Marketplace inequality
The superstar effect and the marketplace Gini Coefficient
This is issue #9 of Russell’s Index, where I write about the lessons I’ve learned—and continue to learn—as a founding employee at SharpestMinds. Subscribe for a new issue in your inbox every week-ish. Emphasis on the ish.
The Superstar Effect
A common explanation for the increase in inequality we’ve seen in recent decades is the superstar effect.
Nearly 30 years ago, Sherwin Rosen, an economist from the University of Chicago, proposed an elegant theory to explain the general pattern. In an article entitled “The Economics of Superstars,” he argued that technological changes would allow the best performers in a given field to serve a bigger market and thus reap a greater share of its revenue. But this would also reduce the spoils available to the less gifted in the business.1
In a nutshell, technology (mass media and the internet in particular) lets people scale their distribution to the world rather than just their local community.
Before recording technology, for example, musicians just had to compete with other local musicians. Once technology allowed us to record a song once and copy it indefinitely, musicians no longer had to be in the same room playing their instrument to make money from their work.
And music listeners no longer had to settle for the local talent. They could buy the records of the best musician in the world. Recording technology reduced the marginal cost of each additional listener (record once, distribute a ton) and the internet has given musicians and listeners access to a global market.
This trend has been accelerated by the internet across a wide variety of industries. Consumers can pick from the best in the world, not just the best around. This creates a winner-take-all effect. The top performers in any field tend to dominate. This is likely to happen in any market where:
The marginal cost of each additional customer is very low (or nothing).
The market is unconstrained by geography.
In the internet age, these two conditions apply to a growing number of things. With education moving online, for example, you no longer have to settle for the mediocre teachers at your school. YouTube, Coursera, Udemy, etc. have given anyone with an internet connection access to the best teachers in the world. And there is no limit to how many people can watch or read their lessons.2
Marketplace inequality
Byrne Hobert, in an issue of The Diff ($), has a good write-up of the dynamics of marketplace platforms—e.g. Airbnb, Amazon marketplace, Etsy, Udemy, SharpestMinds :). Most of them tend towards winner-take-all, but some markets have limits to how much any participant can scale.
Not all platforms follow this [winner-take-all] pattern, though. In some cases, due to external factors or by design, there are natural limits to participants' scaling, so the platform has a fairly low Gini Coefficient3 and something that looks a lot like a digital middle class.
Because Etsy’s focus is on handmade goods, they have a lower Gini Coefficient. Handmade goods are hard to scale. So the distribution of incomes of Etsy sellers is more equal than it is for sellers on Amazon. It’s easier to make a decent income selling crafts on Etsy. But it’s easier to scale 10x mass producing products to sell on Amazon.4
This concept of a marketplace’s Gini Coefficient caught my interest because, at SharpestMinds, we’re building a marketplace for mentorships. Mentoring comes with some natural limits to scale. The value of having a mentor comes from meaningful one-on-one time. And that time gets diluted the more mentees you try to take on.
This wasn’t obvious to us at first. One of our ambitions early on was to let folks scale their mentorship offering into full-on courses and schools. But we soon abandoned that. Users told us they were disappointed by the lack of one-on-one time they got. And the real success stories coming out of SharpestMinds were the long-term relationships being formed between mentor and mentee
So we’ve designed our platform to be a more equal marketplace. We put caps on the number of mentorships any mentor can have at any given time. New mentors start out with one spot and we give them a couple more if they earn our trust. This means we might miss out on some superstars—and the upside that comes with them. But it also means we’re incentivized to help a larger share of mentors make meaningful connections with mentees.
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However, this implies that the value of an education is the education itself, and not just a signal to employers. A topic of a previous Index.
The Gini Coefficient is a measure of income inequality. The higher it is, the more unequal the distribution of incomes. A Gini Coefficient of 0 would imply perfect equality.
That is until Amazon or another competitor copies your product and underprices you.