some money. Now you could look at money trees like a type of “income tax” on mall shop owners: you’d give a bit away from your profits, and expect that they shop at your mall (since it’s nearby). While you might not get much in return — after all, your monetary contribution could be used by a newbie to buy something at the shop across the mall — it looked like it was “better than nothing” (ie. newbies not even coming to the mall at all; what was the point anyway, if they had no money to shop?). You could always hope that a few would be lured by the money trees and buy some L$ at the GOM (or later at the LindeX), or even — miraculously — became Premium Accounts and returned to shop regularly.

The strategy didn’t work well, and the reason is simple to understand: the overall money-making community in SL was unable to replace the giant mint-making machine that is Linden Lab. Put into other words, there was no way to organise things overnight so that all Basic Accounts would get a weekly stipend of L$50 paid by the service and content providers. You can’t “organise” such a grid-wide system without some form of government; and since the dawn of SL, any form of government (except for LL) has always been anathema to talk about, so this wouldn’t work in the medium term, much less on the long run.

But the shops and malls and land rentals didn’t disappear back in 2006. In fact, they continued to grow and grow. Why?

The clever service providers in SL understood that the newbies weren’t a business opportunity any more. In fact, the only interesting class spending money in SL to sustain the economy were other service providers. Put it very bluntly, SL became a typical Third World economy, where money transactions only occur at the top level of the pyramid, but the lower levels — the worthless, money-less rabble of Basic Account residents — are pretty much ignored. They’re outside the economy since they’re not consumers any more.

For them, content creators started to give away freebies.

It actually made a lot of sense. Low-quality or old products did not fetch a market in the L$500 price range, the one Premium Accounts and service providers not only could afford, but would gladly do so, if the content was good enough. Similarly, nobody getting a stipend of L$500/week would wish to pay L$50/week to live in an apartment tower for newbies with the problems of chat range and parcel media issues. For L$500/week you wish your own isolated parcel, preferably with a nice prefab McMansion on top of it.

Service providers thus adjusted their offerings. They created apartment towers for newbies, often for zero rent (and zero quality) — while creating fancy neighbourhoods for the Premium Accounts willing to spend their stipends there, away from the rabble. Content creators gave away last year’s fashion, while focusing on L$500 outfits for the ones that could afford it. So basically the economy worked for a class composed solely of Premium Accounts and service providers — the ones that effectively spend money in SL, and the only ones now that are interesting to attract.

Suddenly the anxiety of capturing newbies as soon as possible grew less important. Instead, service providers had to attract the attention of clients with money in their pockets. And here the strategy was simple: after getting rid of almost every other metric in SL (like ratings), the last one available was traffic, and the “green dot effect” (people naturally gravitate to places where other people already are, since it looks like “something is happening there”). This is what I call the camping chair era — an economy based on the perceived popularity of a place (since there is just one metric, traffic, that determines ranking on the Search engine; and just one visual way to identify popular areas on the Map, green dots). All tricks to artificially raise the perceived popularity have, of course, been successfully exploited. Camping chairs and the tactical flashlight also have the nice side-effect that at least a few of those persistent campers, technically part of the uninteresting level of the economy pyramid (the 90% that never put any money in SL, and have no visible talent, skills, or time to offer products and services), might even gather a few L$ to be able to occasionally buy something nice. As regular consumers, they’re uninteresting; as a means to raise brand awareness artificially through traffic, they’re excellent.

Self-imposing a Third World economy in SL might disgust some of us, but it’s theoretically a valid long-term strategy. After all, as long as there is regular spending from a slice of society, the economy is happy. It doesn’t need to be over-reaching. Also, without a government (and I’m afraid I’m repeating myself), there is really no way to provide all those zero-Linden-spenders with any alternatives, since that would require global (ie. grid-wide) coordination.

We don’t need to feel sorry for them, though. Almost all without exception do not live in dare conditions in RL, so this is not a social issue like many have embraced in the past (“Help the newbies! Sponsor our charity to give every poor newbie a place to live in!”). People don’t spend money in SL by choice, not because they’re really poor. After all, they have wonderful computers with Internet access, and for a cup of coffee at Starbucks you can get quite a nice outfit on the most fashionable shops in SL! Barring a few exceptions of truly impoverished and hungry, starving people (I’ve met a few in my four years in SL), almost all of them simply don’t wish to spend anything out of their RL pockets. If they wished, they’d do it pretty easily.

Converting Basic Accounts into Premium Accounts, however, has been one of LL’s major failures. So much that they’re considering to drop the whole issue — like they did with the “Lifetime accounts” not long after SL was opened in June 2003. After all, looking to the statistics, the number of Premium Accounts has risen to close to hundred thousand and totally stagnated.

New residents will never become Premium. Why should they? The ones willing to spend money in SL will simply go to the LindeX, buy some land on a private island (since they don’t need to be Premium to do that) and enjoy exactly the same benefits as a Premium Account. In fact, for the same amount of money, you get a better deal at the LindeX anyway. So current Premium Account residents will not feel a big loss of this “status” anyway; they are part of the group that already is willing to spend money in SL (although paying monthly, quarterly, or yearly to Linden Lab) anyway, they will quickly switch to using the LindeX more regularly, which they most certainly have already used.

At this stage, I have to formulate my own theory though. Based on my own perception of the numbers, I boldly claim that the number of people willing to spend money in SL is about hundred thousand, and this number hasn’t changed since at least early 2007.

The second bold claim is perhaps even more surprising. The number of service providers (content creators, event hosters, and land managers) is about hundred thousand. This basically means that about one in ten active users is a producer of content, while the remaining are pure consumers.

And the third bold claim is definitely shocking. This number will NOT change in the immediate future. Unless, of course, things change dramatically (which is always possible), but the change will be only a positive one, ie. more users in this group, not less.

The fourth claim is perhaps not so surprising then: The number of informed people in Second Life (those that read and write blogs or e-zines, participate actively in SL-related issues, work for RL companies providing content and services in SL, etc.) is about a hundred thousand.

And the fifth should not come as a surprise either: They are exactly the same people. Sure, I’ll allow a margin of error, of, say, 20-30% in either direction. But I’d say that it’s extremely likely — mmmh 95% or so — that if you’re reading this article, you’re very likely a Premium Account resident, or an owner of a private island (or a set of them), or a content/service provider (these are inclusive “or”s, so you can be all of those). If you’re none of those cases (ie. a Basic Account user who never spent a single cent in SL, live from freebies, and never organised a single event in SL…), you’re probably writing regularly about SL.

“Extraordinary claims require extraordinary proof”, as any good scientist would immediately demand, so I’ll have to back up those claims with some data. But I’m going to leave that for a further chapter. Let’s examine the consequences first.

Consequences of the 100,000-user-economy

The first thing that you have to understand is that the number of 100,000 users is fixed, but its individuals aren’t. What this means is that, over time, some of those will leave SL, and new ones will come in. So if you’re shaking your head and saying that you know about a dozen people who have left SL and who would certainly be part of that group — and if your Friend’s list has a thousand people in them, each claiming that 12 residents they knew have left SL too — this would surely mean my assumptions are totally wrong.

In fact, I’m only talking about abstract numbers and not individuals. At any given time, the number remains fixed at 100,000, but people come and go. For each and every Premium Account user who is a content creator and writes a blog that leaves SL, another steps in their shoes. While this number has grown exponentially (my claim is that they were about thousand in 2004; ten thousand in late 2005/early 2006; and a hundred thousand by the beginning of 2007) it has stagnated, but it also doesn’t change over time. And why not?

My assumption is based on one premise: the current Third-World-type of economy that SL has only allows for 100,000 people to be active participants in it. This is a corollary of the assumptions, but it is the ultimate explanation why the economy can only grow marginally from now on, even if the number of new registrations continues to be at about 10,000 per day. In fact, the number of new users is pretty irrelevant for all purposes, except for LL’s press releases. The 100,000 are the movers & shakers in SL; the economy is defined by them, through them, and because of them.

There are also further consequences: under the current model, Second Life will not be able to attract more than those 100,000. LL can certainly innovate a lot of things, and change the model completely, so the assumptions might not hold any more. But currently, right now, this is what we have to work from.

The 100,000 are the most active evangelists of SL. This is one of the first consequences of those assumptions. You might have seen how M Linden has subtly pushed LL’s strategy to increase stability and, most importantly, make sure that the first hour in-world is a pleasant experience, in order to hopefully retain more happy residents and continue the growth in new registrations. All this is irrelevant. Stability will benefit mostly the 100,000 — since they’re the ones actually having high expectations about SL. So all complaints about the lack of stability, grid problems, griefer attacks, copyright violations, unethical behaviour in business, etc. will come from the 100,000. The remaining millions are completely out of the loop; they don’t know, don’t care, and will not change their attitudes. The 100,000, however, do care, and they will definitely complain as loud as possible until LL fixes everything that needs to be fixed — but they will also be the ones supporting LL most. This means that the likeliness of one of the 100,000 to actually leave SL is several orders of magnitude lower than from the “other group”.

Profiling this group would be quite interesting to do, from the point of view of anthropology and sociology, and I’m so very sorry not to be able to do it professionally and thoroughly. But I can give some hints. It’s quite a heterogeneous group. Many of them are creative; many have a good business sense; most are charismatic; most are over 35 and very likely over 40. But many of the borderliners are also included in this group — and they might even be a very high percentage of the total. After all, these are the ones for which SL is truly a “second life”, and their commitment to SL comes because there is no alternative for them. So it’s not an uniform group (I would even claim the contrary, but I have no data for that); it’s my feeling that it’s one of the most extremely mixed groups in SL. And interestingly enough, they have little in common (or they would have banded together and decide the fate of SL long ago 🙂 ) and even usually work against each other.

After all, these are your competitors — not the hordes of “tourists” (residents unwilling to participate in the economy) that will be here one day and leave the next.

Let’s see a few more consequences, and then I promise to give some hints on how I’ve come up with those numbers!

The unelastic market

Having a fixed population that are active consumers means that there is a limit to how much they will spend (even if they tend to commit over time to more spending, but not in an exponential way!), and thus it curbs the size of the market. This is exactly the same scenario as in my Honest Joe The Car Dealer example. What it means is that those 100,000 are just providing services to the same 100,000 — and there is a limit on how much these people are willing to spend. Early in 2007, when the market wasn’t saturated, it looked like the 100,000 could continue to provide more and more services, sell more and more land, create more and more content — and since SL was always growing in size, it looked like you’d always get customers for your services and products.

But we hit a limit. LL noticed soon enough that the mainland is unable to grow and that empty plots pop up everywhere. So although the population overall is growing, they’re not buying more land. Why? My claim is that the overall population has grown, the number of people willing to buy land has not grown in the same ratio. In fact, it hasn’t grown at all — just the same people were willing to spend a bit extra here and there. And, of course, on a microscale, you got people eagerly joining SL, spending some money for a while, buying a plot, and quickly going away. While the number of these people was constant — for a land size three times smaller than today — it seemed that you’d always get a buyer for your plot.

After a time, however, all the 100,000 had their plots, and hit their own personal limits on how much further they were willing to buy new land. Once that limit was hit, land sales dropped abruptly. Now notice how my claim is completely at odds with what every land manager in SL is saying. All of them report “decreased sales” and assume that “people are leaving”. My claim is totally different: the market is saturated because all possible people interested in buying more land have done so, and are not willing to buy more.

In fact, they have done even worse: they have jumped out of the mainland and gone to their private islands instead. While LL managed to stop the mainland from growing, they cannot shoot their own feet and prevent people from buying private islands (after all, that’s their source of income!). However this leaves “holes” in the mainland which will not be closed down, even if, by miracle, 20,000 new users start entering SL on average per day. Again, on a microscale — a few weeks or so — people might get among those 20,000 a few that might buy a few plots. A very very tiny number will even be added to The 100,000, and will not go away (but old members of the 100,000 will also leave, so this effect will be mostly sporadic, uncertain, and definitely not long-lasting).

On the community management side, what this means is that new projects using the old models (“I just wanted a community where everybody would be happy, join us at parties at the club, participate in the events, look at the art gallery, and shop at our community mall. But nobody is coming any more! I cannot understand, I had the perfect community”) will fail. Dramatically so, because there isn’t a consumer market that can absorb new projects. In fact, due to the constant increase of new offerings in the “community” area, people from the 100,000 will hop away into the next one — specially if, responding to the market’s excess of supply, prices drop. And this will mean bad news for the community managers. If so many are offering exactly the same type of services, prices will drop — and dramatically so — until some communities will have no choice but to offer their services for free or go away.

Once they enter the “community for free” market, you know what it means: you open your community to the “freeloaders”, ie. everybody outside the 100,000. These will happily join any free community that appears. But… you cannot sustain a community financially (because LL will certainly not give their islands away for free!) for long. Community managers will quickly figure that out. Even worse: they will suddenly understand that no strategy to bring income to a free community will work, because nobody from the 100,000 will be on that community, or, perhaps even worse, if they are, they’ll be unwilling to spend anything (effectively “reconverting” one member of the Consumer Group into the Tourist Group — another one dropping out of the 100,000). Those projects will quickly die.

But again — it’s not from lack of users, or “everybody leaving SL”. It’s just hitting a saturated market, where the competition levels go from agressive to predator-style. Not everybody is able to manage to survive in there!

On the content creation side, the parallels are astonishingly similar. Launching a new fashion collection in 2004 was so easy. All you needed was a handful of shops on the major spots near the telehubs, and newbies with their stipends would buy anything in sight. Once you had enough money, you’d buy your own shop, and start promoting your brand more agressively — and target it to the Premium Account residents, which would allow you to sell higher-quality items for a higher price.

But these days it’s insanely hard to launch a new brand. It’s not only making sure that you’re well-known enough by all fashionistas and fashion bloggers and magazine writers — which is hard and takes time. It’s not enough to have the best quality products available in your collection. The problem is that there is a limit on how much the 100,000 can spend. They’re stretched thin across the dozens of thousands of brands in SL already, and every week a new designer pops up and wants a share of the market — another market which is also saturated! Put it bluntly: there is no room for more designers except if you’re willing to drive your competitors out of business. So there is no time to use soft silky gloves for fighting; the only way to survive in the fashion world is to eliminate the competition. The Armidi brand is trying very, very hard to do that, and perhaps with some success. Many others have understood that the market has stagnated — but still working under the wrong assumptions! — and are starting to put up a serious fight. Long gone are the days where you put up a shop and would have increased sales just from “being here”. Even long gone are the days where quality defined success, or marketing and promotion helped you to find out where all your potential customers were shopping and open your shop there. These days, we’ve hit the limit on how many different brands are able to survive in SL, because the market is only 100,000 people and they have a limit on how much they spend.

In despair, designers tried to give their content away as freebies, hoping to make themselves more popular (and show themselves as politically correct towards the “poor newbies”). Nothing could be worse. As Prokofy Neva put so bluntly several years ago, we’re flooded with freebies. Fashion comes and goes — nobody wears non-sculpty heels these days — and you can rely upon consumers to pay for new, fresh, innovative content. But you can’t fight freebies: they accumulate. Unlike content creators who retire products from the market (when they don’t sell, are out of fashion, or are replaced by better and improved products), freebies never disappear. And to worsen that, while in 2004 and 2005 wearing a freebie was considered hilarious — because they were of such poor quality! — the freebies of 2008 are of insanely high quality. In fact, whole communities have been popping into existence to help people to pick the very best among all freebies in the world — Fabulously Free in SL being perhaps one of the best examples. All these sites, these notecards, these people explaining where to get free things in SL are just increasing the magnitude of the problem. (And I know they mean well, that’s besides the point; none of them are Evil Communists Trying To Bring The Downfall of Laissez-Faire Rampant Capitalism in SL, but just happily giving out tips and ideas, to newbies, non-consumers, and even the 100,000, who are often amused at how good those freebies are these days)

So content creators in 2008 have to fight two battles. The one is against other content creators, because simply there is no room for all of them any more. Increasing the quality of their products might simply not cut it. Drastically reducing prices will leave them out of business. But the other battle is against the high quality freebies. If you get basically the same shirt for free if it costs L$250 in a shop, why should you go for the paid item, when the freebie is just as good — even if it’s not the colour you like? To make things worse, every time a designer leaves SL, it’s customary to give away all content for free. So the problem gets aggravating and aggravating.

Content creators shift the blame on the lack of newbies, people leaving, and, of course, CopyBot. Since the statistics don’t support the first two assumptions, they imagine that copied content is the main cause of loss of sales. It hardly makes a difference really, and for two reasons. First, it’s not as widespread as people believe, since mounting a full CopyBot operation requires a criminal organisation that sets up new alts, new shops, makes a few sales, go away, reappear on a new sim with new alts, puts up the content for sale again, and so on. A few rings have been exposed that actually work like that. LL’s benevolence in dealing with them encourages more and more “copycats” (pun intended!) to do the same, so, yes, from a moral point of view, and even a legal one, this needs to be put to a stop. And yes, LL is not sleeping over it, they have some plans to be announced.

But even when the CopyBot Threat is removed from SL, content creators will still fail to increase sales. In fact, ironically, CopyBot users are possibly the ones suffering more. They don’t target the 100,000 as customers (because these only buy from the legitimate shops!). They target the Basic Accounts with little money instead. What a silly strategy!… That group will never show up for recurring sales, no matter how low the price might be. At some point, what the pirates do is simply give away the copied content as freebies — and leave the business model once they fail to understand why an ever-decreasing number of people are willing to buy even cheap content.

You see, the question is that only the 100,000 will be willing to pay recurringly for high-quality content. The rest of the residents don’t want to pay anything, not even L$1 for an item that they can get for free elsewhere. Freebies are not items “on sale”. In the real world, you don’t have a freebie-oriented economy — you might get a free item as part of a promotion, or for being a good returning client, or for winning a lottery. But there are no shops iRL that give away half the outfits for free, expecting to sell a few of the others. If they did — they’ll soon figure out that the only people visiting those shops would only go there for the free outfits, and never buy a single one of the others.

However people expect SL to behave differently.

But of course they don’t 🙂 So, it’s a negative spiral, as more and more content creators give away their high quality products in hopes of attracting customers, then fail their business and flood the saturated market with even more freebies as they leave SL. Soon we’ll be swamped and flooded in freebies and there will be nobody willing to pay for content — not even the 100,000. Once that point is reached, it’s basically the end of the economy.

Don’t worry — we’re not there yet 🙂 But, granted, I’m very sad to see that a lot of highly talented content creators will have to learn the lesson the hard way — and in the process releasing a flurry of freebies and make it harder for all the remaining designers — until the market stabilises again, with the amount of “just enough” content creators able to still make a profit out of their content.

The rest, tragically, will have to go.

Unless — of course — something dramatically changes.

Finding proof through anomalies

So where do my numbers come from? Why 100,000 and not a million — or ten thousand? Obviously I have not done a thorough research, and the few scattered data I’ve got has little more than a year and a half at best. It comes more through intuition at lateral thinking at the numbers, and some surprising oddities.

The first hint, of course, is the obvious one. Why did the number of Premium Accounts stop at about 100,000, and has remained so long at that level, even if the number of new users continues to grow — even the number of active users and simultaneously online users? That was a bit puzzling, since one would expect it to grow at the same rate (if it grew faster, it would mean that LL found out the magic words to turn Basic Accounts into Premium Accounts, but, alas, that did never happen — one of the reasons why they’re abandoning the whole concept).

Aha, I hear you saying, but the number of Premium Accounts is going down, so that goes against the assertion that the 100,000 is a fixed number. Not so. Premium Accounts are mostly Premium for two reasons: land ownership and the tiny stipend (which is important only if you’re not a service provider). While the number of Premium Accounts is declining, the number of private islands is rising by the same proportion. What this mostly means is that we’re seeing product substitution: with the low costs of OpenSpace sims (the old “void sims”) and the ability to buy just one instead of a pack of four, people at a certain tier level are simply dropping their Premium Account and buying their own private island instead. So The Hundred Thousand are not “Premium Accounts” by definition; they’re “land owners” in the sense that they all feel they need to own their own land to be in SL. If it’s a plot on the mainland or their own private island — it’s irrelevant. So I expect that the number of Premium Accounts will continue to decline as new private islands are bought by them.

(I’m not claiming that there is a direct correlation; after all, Premium Account owners can have as little as a 512 m2 plot or whole mini-continents with dozens of sims; without more data, it’s impossible to figure out how exactly people are changing their land ownership patterns. Only LL can answer that. However, I still claim there is an indirect correlation — the number of people owning land appears to be constant, since Premium Accounts go down as new islands pop up, and the ratio of increase/decrease seems to be about the same, eg. one new private island per new Premium Account lost).

The other very indirect observation has come from something so unrelated as looking at my blog’s statistics. When I started it there were just a dozen blogs about SL, Hamlet Au’s New World Notes being the major one (since LL sponsored it). I got perhaps 700-1000 unique visitors per day — about 5-10% or so of the SL population would read my silly blog every day. As the number of new blogs started to increase exponentially, and people had far more interesting things to read, naturally the number of readers started to drop abruptly. These days, there are thousands and thousands of blogs about SL, and people have a lot more to read, so this was expectable.

What I didn’t expect was that the number of unique visitors stagnated around 200-300 per day — and has been so for several years. The most plausible explanation is that from among the original 700-1000 readers, 200-300 have added me to their RSS newsfeed, so those are the ones that read me all the time, and there are not new readers. However, that’s oversimplifying things, since obviously very few of the original readers have remained in SL — most have long since gone, and were replaced by new ones. On the other hand, finding my blog in 2004 was practically impossible, while these days it gets cross-referenced everywhere. So old readers would go, but new ones would replace them. As SL grows in the number of residents, I’d expect more potential readers; on the other hand, of course, there are more people blogging and competing for attention, so that would take readers away. So what is the expected result?

Now, if my theory about the 100,000 is correct, it means that the number of total potential readers is limited, and has been so for a year and a half at least. So even if SL has twice the number of registered users, they don’t read blogs. On the other hand, the number of new potential blogs is also limited: they will come, at most, from those very same 100,000. I would thus expect an equilibrium: while new blogs are popping up, old blogs are also going away, and once the market reaches reader saturation — ie. there are no more readers and no more bloggers — I should see a constant number of readers for a long period. And this is, in fact, the case — the only “jumps” I see on the statistics are when a post is suddenly published (then of course, for a few hours, the number of readers increase). It never went back to the levels of 2004, of course — I think my record in 2008 was close to 650 readers in a single day — but it also doesn’t dramatically stop. I did an experience — in the past month I have blogged far less than usual. But the number of unique daily visitors hasn’t changed. It’s still the same RSS readers; still the same people; not less, but never more, simply… because there are no more potentially interested readers!

The third observation came from looking at my content sales in SL. Now, I should explain first that I’m not really into the content business (I have no talent whatsoever). But I’m actually a pretty good example of the worst kind of content creator in SL! I thought in 2004 that it would be nice to sell low-quality content very cheaply to the newbies; since my quality is always rather low-quality, hitting the sub-L$50 market should be manageable within my limitations. But for a change I have a very high-quality product for the “middle-class” range.

My sales come almost exclusively from OnRez Shop and Xstreet SL. OnRez sells very little, so the following graphic was not very useful:

.

Sales are so few and scattered that there are no real trends here. The peaks come mostly from launching a new product (which often puts an image on their homepage, thus providing reason enough to make a sale). Also, this graph shows income over time, so the huge peaks show days where by chance I sold one or two of the more costly items.

Xstreet SL shows a more interesting picture. Like many other content creators, money was starting not to be enough at the end of the month to pay tier for the few parcels I rent, so I also initially assumed that I was just suffering from the same issues that all other content creators complain about: people are simply not buying as much as before, and naturally enough, the low-quality content creators are the first to notice that (serves me right!).

Surprisingly, the graphs show a different story!

This is the graph for two L$1 items (they’re similar). They were created in 2005 and as you can see, sales have grown slightly during last Christmas… but even a bit more in January/February… only to stabilise. The second item was more popular early this year, but now it sells as much as the other one (as said, they’re quite similar). But there is no clear pattern of “suddenly everybody not buying anything anymore”. I was quite surprised that these items still sell at all, since they’re so bad, and I’ve even thrown it in a freebie kit by LL — so there is really no point in buying it.

 

On the high-end of the market, my Yet Another Dance Bracelet is a middle-end product and costs L$250. In this age of paired danceballs dance bracelets are not so popular anymore, so I was also expecting sales dropping to zero. The HUD version is more popular than the “chimera” version. Still there are no trends visible; the HUD version got less hits (and even less sales) during the summer, but it’s back at the same level as before.

Completely mispriced at L$100, the Cigarette Holder has totally unique animations done by myself, and I believe I was inspired, because they came out rather well 🙂 But it’s an ancient item; the first lines of LSL on what would eventually become this product were written back in September 2004. But as you can see, although it’s not in the sub-L$50 category, it still sells a bit, and again, there are no trends of suddenly dropping out of sight.

So why was I so surprised? My issue was, with zero promotion of any of those items, over time, they should never manage to get any sales, and, in recent months, I should really start seeing a huge drop in overall sales. Granted, the number of sales is so low that my perceptions might be simply skewed (the ratio of views-to-purchases is somewhat between 3:1 and 5:1, which on the above graphs it means most of the days people won’t buy a single item). But sales have just stagnated — for a huge period of time — and not really disappeared. Stagnation usually means that there is no way, due to the lack of quality and promotion, that I can manage more sales if the market is not growing. But it was my first hint that the number of potential buyers has not changed in the past year and a half. There are not more and not less — they’re about the same (people will still buy much less from me in 2008 than they did in 2005, of course!).

But according to my theory, I should be seeing less sales like everybody else… right? Well, yes and no. I would certainly see less sales if these products had more competition. Apparently, at least in these niche markets, there has been not more competition — or less. If suddenly people read my article and start doing competing products and flooding the market with them — or, worse, giving them away for free! — I will immediately notice a drop to zero. But — it’s only my fault, not the market’s!

To test my theory, I’ve launched two devices with lots of competition — language translators. If the theory holds, next year, when looking at my statistics, I should expect close to zero sales (unless a lot of my competitors drop from SL, of course). Right now they’re too new and still gather some attention, and I have not enough data to make any comments.

So why did my money not last until the end of the month during the summer?… Well, ironically, the explanation is quite simple really. I spent way more than usual 🙂 So, again, this all comes from wrong perceptions of reality. It wasn’t my sales that were down — they weren’t! — but just my spending habits that went up 🙂

Where will we dance next after the last club shuts down?
Where will we dance next after the last club shuts down?

In conclusion, I cannot hopefully claim to the absolute and undeniable fact that the SL economy is in the hands of just 100,000 people, who are the only consumers — but, at the same time, the only producers! — a number which hasn’t changed in the past year and a half. I cannot also absolutely claim, without a shadow of a doubt, that the market, instead of being stagnated because people lost the will to consume, or is shrinking because residents are going away, is simply saturated, and thus the usual laws of demand and supply are hitting the service providers with the force of a hurricane.

However, it seems to me, for now, that this is the explanation that best fits the observations. Those observations lack dept of analysis and research, but they’re also not totally misguided. They are one possible interpretation that accounts for almost all recent complaints about a moribund economy — when LL’s figures show a different picture. My theory takes into account a very important issue when dealing with economy-related questions: more than anything, economy is about people’s perception of what’s going on, and, most likely, these perceptions are misguided because they fail to take into account all factors.

I will also not claim that I have taken all factors in account. There might be something obvious missing here. Or perhaps I should say — perhaps there is something not obvious missing here, and the conclusions I’ve reached are fallacious because of that. And finally, some of the steps in my reasoning might contain errors, mistakes, or wrong assumptions. In that case, I eagerly await any comments to set them right 🙂

What I will certainly claim is that no parochial observation will fully explain the global picture (ie. just because you and your friends are all making less sales, it does not mean that nobody in SL is doing any sales). Any explanation should attempt to both take into account why some service providers are indeed exhibiting less sales, while the number of new registrations are still 10,000 per day (as they have been for ages) and the number of in-world transactions continues to grow. Naturally enough, conspiration theories about LL faking their numbers will be pleasant to read, but not taken seriously by this author 🙂

Note: Unedited version for your pleasure; I might be correcting some grammar and spelling mistakes in the next few days.

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