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2. Entertainment Industry EconomicsA Guide for Financial Analysis, Eighth EditionThe entertainment industry is one of the largest sectors of the U.S. econ-omy, and it is fast becoming equally important globally. The eighth edi-tion of Entertainment Industry Economics updates material presented inprevious editions and includes new sections on the legal aspects and lim-itations common to all such experience industries and on the emergingeld of the psychology of entertainment. In addition, coverage of music,advertising, gaming and wagering, sports, and nance more generally hasbeen broadened. The result is a comprehensive reference guide on the eco-nomics, nancing, production, and marketing of entertainment in the UnitedStates and overseas. Investors, business executives, accountants, lawyers,arts administrators, and general readers will nd that this book offers aninvaluable guide to how entertainment industries operate.Harold L. Vogel is author of Financial Market Bubbles and Crashes(Cambridge University Press, 2010) and Travel Industry Economics: A Guidefor Financial Analysis (Cambridge University Press, 2001), a companionvolume to this textbook. He was senior entertainment industry analyst atMerrill Lynch & Co. for 17 years and was ranked as top entertainmentindustry analyst for 10 years by Institutional Investor magazine. He earnedhis Ph.D. in nancial economics from the University of London; has taughtat Columbia University, The Cass Business School, and the University ofSouthern California; and currently heads an independent investment andconsulting rm in New York City. 3. EntertainmentIndustryEconomicsA Guide for Financial AnalysisEIGHTH EDITIONHarold L. Vogel 4. CAMBRIDGE UNIVERSITY PRESSCambridge, New York, Melbourne, Madrid, Cape Town, Singapore,S o Paulo, Delhi, Dubai, Tokyo, Mexico City aCambridge University Press32 Avenue of the Americas, New York, NY 10013-2473, USAwww.cambridge.orgInformation on this title: www.cambridge.org/9781107003095C Harold L. Vogel 1986, 1990, 1994, 1998, 2001, 2004, 2007, 2011This publication is in copyright. Subject to statutory exceptionand to the provisions of relevant collective licensing agreements,no reproduction of any part may take place without the writtenpermission of Cambridge University Press.First edition 1986Second edition 1990Third edition 1994Fourth edition 1998Fifth edition 2001Sixth edition 2004Seventh edition 2007Eighth edition 2011Printed in the United States of AmericaA catalog record for this publication is available from the British Library.Library of Congress Cataloging in Publication dataVogel, Harold L., 1946Entertainment industry economics: a guide for nancial analysis /Harold L. Vogel. 8th ed. p. cm.Includes bibliographical references and index.ISBN 978-1-107-00309-51. Performing arts Finance. I. Title.PN1590.F55V6 2011338.4 7791dc222010040291ISBN 978-1-107-00309-5 HardbackCambridge University Press has no responsibility for the persistence or accuracy of URLs forexternal or third-party Internet Web sites referred to in this publication and does not guarantee thatany content on such Web sites is, or will remain, accurate or appropriate. 5. TO MY DEAR FATHER WHO WOULD HAVE BEEN SO PROUD 6. ContentsPreface page xixPart I IntroductionChapter 1 Economic perspectives 3 1.1 Time concepts3 Leisure and work 3 Recreation and entertainment 4 Time 5 Expansion of leisure time5 1.2 Supply and demand factors9 Productivity 9 Demand for leisure11 Expected utility comparisons13 Demographics and debts14 Barriers to entry 15 vii 7. viiiContents 1.3 Primary principles17 Marginal matters17 Price discrimination20 Public good characteristics 20 1.4 Personal-consumption expenditure relationships21 1.5 Industry structures and segments25 Structures25 Segments26 1.6 Valuation variables 30 Discounted cash ows31 Comparison methods31 Options 32 1.7 Concluding remarks32Notes34Selected additional reading39Chapter 2 Basic elements 41 2.1 Psychological roots 41 2.2 Rules of the road 42 Laws of the media 42 Network features44 2.3 Legal layers and limitations46 Layers46 Limitations and concentration issues46 2.4 The Internet47 Agent of change 47 Long tail effects 49 2.5 Advertising 51 Functionality 52 Economic and business aspects 53 2.6 Accounting and valuation55 Accounting55 Valuation 55 2.7 Concluding remarks56Notes56Selected additional reading65 8. Contents ixPart II Media-dependent entertainmentChapter 3 Movie macroeconomics 71 3.1 Flickering images 72 3.2 May the forces be with you74 Evolutionary elements 74 Technology74 Capital 77 Pecking orders78 Exhibition78 Production and distribution 79 3.3 Ups and downs 80 Admission cycles80 Prices and elasticities 83 Production starts and capital 83 Releases and inventories86 Market-share factors86 Collateral factors87Exchange-rate effects87Trade effects92 Financial aggregates94 3.4 Markets Primary and secondary 95 3.5 Assets99 Film libraries99Technology 99Utilization rates 101Interest and ination rates 102Collections and contracts 102Library transfers 103 Real estate103 3.6 Concluding remarks 106Notes 106Selected additional reading 112Chapter 4 Making and marketing movies 114 4.1 Properties Tangible and intangible 114 4.2 Financial foundations116 Common-stock offerings 117 Combination deals117 9. xContentsLimited partnerships and tax shelters 118Bank loans120Private equity and hedge funds1214.3 Production preliminaries122The big picture 122Labor unions1254.4 Marketing matters 126Distributors and exhibitors 126Sequencing126Distributorexhibitor contracts 127Release strategies, bidding, and other related practices131Exhibition industry characteristics:(a) Capacity and competition132(b) Rentals percentages 135Home video, output deals, and merchandising 137Home video137Output deals141Merchandising 141Marketing costs 1414.5 Economic aspects142Protability synopsis 142Theoretical foundation1444.6 Concluding remarks146Notes 147Selected additional reading 172Chapter 5 Financial accounting in movies and television 1785.1 Dollars and sense 178Contract clout178Orchestrating the numbers 1795.2 Corporate overview180Revenue-recognition factors 180Inventories 181Amortization of inventory 182Unamortized residuals 184Interest expense and other costs184Calculation controversies 185Statement of Position 0021865.3 Big-picture accounting189Financial overview189 10. Contents xi Participation deals193 Pickups194 Coproductiondistribution195 Talent participations and breakeven195 Producers participations and cross-collateralizations 199 Home video participations200 Distributorexhibitor computations 200 Distributor deals and expenses 202 Studio overhead and other production costs 204 Truth and consequences 205 5.4 Television-programming accounting209 Feature licensing209 Program production and distribution210 Development and nancing processes 210 Syndication agreements 212 Costs of production215 Costs and problems of distribution 217 Timing troubles218 5.5 Weakest links220 Exhibitors: The beginning and the end220 Distributorproducer problems222 5.6 Concluding remarks 222Notes 223Selected additional reading 242Chapter 6 Music 244 6.1 Feeling groovy 244 6.2 Size and structure 247 Economic interplay 247 The American scene 247 The global scene 252 Composing, publishing, and managing252 Royalty streams254 Performances 254 Mechanical royalties 255 Synchronization fees 255 Copyright255 Guilds and unions256 Concerts and theaters257 6.3 Making and marketing recordings258 Deal-makers delight 258 11. xii ContentsProduction agreements258Talent deals 259Production costs 260Marketing costs260Distribution and pricing 261Structure261Pricing263 6.4 Financial accounting and valuation263 Artists perspective264 Company perspective 267 Valuation aspects 269 6.5 Concluding remarks270Notes271Selected additional reading284Chapter 7 Broadcasting 287 7.1 Going on the air287 Technology and history287 Basic operations290 Regulation293 Organizational patterns and priorities295 Networks and afliates295 Ratings and audiences 296 Inventories 299 Independent and public broadcasting stations300 7.2 Economic characteristics301 Macroeconomic relationships 301 Microeconomic considerations303 7.3 Financial-performance characteristics 304 Variable cost elements304 Financial-accounting practices305 7.4 Valuing broadcast properties307 7.5 Concluding remarks310Notes311Selected additional reading322Chapter 8 Cable328 8.1 From faint signals328 Pay services evolve 329 12. Contents xiii 8.2 Cable industry structure333 Operational aspects 333 Franchising 334 Revenue relationships 337 8.3 Financial characteristics 339 Capital concerns339 Accounting conventions342 8.4 Development directions343 Pay-per-view343 Cables competition 344 DBS/DTH 345 MMDS/LMDS 345 SMATV 345 STV 345 Telephone companies 346 8.5 Valuing cable-system properties 346 8.6 Concluding remarks348Notes349Selected additional reading356Chapter 9Publishing360 9.1 Gutenbergs gift360 First words 360 Operating characteristics 361 9.2 Segment specics364 Books 364 Educational and professional364 Trade 365 Periodicals 367 Newspapers367 Magazines and other periodicals 369 Multimedia370 9.3 Accounting and valuation372 Accounting372 Valuation 373 9.4 Concluding remarks373Notes373Selected additional reading377 13. xivContentsChapter 10 Toys and games 38110.1 Not just for kids381 Financial avors 382 Building blocks38510.2 Chips ahoy!386 Slots and pins 388 Pong: Pre and apr` se 38810.3 Structural statements389 Home video games 389 Prot dynamics 391 Coin-op39210.4 Concluding remarks 393Notes 394Selected additional reading 401Part III Live entertainmentChapter 11Gaming and wagering 40711.1 From ancient history 407 At rst407 Gaming in America408 Preliminaries408 The Nevada experience410 Enter New Jersey 411 Horse racing 413 Lotteries414 Indian reservations, riverboats, and other wagering areas41411.2 Money talks419 Macroeconomic matters419 Funding functions421 Regulation 422 Financial performance and valuation42311.3 Underlying prot principles and terminology424 Principles 424 Terminology and performance standards42611.4 Casino management and accounting policies429 Marketing matters429 Cash and credit431 Procedural paradigms 432 14. Contents xv11.5 Gambling and economics 43411.6 Concluding remarks 436Notes 436Selected additional reading 443Chapter 12 Sports 44812.1 Spice is nice448 Early innings448 Media connections450 The wagering connection45212.2 Operating characteristics453 Revenue sources and divisions453 Labor issues 45512.3 Tax accounting and valuation 456 Tax issues 456 Historical development 457 Current treatments 458 Asset valuation factors45912.4 Sports economics 45912.5 Concluding remarks 462Notes 463Selected additional reading 472Chapter 13 Performing arts and culture47913.1 Audiences and offerings479 Commercial theater 480 On and off Broadway480 The circus 486 Orchestras 486 Opera487 Dance48713.2 Funding sources and the economic dilemma 48713.3 The plays the thing 490 Production nancing and participations 490 Operational characteristics49213.4 Economist echoes 494 Organizational features494 Elasticities 495 15. xvi ContentsPrice discrimination 495Externalities49613.5 Concluding remarks496Notes497Selected additional reading503Chapter 14 Amusement/theme parks 50814.1 Flower power508 Gardens and groves508 Modern times50914.2 Financial operating characteristics 51014.3 Economic sensitivities51514.4 Valuing theme park properties 51714.5 Concluding remarks518Notes519Selected additional reading520Part IV RoundupChapter 15 Performance and policy52515.1 Common elements 52515.2 Public policy issues52815.3 Guidelines for evaluating entertainment and media securities529 Cash ows and private market values 531 Debt/equity ratios532 Price/earnings ratios 532 Price/sales ratios532 Enterprise values 532 Book value53315.4 Final remarks 533Appendix A: Sources of information 535Appendix B: Major games of chance537Blackjack537Craps538Roulette 540 16. Contents xviiBaccarat 540Slots541Other casino games 542Poker542Keno 543Big Six Wheel543Bingo543Pai gow, fan tan, and sic bo 543Pan544Trente-et-quarante (Rouge et Noir) 544Lotteries545Tracks 546Sports book546Notes548Appendix C: Supplementary data 549Glossary 563References 587Index627 17. Prefaceentertainment the act of diverting, amusing, or causing someones timeto pass agreeably; something that diverts, amuses, or occupies the attentionagreeably.industry a department or branch of a craft, art, business, or manufacture:a division of productive or prot-making labor; especially one that employs alarge personnel and capital; a group of productive or prot-making enterprisesor organizations that have a similar technological structure of production andthat produce or supply technically substitutable goods, services, or sources ofincome.economics a social science that studies the production, distribution, andconsumption of commodities; considerations of cost and return.Websters Third New Unabridged International Dictionary, G. & C. MerriamCompany, Springeld, Massachusetts, 1967.Each year Americans cumulatively spend at least 140 billion hours and morethan $280 billion on legal forms of entertainment. And globally, total annualspending is approaching one trillion dollars. So we might begin by asking:What is entertainment, why is there so much interest in it, and what do itsmany forms have in common? At the most fundamental level, anything that stimulates, encourages, orotherwise generates a condition of pleasurable diversion could be calledentertainment. The French word divertissement perhaps best captures thisessence. But entertainment can be much more than mere diversion. It is somethingthat is universally interesting and appealing because, when it does what itis intended to do, it moves you emotionally. As the Latin root verb tenaresuggests, it grabs you: It touches your soul.xix 18. xx Preface Although life is full of constraints and disciplines, responsibilities andchores, and a host of things disagreeable, entertainment, in contrast, encom-passes activities that people enjoy and look forward to doing, hearing, orseeing. This is the basis of the demand for or the consumption of enter-tainment products and services; this is the primary attribute shared by themany distinct topics from cinema to sports, from theme parks to theater that are discussed in the pages that follow. Entertainment the cause is thus obversely dened through its effect: asatised and happy psychological state. Yet, somehow, it matters not whetherthe effect is achieved through active or passive means. Playing the piano canbe just as pleasurable as playing the stereo. Entertainment indeed means so many different things to so many peoplethat a manageable analysis requires sharper boundaries to be drawn. Suchboundaries are here established by classifying entertainment activities intoindustry segments, that is, enterprises or organizations of signicant sizethat have similar technological structures of production and that produce orsupply goods, services, or sources of income that are substitutable. Classication along those lines facilitates contiguous discussion of enter-tainment software, as we might more generically label lms, recordings, andvideo games, and of hardware the physical appurtenances and equipmenton which or in which the softwares instruction sets are executed. Such clas-sication also allows us to trace more easily the effects of technologicaldevelopments in this eld. So accustomed are we now to continuous improvements in the per-formance of entertainment hardware and software that we have troubleremembering that, early in the twentieth century, moving pictures and musicrecordings were novelties, radio was regarded as a modern-day miracle, andtelevision was a laboratory curiosity. Simple transistors and lasers had yetto be invented, and electronic computers and earth-orbiting communicationssatellites were still in the realm of science ction. These fruits of applied technology have nevertheless spawned new artforms and vistas of human expression and have brought to millions of peoplearound the world, virtually at the ick of a switch, a much more varied andhigher-quality mix of entertainment than had ever before been imaginedfeasible. Little or none of this, however, has happened because of ars gratia artis(art for arts sake) in itself a noble but ineffectual stimulus for techno-logical development. Rather, it is economic forces prot motives, if youwill that are always behind the scenes, regulating the ows and ratesof implementation. Those are the forces that shape the relative popularityand growth patterns of competing, usually interdependent, entertainmentactivities and products. And those are the forces that ultimately make avail-able to the masses what was previously affordable only by upper incomeclasses. It is therefore surprising to nd that most serious examinations of theeconomics of entertainment are desultory and scattered among various 19. Preface xxipamphlets, trade publications and journals, stockbrokers reports, and inci-dental chapters in books on other topics. The widely available popular mag-azines and newspapers, biographies, histories, and technical manuals do notgenerally provide in-depth treatments of the subject. This book, then, is a direct outgrowth of my search for a single com-prehensive source. It attempts to present information in a style accessibleand interesting to general readers. And, as such, it should prove to be ahandy reference for executives, nancial analysts and investors, agents andlegal advisors, accountants, economists, and journalists. To that end, somesupplementary data appear in Appendix C. Yet Entertainment Industry Economics will most likely be used as a text forgraduate or advanced undergraduate students in applied media economicsand management/administration courses in lm, music, communications,publishing, sports, performing arts, and hotelcasino operations. Instructorsshould nd it easy to design one-semester courses focused on one or twoareas. A minimum grasp of what entertainment and media economics isall about would require that most students read at least the rst halves ofChapters 1 and 2 and, at the end of the course, the rst section of Chapter 15.But many different modules can readily be assembled and tailored. Amongthe most popular would be concentration on lm, television, and music(Chapters 2 through 8), gaming and sports (Chapters 7, 8, 11, and 12),arts and popular culture (Chapters 6, 7, 9, 10, and 13), or entertainmentmerchandising and marketing (Chapters 2, 7, 9, 10, and 14). The topics covered in the book have been chosen on the basis of industrysize measured in terms of consumer spending and employment, length oftime in existence as a distinct subset, and availability of reliable data. In alarger sense, however, topics have been selected with the aim of providingno more and no less than would be required by a compleat entertain-ment and media industry investor. The perspectives are thus inevitably thoseof an investment analyst, portfolio manager, and economist. Although thisdecision-oriented background leads naturally to an approach that is morepractical and factual than highly theoretical, it nevertheless assumes somefamiliarity, supported by the appended glossary, with the language of eco-nomics and nance. This eighth edition has been further revised and broadened and differs fromits predecessors by inclusion of a new section relating to the legal aspectsand limitations and long tail effects common to all such experience indus-tries, reference to the emerging eld of the psychology of entertainment,partial restructuring of and additions to the music chapter, enhancement ofthe section on advertising, and broadening of coverage in the gaming andwagering chapter. I am especially grateful to Elizabeth Maguire, former editor at CambridgeUniversity Press, for her early interest and condence in this project. Thanksare also owed to Cambridges Rhona Johnson and production editor MichaelGnat, who worked on the rst edition, to Matthew N. Hendryx, who workedon the second, and to Scott Parris for the third through eighth. 20. xxiiPreface I am further indebted to those writers who earlier cut a path through the sta-tistical forests and made the task of exposition easier than it would have oth-erwise been. Particularly noteworthy are the books of John Owen on demandfor leisure; Paul Baumgarten and Donald Farber on the contractual aspects oflmmaking (rst edition; and second with Mark Fleischer); David Leedy onmovie industry accounting; David Baskerville, Sidney Shemel/M. WilliamKrasilovsky, and Donald Passman on the music business; John Scarne andBill Friedman on the gaming eld; Gerald W. Scully and Andrew Zimbaliston sports; and William Baumol and William Bowen on the performing arts.Extensive lm industry commentaries and data collections by A. D. Murphyof Variety (and later, The Hollywood Reporter and the University of SouthernCalifornia) were important additional sources. My thanks also extend to the following present and former senior industryexecutives who generously took time from their busy schedules to reviewand to advise on sections of the rst edition draft. They and their companyafliations, at that time, were Michael L. Bagnall (The Walt Disney Com-pany), Jeffrey Barbakow (Merrill Lynch), J. Garrett Blowers (CBS Inc.),Erroll M. Cook (Arthur Young & Co.), Michael E. Garstin (Orion PicturesCorp.), Kenneth F. Gorman (Viacom), Harold M. Haas (MCA Inc.), HowardJ. Klein (Caesars New Jersey), Donald B. Romans (Bally Mfg.), and JamesR. Wolford (The Walt Disney Company). Greatly appreciated, too, was thecomprehensive critique provided by my sister, Gloria. Acknowledgmentsfor data in the second edition are also owed to Arnold W. Messer (ColumbiaPictures Entertainment) and Angela B. Gerken (Viacom). Although every possible precaution against error has been taken, for anymistakes that may inadvertently remain the responsibility is mine alone. Ive been most gratied by the success of the previous editions and, asbefore, my hopes and expectations are that this work will provide valuableinsights and a thoroughly enjoyable adventure. Now . . . on with the show. Harold L. Vogel New York City November 2010 21. Entertainment Industry Economics 22. Part IIntroduction 23. 1Economic perspectives To everything there is a season, and a time to every purpose under the heaven. EcclesiastesExtending this famous verse, we can also say that there is a time for workand a time for play. There is a time for leisure. An important distinction, however, needs to be made between the pre-cise concept of a time for leisure and the semantically different and muchfuzzier notion of leisure time, our initial topic. In the course of exploring thissubject, the fundamental economic forces that affect spending on all formsof entertainment will be revealed, and our understanding of what motivatesexpenditures for such goods and services will be enhanced. Moreover, theperspectives provided by this approach will enable us to see how entertain-ment is dened and how it ts into the larger economic picture.1.1 Time conceptsLeisure and workPhilosophers and sociologists have long wrestled with the problem of den-ing leisure the English word derived from the Latin licere, which means tobe permitted or to be free. In fact, as Kraus (1978, p. 38) and Neulinger3 24. 41 ECONOMIC PERSPECTIVES(1981, pp. 1733) have noted, leisure has usually been described in termsof its sociological and psychological (state-of-mind) characteristics.1 Andclosely tied in to this is the more recent notion that play is a fundamentalaspect of life.2 The classical attitude was epitomized in the work of Aristotle, for whomthe term leisure implied both availability of time and absence of the necessityof being occupied (De Grazia 1962, p. 19). According to Aristotle, that veryabsence is what leads to a life of contemplation and true happiness yetonly for an elite few, who do not have to provide for their own daily needs.Veblen (1899) similarly saw leisure as a symbol of social class. To him,however, it was associated not with a life of contemplation, but with the idlerich, who identied themselves through its possession and its use. Leisure has more recently been conceptualized either as a form of activityengaged in by people in their free time or, preferably, as time free from anysense of obligation or compulsion.3 As such, the term leisure is now broadlyused to characterize time not spent at work (where there is an obligationto perform). Naturally, in so dening leisure by what it is not, metaphysicalissues remain largely unresolved. There is, for instance, a question of howto categorize work-related time such as that consumed in preparation for,and in transit to and from, the workplace. And sometimes the distinctionsbetween one persons vocation and anothers avocation are difcult to draw:People have been known to work pretty hard at their hobbies. Although such problems of denition appear quite often, they fortunatelydo not affect analysis of the underlying structures and issues.Recreation and entertainmentIn stark contrast to the impressions of Aristotle or Veblen, today we rarely,if ever, think of leisure as contemplation or as something to be enjoyed onlyby the privileged. Instead, free time is used for doing things and goingplaces, and the emphasis on activity corresponds more closely to the notionof recreation refreshment of strength or spirit after toil than to the viewsof the classicists. The availability of time is, of course, a precondition for recreation, whichcan be taken literally as meaning re-creation of body and soul. But becausesuch active re-creation can be achieved in many different ways by playingtennis, or by going shing, for example it encompasses aspects of bothphysical and mental well-being. As such, recreation may or may not containsignicant elements of amusement and diversion or occupy the attentionagreeably. For instance, amateurs training to run a marathon might arguablybe involved in a form of recreation. But if so, the entertainment aspect wouldbe rather minimal. As noted in the Preface, however, entertainment is dened as that whichproduces a pleasurable and satisfying experience. The concept of entertain-ment is thus subordinate to that of recreation: It is more specically denedthrough its direct and primarily psychological and emotional effects. 25. 1.1 Time concepts 5TimeMost people have some hours left over free time, so to speak aftersubtracting the hours and minutes needed for subsistence (mainly eating andsleeping), for work, and for related activities. But this remaining time has acost in terms of alternative opportunities forgone. Because time is needed to use or to consume goods and services, aswell as to produce them, economists have attempted to develop theoriesthat treat it as a commodity with varying qualitative and quantitative costfeatures. However, as Sharp (1981) notes in his comprehensive coverage ofthis subject, economists have been only partially successful in this attempt:Although time is commonly described as a scarce resource in economic literature, it is stilloften treated rather differently from the more familiar inputs of labor and materials andoutputs of goods and services. The problems of its allocation have not yet been fully orconsistently integrated into economic analysis. (p. 210)Nevertheless, investigations into the economics of time, including those ofBecker (1965) and DeSerpa (1971), have suggested that the demand for leisureis affected in a complicated way by the cost of time both to produce and toconsume. For instance, according to Becker (see also Ghez and Becker 1975),The two determinants of the importance of forgone earnings are the amount of time usedper dollar of goods and the cost per unit of time. Reading a book, getting a haircut, orcommuting use more time per dollar of goods than eating dinner, frequenting a nightclub,or sending children to private summer camps. Other things being equal, forgone earningswould be more important for the former set of commodities than the latter.The importance of forgone earnings would be determined solely by time intensity onlyif the cost of time were the same for all commodities. Presumably, however, it variesconsiderably among commodities and at different periods. For example, the cost of time isoften less on weekends and in the evenings. (Becker 1965, p. 503)From this it can be seen that the cost of time and the consumption-timeintensity of goods and services (e.g., intensity, or commitment, is usuallyhigher for reading a book than for reading a newspaper) are signicant factorsin selecting from among entertainment alternatives.Expansion of leisure timeMost of us do not normally experience sharp changes in our availabilityof leisure time (except on retirement or loss of job). Nevertheless, there isa fairly widespread impression that leisure time has been trending steadilyhigher ever since the Industrial Revolution of more than a century ago. Yetthe evidence on this is mixed. Figure 1.1 shows that in the United States thelargest increases in leisure time workweek reductions for agricultural andnonagricultural industries were achieved prior to 1940. But more recently,the lengths of average workweeks, adjusted for increases in holidays andvacations, have scarcely changed for the manufacturing sector and havealso stopped declining in the services sector (Table 1.1 and Figure 1.2). By 26. 6 1 ECONOMIC PERSPECTIVESTable 1.1. Average weekly hours at work, 19482008,aand median weekly hours at work for selected yearsAverage hours at workMedian hours at workYear Unadjusted AdjustedbYear Hours1948 42.7 41.6 1975 43.11956 43.0 41.8 1980 46.91962 43.1 41.7 1987 46.81969 43.5 42.0 1995 50.61975 42.2 40.9 2004 50.01986 42.82008 46.0aNonstudent men in nonagricultural industries. Source: Owen(1976, 1988).bAdjusted for growth in vacations and holidays.Source: Harris (1995), www.Harrisinteractive.com for medianhours at work.Average Weekly Hours Average Weekly Hours757570706565Agriculture606055555050 ALLINDUSTRIES45454040Nonagriculture3535 001850 60 70 80 90 1900 10 20 30 40 41 42 43 44 45 46 47 48 49 50 51 52 53 54 55 1956Figure 1.1. Estimated average weekly hours for all persons employed in agricultural andnonagricultural industries, 18501940 (ten-year intervals) and 19411956 (annualaverages for all employed persons, including the self-employed and unpaid familyworkers.) Source: Zeisel (1958). 27. 1.1 Time concepts 7 Weekly hours42414039Manufacturing38 47 5767 77879707 (a) Weekly hours 39 37 36 Services 34 33 3165 7585 9505 (b)Figure 1.2. Average weekly hours worked by production workers in (a) manufacturing,19472009, and (b) service industries, 19642009. Source: U.S. Department ofCommerce.comparison, average hours worked in other major countries, as illustrated inFigure 1.3, have declined markedly since 1970. Although this suggests that there has been little, if any, expansion ofleisure time in the United States, what has apparently happened instead isthat work schedules now provide greater diversity. As noted by Smith (1986),A larger percentage of people worked under 35 hours or over 49 hours aweek in 1985 than in 1973, yet the mean and median hours (38.4 and 40.4,respectively, in 1985) remained virtually unchanged.4 If ndings from public-opinion surveys on Americans and the arts are tobe believed, the number of hours available for leisure may actually at bestbe holding steady.5 Schor (1991, p. 29), however, says that between 1969 28. 81 ECONOMIC PERSPECTIVES2,300 Japan2,000 U.S. U.K.1,700FranceGermany1,4007075 80 8590 9500 05 10Figure 1.3. Average annual hours worked in the United States versus other countries,19702009. Source: OECD Employment Outlook.and 1987, the average employed person is now on the job an additional163 hours, or the equivalent of an extra month a year . . . and that hours haverisen across a wide spectrum of Americans and in all income categories.6 But Aguiar and Hurst (2006) argue the opposite. And as shown in Table1.2, McGrattan and Rogerson (2004) found that since World War II, thenumber of weekly hours of market work in the United States has remainedroughly constant, even though there have been dramatic shifts in varioussubgroups. Also, Robinson (1989, p. 34), who has measured free time byage categories, found that most gains in free time have occurred between1965 and 1975 [but] since then, the amount of free time people have hasremained fairly stable. By adjusting for age categories, the case for anincrease in total leisure hours available becomes much more persuasive.7Table 1.2. Aggregate weekly hours worked per person (+15), 19502000Average weekly hours worked Employment toYearPer personPer worker population ratio (%)195022.34 42.4052.69196021.55 40.2453.55197021.15 38.8354.47198022.07 39.0156.59199023.86 39.7460.04200023.94 40.4659.17% change, 19502000: 7.18 4.5612.30Source: McGratten and Rogerson (2004), U.S. Dept. of Commerce, Bureau of theCensus. 29. 1.2 Supply and demand factors 9 In addition, Roberts and Rupert (1995) found that total hours of annualwork have not changed by much but that the composition of labor has shiftedfrom home work to market work, with nearly all the difference attributableto changes in the total hours worked by women. A similar conclusion as toaverage annual hours worked was also reached by Rones, Ilg, and Gardner(1997).8 Yet, as Jacobs and Gerson note (1998, p. 457), even though the aver-age work week has not changed dramatically in the U.S. over the last severaldecades, a growing group of Americans are clearly and strongly pressed fortime. In all, it seems safe to say that for most middle-aged and middle-incomeAmericans and recently for Europeans too leisure time is probablynot expanding.9 However, no matter what the actual rate of expansion orcontraction may be, there has been a natural evolution toward repackagingthe time set aside for leisure into more long holiday weekends and extravacation days rather than in reducing the minutes worked each and everyweek.10 Particularly for those in the higher-income categories conspicuous con-sumers, as Veblen would say the result is that personal-consumption expen-ditures (PCEs) for leisure activities are likely to be intense, frenzied, andcompressed instead of evenly metered throughout the year. Moreover, withsome adjustment for cultural differences, the same pattern is likely to beseen wherever large middle-class populations emerge. Estimated apportionment of leisure hours among various activities andthe changes in such apportionment between 1970 and 2010 are indicated inTable 1.3.11 Table 1.4 shows how Americans on the average allocate leisuretime of around ve hours a day.1.2 Supply and demand factorsProductivityUltimately, though, more leisure time availability is not a function of gov-ernment decrees, labor union activism, or factory-owner altruism. It is afunction of the rising trend in output per person-hour in brief, the risingproductivity of the economy. Quite simply, technological advances embod-ied in new capital equipment, in the training of a more skilled labor pool,and in the development of economies of scale allow more goods and servicesto be produced in less time or by fewer workers. Thus, long-term growth inleisure-time-related industries depends on the rate of technological innova-tion throughout the economy. Information concerning trends in productivity and other aspects of eco-nomic activity is provided by the National Income and Product Accounting(NIPA) gures of the U.S. Department of Commerce. According to thosegures, overall productivity between 1973 and 1990 rose at an average 30. 10 1 ECONOMIC PERSPECTIVESTable 1.3. Time spent by adults on selected leisure activities, 1970 and2009 estimates Hours per person % of total time accountedper yeara for by each activityLeisure activity 1970 2009 19702009Television 1,2261,774 46.542.1 Network afliates668 15.8 Independent stations170.4 Basic cable programs 1,014 24.1 Pay cable programs751.8Radio 872 1,038 33.124.6 Home 3638.6 Out of home675 16.0Internet755 17.9Newspapersb 218 1088.3 2.6Recorded musicc68 1532.6 3.6Magazines 170726.5 1.7Leisure books65842.5 2.0Movies: theaters 10110.4 0.3 home video441.0Spectator sports3190.1 0.5Video games: home 1513.6Cultural events 3 60.1 0.1Total2,6354,215100.0 100.0dHours per adult per week50.7 81.1Hours per adult per day7.2 11.5aAveraged over participants and nonparticipants.bIncludes free dailies.cIncludes licensed digital music.dTotals not exact because of rounding.Sources: CBS Ofce of Economic Analysis and Wilkofsky Gruen Associates, Inc.Table 1.4. Leisure time on an average day 2008aMinutes % of totalWatching TV 16856.2Socializing and communicating3812.7Playing computer games 20 6.7Reading20 6.7Other activities 20 6.7Sports, exercise, recreation 17 5.7Relaxing and thinking16 5.4Total 299 100.0aIncludes all persons aged 15+ and all days of the week.Source of data: U.S. Bureau of Labor Statistics www.bls.gov/tvs/charts/leisure.html. 31. 1.2 Supply and demand factors 111.51.31.10.90.70.56070809000Figure 1.4. Nonfarm business productivity in the United States, 19602009, shown byoutput per hour. Index 1992 = 100. Bars indicate periods of recession. Source: U.S.Department of Labor.annual rate of approximately 1.2% as compared with a rate averaging 2.8%between 1960 and 1973 (Figure 1.4). But productivity growth in the 1990srebounded to an average annual rate of 2.0%, thereby implying that thepotential for leisure-time expansion remained fairly steady in the last thirdof the twentieth century.12 This rate of gain was sustained in the rstdecade of the 2000s, when nonfarm business productivity rose by an annualaverage of approximately 2.5%.Demand for leisureAll of us can choose either to fully utilize our free time for recreationalpurposes (dened here and in NIPA data as being inclusive of entertainmentactivities) or to use some of this time to generate additional income. How weallocate free time between the conicting desires for more leisure and foradditional income then becomes a subject that economists investigate withstandard analytical tools.13 In effect, economists can treat demand for leisureas if it were, say, demand for gold, or for wheat, or for housing. And theyoften estimate and depict the schedules for supply and demand with curvesof the type shown in Figure 1.5. Here, in simplied form, it can be seen that,as the price of a unit rises, the supply of it will normally increase and thedemand for it decrease so that, over time, price and quantity equilibrium inan openly competitive market with perfect information will presumably beachieved at the intersection of the curves.14 It is also important to note that consumers typically tend to substituteless expensive goods and services for more expensive ones and that thetotal amounts they can spend their budgets are limited or constrained byincome. Owen (1970) extensively studied the effects of such substitutions 32. 12 1 ECONOMIC PERSPECTIVESP$ 76Demand Price (P) per unit54 Supply3210Q12 3 45 6 7 8910 11 12 Quantity (Q) of units per timeFigure 1.5. Supply and demand schedules.and changes in income as related to demand for leisure and observed,An increase in property income will, if we assume leisure is a superior good, reduce hoursof work. A higher wage rate also brings higher income which, in itself, may incline the indi-vidual to increase his leisure. But at the same time the higher wage rate makes leisure timemore expensive in terms of forgone goods and services, so that the individual may decideinstead to purchase less leisure. The net effect will depend then on the relative strengths ofthe income and price elasticities. . . . It would seem that for the average worker the incomeeffect of a rise in the wage rate is in fact stronger than the substitution effect. (p. 18)In other words, as wage rates continue rising, up to point A in Figure 1.6, peo-ple will choose to work more hours to increase their income (income effect).But they eventually begin to favor more leisure over more income (substitu-tion effect, between points A and B), resulting in a backward-bending labor-supply curve.15 Although renowned economists, including Adam Smith,Alfred Marshall, Frank Knight, A. C. Pigou, and Lionel Robbins, have sub-stantially differed in their assessments of the net effect of wage-rate changeson the demand for leisure, it is clear that leisure does have a price, andchanges in its price will affect the demand for it (Owen 1970, p. 19).Figure 1.6. Backward-bending labor-supply curve. 33. 1.2 Supply and demand factors 13Indeed, results from a Bureau of Labor Statistics survey of some 60,000households in 1986 suggest that about two-thirds of those surveyed do notwant to work fewer hours if it means earning less money.16 As Owen (1970) has demonstrated, estimation of the demand for leisurerequires consideration of many complex issues, including the nature ofworking conditions, the effects of increasing worker fatigue on productionrates as work hours lengthen, the greater availability of educational oppor-tunities that affect the desirability of certain kinds of work, governmenttaxation and spending policies, and market unemployment rates.17Expected utility comparisonsIndividuals differ in terms of the psychic gratication experienced from con-sumption of different goods and services. Consequently, it is difcult to mea-sure and compare the degrees of satisfaction derived from, say, eating dinneras opposed to buying a new car. To facilitate comparability, economists haveadapted an old philosophical concept known as utility (which is essentiallypleasure).18 As Barrett (1974, p. 79) has noted, utility is not a measure ofusefulness or need but a measure of the desirability of a commodity fromthe psychological viewpoint of the consumer.19 Of course, rational individuals try to maximize utility in other words,make decisions that provide them with the most satisfaction. But they arehampered in this regard because decisions are normally made under con-ditions of uncertainty, with incomplete information, and therefore with therisk of an undesired outcome. People thus tend to implicitly include a prob-abilistic component in their decision-making processes and they end upmaximizing expected utility rather than utility itself. The notion of expected utility is especially well applied to thinking aboutdemand for entertainment goods and services. It explains, for example, whypeople may be attracted to gambling, or why they are sometimes willingto pay scalpers enormous premiums for theater tickets. Its application alsosheds light on how various entertainment activities compete for the limitedtime and funds of consumers. To illustrate, assume for a moment that the cost of an activity per unit oftime is somewhat representative of its expected utility. If the admission priceof a two-hour movie is $12, and if the purchase of video-game softwarefor $25 provides six hours of play before the onset of boredom, then thecost per minute for the movie is 10 cents whereas that for the game is6.9 cents. Now, obviously, no one decides to see a movie or buy a gamebased on explicit comparisons of cost per minute. Indeed, for an individual,many qualitative (nonmonetary) factors, especially fashions and fads, mayaffect the perception of an items expected utility. However, in the aggregateand over time, such implicit comparisons do have a signicant cumulativeinuence on relative demand for entertainment (and other) products andservices. 34. 14 1 ECONOMIC PERSPECTIVESTable 1.5. U.S. population by age bracket, components of change, andtrends by life stage, 19702030Components of population change forecastsPercentage distribution Change (millions)Age20002010 2020 2030 200020102010202020202030Under 56.8 6.86.76.5 1.91.71.351718.817.4 17.2 17.0 1.04.74.81834 23.823.4 22.5 21.7 5.44.34.23565 38.139.4 37.5 35.514.75.84.565+ 12.413.0 16.1 19.3 5.1 14.6 17.3Total100.0 100.0100.0100.00 28.1 31.2 32.1Population trends by life stage (millions)Life stage 200020102020 203001356.258.263.668.01424 43.447.748.953.92534 39.841.846.147.03544 45.141.343.748.24554 38.044.741.444.05564 24.436.343.040.365+ 35.140.254.872.1Total282.2 310.2 341.4373.5Source: www.census.gov/population/www/projections/downloadableles.html.Demographics and debtsOver the longer term, the demand for leisure goods and services can alsobe signicantly affected by changes in the relative growth of different agecohorts. For instance, teenagers tend to be important purchasers of recordedmusic; people under the age of 30 are the most avid moviegoers. Accordingly,a large increase in births following World War II created, in the 1960s and1970s, a market highly receptive to movie and music products. As thispostwar generation matures past its years of family formation and into yearsof peak earnings power and then retirement, spending may be naturallyexpected to collectively shift to areas such as casinos, cultural events, andtourism and travel, and away from areas that are usually of the greatestinterest to people in their teens or early twenties. The expansive demographic shifts most important to entertainment indus-try prospects in the United States include (1) a projected increase of 4.7 mil-lion 5- to 17-year-olds from 2010 to 2020 and another 4.8 million from2020 to 2030, and (2) a signicant expansion of the population over age 65(Table 1.5). By 2030, the 65+ group will account for an estimated 19.3% ofthe population as compared to 12.4% in 2000. 35. 1.2 Supply and demand factors 15 Indeed, the marked departure from the years 20002010 is that the numberof people in the 45-to-64 age group will not be increasing in proportion tothe number of people in the 25-to-44 group. This is of particular importancegiven that those in the younger category are generally apt to spend much oftheir income when they enter the labor force and form households, whereasthose in the older category are already established and are thus more likely tobe in a savings mode, perhaps to nance college education for their childrenor to prepare for retirement, when earnings are lower. The ratio of people inthe younger group to those in the older group in effect, the spenders versusthe savers is illustrated in Figure 1.7a. Although it depends on the specic industry component to be ana-lyzed, proper interpretation of long-term changes in population charac-teristics may also require that consideration be given to several addi-tional factors, which include dependency ratios, fertility rates, number ofrst births, number of families with two earners, and trends in labor-force participation rates for women (Figure 1.7b).20 (In 2010, womenaccounted for approximately 47% of the labor force, up from 40% in1975.) Indeed, two paychecks have become an absolute necessity for many fam-ilies, as they have attempted to service relatively high (in proportion toincome) installment and mortgage debt obligations that have been incurredin the household-formative years. As such, elements of consumer debt (Fig-ure 1.7c), weighted by the aforementioned demographic factors, probablyexplain why, according to the Louis Harris surveys previously cited, leisurehours per week seem to have declined since the early 1970s. As the medianage rises, however, these very same elements may combine to abate pressureson time availability. As can be seen from Figure 1.8, aggregate spending on entertainment isconcentrated in the middle-age groups, which are the ages when incomeusually peaks, even though free time may be relatively scarce.Barriers to entryThe supply of entertainment products and services offered would also dependon how readily prospective new businesses can overcome barriers to entry(i.e., competitive advantages) and thereby contest the market. Barriers toentry restrict supply and t largely into the following categories, listed inorder of importance to the entertainment industries:CapitalKnow-howRegulations21Price competitionTo compete effectively, large corporations must of necessity invest consider-able time and capital to acquire technical knowledge and experience. But thesame goes for individual artists seeking to develop commercially desirable 36. 161 ECONOMIC PERSPECTIVES2.21.8Ratio 1.41.0 Ages 20 to 34 versus 45 to 590.650709010 30(a) % 60 50Labor force 40 participation of women 30 6070809000 10(b)%2219 Consumer credit as a % of PI16131060 7080900010(c)Figure 1.7. (a) Ratio of spenders to savers, 19502030. (b) Labor force participationrate for women, 19602009. (c) Consumer credit as a percentage of personal income,19602009. 37. 1.3 Primary principles17 $ 4,000 3,200 2,400 1,6008000 under 25 25-34 35-44 45-54 55-64 65-74 75+Figure 1.8. Spending on entertainment classied by age groups, 2008. Source: U.S.Department of Commerce survey.products in the form of plays, books, lms, or songs. Government regula-tions such as those applying to the broadcasting, cable, and casino businessesoften present additional hurdles for potential new entrants to surmount. Fur-thermore, in most industries, established rms ordinarily have some abilityto protect their positions through price competition.1.3 Primary principlesMarginal mattersMicroeconomics provides a descriptive framework in which to analyze theeffects of incremental changes in the quantities of goods and services sup-plied or demanded over time. A standard diagram of this type, Figure 1.9,shows an idealized version of a rm that maximizes its prots by pricingits products at the point where marginal revenue (MR), the extra revenuegained by selling an additional unit, equals marginal cost (MC), the cost ofsupplying an extra unit. Here, the average cost (AC), which includes bothxed and variable components, rst declines and is then pulled up by risingmarginal cost. Prot for the rm is represented by the shaded rectangle (price[p] times quantity [q] minus cost [c] times quantity [q]). Given that popular entertainment products feature one-of-a-kind talent(e.g., Elvis or Sinatra recordings) or brand-name services (e.g., MTV, Dis-ney theme parks), the so-called competitive-monopolistic model of Fig-ure 1.9a, in which many rms produce slightly differentiated products, isnot farfetched. The objectives for such prot-maximizing rms are to bothrightward-shift and also steepen the demand schedule idealized by line D.A shift to the right represents an increase in demand at each given price.And a schedule of demand that becomes more vertical that is, quantitydemanded becomes less responsive to change in price (i.e., becomes more 38. 181 ECONOMIC PERSPECTIVES P pMC DAC c MRqQ(a) P p MC AC c MR DqQ(b) P Ap1Cp2 DB q1 q2Q(c)Figure 1.9. (a) Marginal costs and revenues, normal setting, (b) demand becomes moreinelastic and right-shifted, and (c) consumers surplus under price discrimination. 39. 1.3 Primary principles 19price-inelastic) through promotional and advertising efforts enables a rmto reap a potentially large proportionate increase in prots as long as marginalcosts are held relatively at (Figure 1.9b). In all, the more substitutes areavailable, the greater is the price elasticity of demand. Look, for example, at what happens when a movie is made. The initialcapital investment in production and marketing is risked without knowinghow many units (including theater tickets, home video sales and rentals, andtelevision viewings) will ultimately be demanded. The possibilities rangefrom practically zero to practically innite. Whatever the ultimate demand turns out to be, however, the costs ofproduction and marketing, which are large compared with other, later costs,are mostly borne upfront. Come what may, the costs here are sunk (i.e., thebulk of the money is already spent and should be presumed unrecoverable),whereas in many other manufacturing processes, the costs of raw materialsand labor embedded in each unit produced (variable and marginal) may berelatively high and continuous over time. In entertainment, the cost of producing an incremental unit (e.g., an extramovie print) is normally quite small as compared with the sunk costs, whichshould by this stage be irrelevant for the purpose of making ongoing strate-gic decisions. It may thus, accordingly, be sensible for a distributor to take achance on spending a little more on marketing and promotion in an attemptto shift the demand schedule into a more price-inelastic and rightwardposition. Such inelastic demand is characteristic of products and servicesthatAre considered to be necessitiesHave few substitutesAre a small part of the budgetAre consumed over a relatively brief timeAre not used oftenEconomists use estimates of elasticity (i.e., responsiveness) to indicate theexpected percentage change in demand if there is a 1% change up ordown in prices or incomes (or some other factor). In the case of income,this can be stated as % change in quantity demandedi = .% change in incomeAll other things being equal, quantity demanded would be normally expectedto rise with an increase in income and decline with an increase in price.22 Forexample, if quantity demanded declined 8% when price rose 4%, the priceelasticity of demand would be 2.0. In theory, cross-elasticities of demandbetween goods and services that are close substitutes for each other (a newStar Trek lm versus a new Star Wars lm), or complements to each other(movie admissions and sales of popcorn), might also be estimated. 40. 201 ECONOMIC PERSPECTIVES Similarly, elasticity with respect to income can be estimated for goodsand services classiable as luxuries, necessities, or inferiors. With luxuries,quantity demanded grows faster as income rises, and the income elasticityis greater than 1.0. For necessities, quantity demanded increases as incomerises but more slowly than income (elasticity 0.0 to 1.0). And for infe-rior goods, income elasticity is negative, with quantity demanded fallingas income rises. By these measures, most entertainment products and ser-vices are either necessities or luxuries for most people most of the time(but with classication subject to change over the course of an economic orindividuals life cycle). That demand grows more slowly than income for needs (e.g., food, shelter,clothing) and more quickly for wants (e.g., entertainment, travel, recreationexperiences) has been seen in most societies and nations. Figure 1.10 isbased on per capita data from 116 countries and compares income elasticityestimates for a need category such as clothing to those for a want categorysuch as recreation. From this it can be seen in the upper panel that needsdemand grows at about the same pace as income, but that wants demandtends to rise at a higher rate than income for recreation goods and services.Clearly, as countries become wealthier, people tend to spend proportionatelymore of their income on wants rather than needs.23Price discriminationIf, moreover, a market for, say, airline or theater seats (see Chapter 13) canbe segmented into rst and economy classes, prots can be further enhancedby capturing what is known in economics as the consumers surplus the price difference between what consumers actually pay and what theywould be willing to pay. Such a price discrimination model extracts, withoutadding much to costs, the additional revenues shown in the cross-hatchedrectangular area of Figure 1.9c. The conditions that enable discriminationincludeExistence of monopoly power to regulate pricesAbility to segregate consumers with different elasticities of demandInability of original buyers to resell the goods or servicesPublic good characteristicsPublic goods are those that can be enjoyed by more than one person withoutreducing the amount available to any other person; providing the good toeveryone else is costless. In addition, once the good exists, it is generallyimpossible to exclude anyone from enjoying the benets, even if a personrefuses to pay for the privilege. Such nonpayers are, therefore, free riders.Spending on national defense or on programs to reduce air pollution is ofthis type. And in entertainment, it is not unusual to nd near-public-good 41. 1.4 Personal-consumption expenditure relationships 21 Consumption (needs) $48,000 $12,000$3,000$750$188 $47 $12$3 $3$12 $47$160 $750 $3,000$12,000 $48,000Income Consumption (wants) $48,000 $12,000$3,000$750$188 $47 $12$3 $3$12 $47 $181$750$3,000 $12,000 $48,000 IncomeFigure 1.10. Needs (clothing) and wants (recreation): income elasticity estimates in 116countries, 2006. Source: Cox and Alm (2007). Federal Reserve Bank of Dallas.characteristics: The marginal cost of adding one viewer to a televisionnetwork program or of allowing an extra visitor into a theme park is notmeasurable.1.4 Personal-consumption expenditure relationshipsRecreational goods and services are those used or consumed during leisuretime. As a result, there is a close relationship between demand for leisureand demand for recreational products and services. 42. 221 ECONOMIC PERSPECTIVESTable 1.6. PCEs for recreation in current dollars, selected categories,19902009 aProduct or service by function 19902000 2009bTotal recreation expenditures227.4 489.6 696.3Percentage of total personal consumption 5.4 6.7 6.4Amusement parks, campgrounds, etc.19.231.141.8Gambling23.767.6 109.3Magazines, newspapers, and books47.381.0 105.1Video and audio equipment, including81.1 184.4 265.2computers and related servicesAdmissions to specied spectator 14.4 30.645.6amusements, totalMotion picture theaters 5.18.610.4Spectator sportsb 4.8 11.620.7aIn billion of dollars, except percentages. Represents market value of purchases ofgoods and services by individuals and nonprot institutions. See Historical Statistics,Colonial Times to 1970, series H 878893, for gures issued prior to 1981 revisions.bIncludes professional and amateur events and racetracks.Sources: U.S. Bureau of Economic Analysis, The National Income and Product Accountsof the United States, 19291976; and Survey of Current Business, July issues. As may be inferred from Table 1.6, NIPA data classify spending on recre-ation as a subset of total PCEs. This table is particularly important because itallows comparison of the amount of leisure-related spending to the amountsof spending for shelter, transportation, food, clothing, national defense, andother items.24 For example, percentages of all PCEs allocated to selectedmajor categories in 2009 were as follows:Medical care 19.7%Housing15.8%Transportation8.9%Food (excl. alcohol bevs.)6.6%Clothing3.4%Also, as may be seen in Figure 1.11, spending on entertainment services hastrended gradually higher as a percentage of all PCEs, whereas the percentagespent on clothing and food has declined. That spending on total recreational goods and services responds to preva-lent economic forces with a degree of predictability can be seen in Fig-ure 1.11.25 Figure 1.12 illustrates that PCEs for recreation as a percentage oftotal disposable personal income (DPI) had held steady in a band of roughly4.0% to 6.5% for most of the 60 years beginning in 1929. It is only sincethe late 1980s that new heights have been achieved as a result of a relativelylengthy business cycle expansion, increased consumer borrowing ratios, 43. 1.4 Personal-consumption expenditure relationships23%20Medical services1510Food All recreation5Clothing Entertainment services-8085 9095000510Figure 1.11. Trends in percentage of total personal consumption expenditures in selectedcategories, 19802009.demographic and household formation inuences, and the proliferation ofleisure-related goods and services utilizing new technologies. Measurement of real (adjusted for ination) per capita spending on totalrecreation and on recreation services provides yet another long-term view ofhow Americans have allocated their leisure-related dollars. Although the ser-vices subsegment excludes spending on durable products such as televisionsets, it includes movies, cable TV, sports, theater, commercial participantamusements, lotteries, and pari-mutuel betting areas in which most of thelargest growth has been recently seen. The percentage of recreation servicesspending is now above 50% of the total spent for all recreation (Figure 1.13),and a steeper uptrend in real per capita PCEs on total recreation and on recre-ation services beginning around 1960 is suggested by Figure 1.14.26 This apparent shift toward services, which is also being experiencedin other economically advanced nations, is a reection of relative market%9865329 49 6989 09Figure 1.12. PCE for recreation as percentage of disposable income, 19292009. 44. 24 1 ECONOMIC PERSPECTIVES %6055504540 596979 89 99 09Figure 1.13. PCE on recreation services as percentage of total PCE on recreation,19592009.saturation for durables, relative price-change patterns, and changes in con-sumer preferences that follow from the development of new goods andservices. As such, even small percentage shifts of spending may representbillions of dollars owing into or out of entertainment businesses. And formany rms, the direction of these ows may make the difference betweenprosperous growth or struggle and decay. Because various entertainment sectors have such different responses tochanging conditions, the degree of recession resistance, or cyclicity of theentertainment industry relative to that of the economy at large, is unfor-tunately not well depicted by such time series. For example, broadcastingrevenue trends are dependent on advertising expenditures, which are, inturn, related to total corporate prots. However, the movie and theater seg-ments often exhibit contracyclical tendencies and, to effectively study these$1,400 Total 1,050 700 350Services029 49698909Figure 1.14. Real per-capita spending on total recreation and on recreation services,19292009. 45. 1.5 Industry structures and segments25business cycle relationships, data at a less aggregated level must thereforebe used. Measures of what is known as the gross national product (GNP),or of the more recent standard of gross domestic product (GDP), thus canprovide only a starting point for further investigations.27 In addition, nancial analysts of entertainment and media industries oughtalso to recognize now for the rst time that the price of oil has the potential togreatly affect overall personal-consumption expenditures and signicantlyalter sector growth patterns from historical relationships. Although thereremains considerable controversy, there is now mounting evidence that theworld cannot continue to nd or produce the relatively low-cost petroleumthat has enabled consumers around the world to spend an increasing part oftheir incomes on leisure and entertainment pursuits.281.5 Industry structures and segmentsStructuresMicroeconomic theory suggests that industries can be categorized accordingto how rms make price and output decisions in response to prevailingmarket conditions. In perfect competition, rms all make identical products,and each rm is so small in relation to total industry output that its operationshave a negligible effect on price or on quantity supplied. At the other idealizedextreme is monopoly, in which there are no close substitutes for the singlerms output, the rm sets prices, and there are barriers that prevent potentialcompetitors from entering.In the real world, the structure of most industries cannot be characterized asbeing perfectly competitive or as monopolistic but as somewhere in between.One of those in-between structures is monopolistic competition, in whichthere are many sellers of somewhat differentiated products and in whichsome control of pricing and competition through advertising is seen. Anoligopoly structure is similar, except that in oligopolies, there are only a fewsellers of products that are close substitutes, and pricing decisions may affectthe pricing and output decisions of other rms in the industry. Although thedistinction between monopolistic competition and oligopoly is often blurred,it is clear that when rms must take a rivals reaction to changes of price intoaccount, the structure is oligopolistic. In media and entertainment, industrysegments fall generally into the following somewhat overlapping structuralcategories:MonopolyOligopolyMonopolistic CompetitionCable TVMovies BooksNewspapersRecorded music MagazinesProfessional sports teams Network TV Radio stationsCasinosToys and gamesTheme parksPerforming arts 46. 26 1 ECONOMIC PERSPECTIVESThese categories can then be further analyzed in terms of the degree towhich there is a concentration of power among rival rms.29 A measurethat is sensitive to both differences in the number of rms in an indus-try and differences in relative market shares the HerndahlHirschmanIndex is frequently used by economists to measure the concentration ofmarkets.30SegmentsThe relative economic importance of various industry segments is illustratedin Figure 1.15, the trendlines of which provide long-range macroeconomicperspectives on entertainment industry growth patterns. These patterns thentranslate into short-run nancial operating performance, which is revealed byTable 1.7, in which revenues, pretax operating incomes, assets, and cash ows(essentially earnings before taxes, interest, depreciation, and amortization)for a selected sample of major public companies are presented. This sam-ple includes an estimated 80% of the transaction volume in entertainment-related industries and provides a means of comparing efciencies in varioussegments. Cash ow is particularly important because it can be used to service debt,acquire assets, or pay dividends. Representing the difference between cashreceipts from the sale of goods or services and cash outlays required in pro-duction of the same, operating cash ow is usually understood to be operatingincome before deductions for interest, taxes, depreciation, and amortization(EBITDA) and more recently and alternatively, operating income beforedepreciation and amortization (OIBDA).31 Although it has lost some analyt-ical favor in recent years, cash ow (EBITDA), so dened, has customarilybeen used as the basis for valuing all kinds of media and entertainmentproperties because the distortionary effects of differing tax and nancialstructure considerations are stripped away: A business property can thusbe more easily evaluated from the standpoint of what it might be worth topotential buyers.32 More immediately, it can be seen further that entertainment industriesgenerated revenues (on the wholesale level) of about $365 billion in 2009 andthat annual growth between 2005 and 2009 averaged approximately 2.7%.Over the same span, which included a long and deep recession, operatingincome declined at a compound rate of 3.7%, with total assets remaininglargely unchanged. A thorough analysis of the composites shown in Table 1.7 would never-theless further require consideration of many business-environmental fea-tures, including interest rates, antitrust policy attitudes, the trend of dollarexchange rates, and relative pricing power. This last factor is suggested byFigure 1.16, which compares the rise of the Consumer Price Index for afew important entertainment segments against the average of all items for 47. 1.5 Industry structures and segments27 % 60 50 Movies 40 30 20 Cable 10 0 2949698909 (a)% 36Newspapers and 27 periodicals 18 Recreational books90 2949698909 (b)% 8 6Commercial theater 4 2 0 29 496989 09 (c)Figure 1.15. PCEs of selected entertainment categories as percentages of total PCE onrecreation, 19292009. 48. 28 1 ECONOMIC PERSPECTIVES%25Casinos2015 Pari-mutuels10 5Lotteries 0 294969 8909(d) %10864Spectator sports2029 4969 8909(e)Figure 1.15 (cont.)400 Cable320240 Tickets*160 CPI-U8083889398 0308Figure 1.16. Ination-rate comparisons for Consumer Price Index (CPI-U) and selectedindustry segments, 19822009. Source: Bureau of Labor Statistics. Tickets to movies,theaters, and concerts. 49. 1.5 Industry structures and segments 29Table 1.7. Entertainment industry composite, selected sample, 20052009Compound annual growth rates (%): 20052009 No. companiesOperatingOperatingIndustry segment in sample Revenues IncomeAssets cash owBroadcasting (television &23 7nm 1822 radio)Cable (video subscription 13812 nm nm services)Filmed entertainment 6 1 2154Gaming (casinos)18 1nm 416Internet 5 40nm21 19Publishing (books, mags., 22 415 711 newsp.)Recorded music4 2 73 0Theatrical exhibition 5 9 13 42Theme parks 51 22312Toys8 6nm 15 1Total109Total compositePretax return (%) onOperatingincome Operating RevenuesAssets Revenues($ billions)Assets cash ow2009 11.5 6.0 364.7 42.0694.6 88.52008 0.30.2 374.4 NMa 761.0 79.72007 15.0 7.3 260.8 54.1737.8197.42006 16.4 7.3 327.4 53.3729.9189.32005 14.9 6.0 327.4 48.8813.1180.0CAGRb 2.7 3.7 3.916.3a Not meaningful.b Compound annual growth rate (%).Source: Company reports.all urban consumers (CPI-U). From this, it can be seen that cable televisionservice prices have been rising at well above average rates. Although economists also examine various segments through the useof what are known as inputoutput (I/O) tables, such tables are morerobustly employed in the analysis of industrial products and commoditiesand in travel and tourism than they are in entertainment and media ser-vices. A typical I/O table in entertainment would, for example, indicatehow much the advertising industry depends on spending by entertainmentcompanies.33 Finally, an indexed comparison of the percentage of personal consumptionexpenditures going to different segments reveals the effects of changes in 50. 301 ECONOMIC PERSPECTIVES Index 2.5sports 2.0 1.5 1.0live ent. 0.5movies 0.0 2949 69 8909Figure 1.17. Indexed personal consumption expenditures on spectator sports, liveentertainment, and movie theater admissions as percentages of total PCEs, 19292009(1929 = 1.0).technology and in spending preferences. Three such trends are reected inFigure 1.17, which illustrates the indexed percentages of total PCEs goingto movie admissions, spectator sports, and live entertainment (includinglegitimate theater, opera, and entertainments of nonprot institutions, i.e.,performing arts). Interestingly, since around 1980, live entertainment, witha boost from relatively rapidly rising prices, had until recently gained in com-parison with the percentage spent on spectator sports. Meanwhile, though,the percentage of PCE spending for movie tickets has fallen sharply nowthat technology has provided many other diversions and/or alternative meansof seeing lms (e.g., on videocassettes, DVDs, satellite or cable televisionhookups, or the Internet).1.6 Valuation variablesImportant as it is to understand the economic perspectives, it is ultimatelythe role of the nancial analyst to condense this information into an assetvaluation estimate. The key question for investors is whether the market iscorrectly pricing the assets of an industry or of a company. In attempting toarrive at an answer, we nd that valuation of assets often involves as muchart as science. Valuation methods fall into three main categories of approach, using dis-counted cash ows, comparison methods, and option pricing models. Some-times all three approaches are suitable and the results are compared. At othertimes the characteristics of the asset to be valued are such that it makes sensefor only one approach to be used. In most cases, however, discounted cashow is the central concept, which takes account of both the time value ofmoney and risk. 51. 1.6 Valuation variables 31Discounted cash owsGiven that the primary assets of media and entertainment companies aremost often intangible and are embodied in the form of intellectual prop-erty rights, it makes sense to base valuations on the expected future protsthat the control of such rights might reasonably be expected to conveyover time. Although it is not a awless measure, estimated cash ow (orperhaps EBITDA) discounted back to a present value will usually providea good reection of such prot potential as long as the proper discountrate is ascribed: Cash ow to equity must use a cost of equity capital dis-count rate (i.e., after interest expenses and principal payments), whereascash ow to the rm (i.e., prior to interest expenses and principal pay-ments) would use a weighted average cost of capital (WACC) discountrate. Essentially, the discounted cash ow approach takes the value of any assetas the net present value (NPV) of the sum of expected future cash ows asrepresented by the following formula: nNPV =CFt /(1 + r)t , t=1where r is the risk-adjusted required rate of return (tied to current interestrates), CFt is the projected cash ow in period t, and n is the number offuture periods over which the cash stream is to be received. To illustrate this most simply, assume that the required rate of return is9%, that the projected cash ows of a television program in each of the nextthree years are $3 million, $2 million, and $1 million, and that the programhas no value beyond the third year. The NPV of the program would thenbe 3/(1.0 + 0.09) + 2/(1.0 + 0.09)2 +1/(1.0 + 0.09)3 = 2.75 + 1.683 +0.7722 = $5.205 million.Comparison methodsValuations can also be made by comparing various nancial ratios andcharacteristics of one company or industry to another. These comparisonswill frequently include current price multiples of cash ows and estimates ofearnings, shareholders equity, and revenue growth relative to those of similarproperties. For instance, often one of the best yardsticks for comparingglobal companies that report with different accounting standards is a ratio ofenterprise value (EV) to EBITDA. Enterprise value, subject to adjustmentfor preferred shares and other off-balance-sheet items, equals total commonshares outstanding times share price (i.e., equity capitalization) plus debtminus cash. A ratio of price to cash ow, earnings, revenues, or some other nancialfeature should of course already reect inherently the estimated discounted 52. 321 ECONOMIC PERSPECTIVEScash ow and/or salvage (terminal) values of an asset or class of assets. Ifcable systems are thus being traded at prices that suggest multiples of tentimes next years projected cash ow, it is likely that most other systemswith similar characteristics will also be priced at a multiple near ten. In valuations of entertainment and media assets, this comparative-multipleapproach is the one most often used, even though it is not particularly goodin capturing what economists call externalities those factors that wouldmake a media property especially valuable to a specic buyer. Prestige,potential for political or moral inuence, and access to certain markets areexternalities that ordinarily affect media transaction prices.OptionsFor assets that have optionlike characteristics or that are not traded fre-quently, neither the discounted cash ow nor the price and ratio comparisonapproach can be readily applied. Instead, option-pricing models (e.g., theBlackScholes model) that use contingent claim valuation estimates (ofassets that pay off only under certain contingencies and assumed probabilitydistributions) are usually employed. With the possible exception of start-up Internet shares in the late 1990s,however, this approach has not normally been used in entertainment industrypractice unless the asset to be valued is an option contract (e.g., a warrant,call, or put) or is a contract for marketing or distribution rights or for someform of intellectual property right, such as for a patent.341.7 Concluding remarksThis chapter has sketched the economic landscape in which all entertainmentindustries operate. It has indicated how hours at work, productivity trends,expected utility functions, demographics, and other factors can affect theamounts of time and money we spend on leisure-related goods and services.It has also provided benchmarks against which the relative growth rates andsizes of different industry segments or composites can be measured. Forexample, as a percentage of disposable income, US PCEs for recreation encompassing spending on entertainment as well as other leisure-time pur-suits rst rose to well over 6% in the 1980s. In all, entertainment is bigbusiness: At the wholesale level it is now generating annual revenues exceed-ing $300 billion. Moreover, as measured in dollar value terms, entertainmenthas consistently been one of the largest net export categories (estimated tobe at least $10 billion in 2010) for the United States.35 Technological innovation has obviously played an important role too. Itunderlies the very growth of productivity and thus of the relative supplyof leisure time. But just as signicantly, technological advance, trackedin Figure 1.18, has changed the way in which we think of entertainmentproducts. Such products whether movies, music, TV shows, video games, 53. Five-day workweek introduced at FordFirst tv demonstratedNevada gaming legalizedFM radio invented Telecommunications regulated by Congress, FCC formed Fair Labor Standards Act passed by Congress Regular tv program service beginsSony Corp. founded ENIAC computer developed 33 1/3 rpm recordings introducedFirst CATV systemParamount Consent DecreeTransistors perfected FCC chooses RCA TV color technology Disneyland opensInterstate Highway Act First orbiting satellite (Sputnik) launched by SovietsFairchild ships first integrated circuits Sports Broadcasting Act passes by CongressLasers perfectedFM radio popularized Intel Corp. foundedDisney World opensMicroprocessors introduced HBO begins satellite program distributionMicrosoft Corp. foundedFirst home video games Atlantic City legalizes casinos First VCRs appear CNN begins Compact discs introducedMirage opens in Las VegasTime Inc. buys Warner Communications Sony buys Columbia PicturesMotion PictureNews Corp. distributes global tv``Trust formed Matsushita buys MCA Fin-syn rules endedTelephone introduced Internet popularized Telecom deregulation Edison develops Edison perfectsDigital TV Standards Agreement AM radio phonographmotion picturesDigital Video Discs popularized popularized AOL buys Time Warner for $168 billionSlot machinesVivendi buys Seagram/Universal for $35 billionintroduced Terrorists attack U.S.GE/NBC buys UniversalFirst iPod and iTunes introduced by Appleautomobiles Blu-Ray DVDs win, Netflix & Redbox prosperRecession batters advertising and gamingComcast buys NBCUEntertainment moves to "cloud" 1870 1890191019301950 1970 1990 201033Figure 1.18. Entertainment industry milestones, 18702009. 54. 341 ECONOMIC PERSPECTIVESor words must now be regarded as composite bits of information that canbe produced, processed, and distributed as series of digits coded bursts ofzeros and ones that can represent sounds, pictures, and texts. Already, thishas greatly altered the entertainment industrys economic landscape. The past, then, is clearly not a prologue especially in a eld wherecreative people are constantly nding new ways to turn a prot. The wide-ranging economic perspectives discussed in this chapter, however, provide acommon background for all that follows.Notes1. Similarly, the concept of play has been studied under the disciplines of sociology andpsychology. The Dutch anthropologist Johan Huizinga in his book Homo Ludens [Man thePlayer] (1955 [1938]) advanced the notion that play might be its own end. Huizinga (1955,p. 8) notes that the rst main characteristic of play is that it is free, it is freedom. A secondcharacteristic . . . is that play is not ordinary or real life. It also demands order, casts aspell over us, and contains elements of tension and solution, such as in gambling. In brief,play is a form of instinctive behavior unregulated by conscious thought. See also Henig(2008). Torkildsen (1999, p. 93) makes further distinctions between play, recreation, and leisure.Play activity is freely chosen and indulged in for its own sake and for the satisfactionit brings in the doing: it exhibits childlike characteristics of spontaneity, self-expressionand a creation of its own special meaning. . . . Recreation, unlike play, appears to needto be justied. . . . It carries greater social responsibilities than leisure. . . . Re-creation isanother meaning. In its purest sense, it is characterized by an inner-consuming experienceof oneness that leads to revival. . . . Leisure is perceived in different ways time, activity,experience, state of being, a way of life, and so on. . . . It can encompass play and recreationactivity. Here, recreation, play, and leisure concepts form partially overlapping circlescentered on pleasure. See also Roberts (1995).2. In Henig (2008), former psychiatrist and president of the National Institute for PlayStuart Brown is quoted as saying that there are dangerous long-term consequences of playdeprivation and that play is as fundamental as any other aspect of life, including sleep anddreams.3. As De Grazia (1962, p. 13) notes, it is obvious that time on ones hands is not enoughto make leisure, and free time accompanied by fear and anxiety is not leisure. Aristotlesconcept of leisure and work and the connections to culture are more deeply discussed inPieper (2009).4. As Smith (1986, p. 8) has further noted, such surveys indicate that for full-time, day-shift plant workers, the average workweek decreased by 0.8 hour between 1973 and 1985,but that, over the same period, the schedule of full-time ofce workers in the private sectorrose by 0.2 hour, with the result that the workweek of these two large groups convergedmarkedly. Also, Hedges and Taylor (1980) show that hours for full-time service workers declinedfaster than for white-collar and blue-collar employees between 1968 and 1979. And theBureau of Labor Statistics estimated that the percentage of nonagricultural salaried jobs inwhich the workweek exceeded 49 hours rose to 18.5% in 1993 as compared with 14.2% in1973. Through World War I Americans regularly worked six days a week, and it was not 55. Notes 35until after passage of the Fair Labor Standards Act in 1938 that overtime pay and a 40-hourworkweek became the norm.5. A Louis Harris nationwide survey found that the estimated hours available for leisurehad been steadily decreasing from 26.2 hours per week in 1973 to 16.6 hours per weekin 1987. Since 1989 this has stabilized at around 20 hours. Harris argues that an apparentcombination of economic necessities and choices by women who want to work has increasedthe number of families in which both husbands and wives hold jobs. Also see Gibbs (1989).6. These estimated changes in hours worked appear strikingly high. It seems that, althoughthe analysis could have been correct in catching the direction of change, it might have mis-takenly estimated its magnitude. Schors book is so politically imbued with an anticapitalisttheme that the methodology and the objectivity of its ndings are suspect. See also Robinsonand Godbey (1997) and The Economist, December 23, 1995, p. 12.7. Robinson (1989, p. 35) found, for example, that people aged 51 to 64 have gainedthe most free time since 1965, mainly because they are working less. Among people inthis age group, the proportion of men opting for early retirement increased considerablybetween 1965 and 1985. Also, Robinson and Godbey (1997) suggest that Americans, inthe aggregate, have more time for leisure because of broad trends toward younger retirementand smaller families. Except for parents of very young children, or those with more thanfour children under 18, everyone else, they say, has gained at least one hour per week since1965.8. Roberts and Rupert (1995) state that the presumption of declining leisure is a fallacy.Previous studies purporting to have uncovered such a fact have not adequately disentangledtime spent in home production-activities . . . from time spent enjoying leisure activities.[W]hile hours of market work and home work have remained fairly constant for mensince the mid-1970s, market hours have been rising and home production hours have beendeclining for women. . . . Possible reasons include an increase in market versus nonmarketproductivity or labor-saving technological advancements in the home. Rones, Ilg, and Gardner (1997) concluded that, between 1976 and 1993, after removingthe effect of the shifting age distribution, average weekly hours for men showed virtually nochange (edging up from 41.0 to 41.2 hours), and the average workweek for women increasedby only a single hour [but] . . . a growing proportion of workers are putting in very longworkweeks. . . . This increase is pervasive across occupations, and the long workweek itselfseems to be associated with high earnings and certain types of occupations. See Kirkland(2000). Also note that the U.S. Federal Government approved funding in December 2000for an American Time Use Survey of Activity. See Shelley (2005).9. Divergence of results in studying hours of work may be caused by differences inhow government data are used. For example, such data generally are based on hours paidrather than hours worked. This means that a worker on paid vacation would be countedas working, even though he or she was not. Also, hours per job, rather than hours perworker, are used. The shift in work-hour trends in Europe is a function of competition fromlow-wage countries and is discussed in Landler (2004).10. Rybczynski (1991) provides a detailed history of the evolution of the weekend, andSpring (1993) provides a study of the popularity of spare-time activities classied by day ofthe week. Television viewing, consuming one-third of free time on weekdays and one-fourthon weekends, leads the list by far on every day of the week.11. Studies comparing time allocation in different countries can be found in Juster andStafford (1991), where, for example, it can be seen that both men and women allocate moretime to leisure in the United States than in Japan or Sweden. As Bell and Freeman (2000) 56. 36 1 ECONOMIC PERSPECTIVESnote, however, the differences in hours worked in different countries are related less tocultural values than to a greater diversity of wages, the effects of number of hours workedon future compensation, and less job security in the United States than elsewhere. Theynd that an American working 2,000 hours per year who increases that by 10%, to 2,200hours, can generally expect a 1 percent increase in future wages.12. The apparently reduced rate of improvement between 1973 and 1990 may have beencaused by unexpected sharp cost increases for energy and capital (interest rates), by highcorporate debt levels, or perhaps by the burgeoning underground (off-the-books) economynot directly captured in (and therefore distorting) the NIPA numbers. As McTague (2005)suggests, growth of the underground economy still creates important distortions, especiallyin the measurement of productivity.13. There are many ne texts providing full description of these tools; see, for example,Henderson and Quandt (1971).14. In most mathematical presentations, the independent variable, or the cause ofchange, is presented along the horizontal x-axis and the dependent variable on the ver-tical y-axis. Economists, however, have generally found it more convenient to depict prices(the independent variable) and quantities by switching the axes. Thus, prices are usuallyseen on the vertical axis and quantities on the horizontal one. Werner (2005, p. 326) notesthat The variable that produces the equilibrium in this model is price. However, to achievethis outcome, perfect information is required. If there is imperfect information, there isno guarantee that equilibrium will ever be obtained. It would be pure chance if demandequaled supply.15. In Linder (1970), standard indifference-curve/budget-line analysis is used to show howthe supply of labor is a function of income and substitution effects. The standard consumersutility function is V = f (Q, Tc ), where Q is the number of units of consumption goods andTc is the number of hours devoted to consumption purposes. Two constraints are Q = pTwand T = Tw + Tc , where p is a productivity index measuring the number of consumptiongoods earned per hour of work (Tw ) and T is the total number of hours available per timeperiod. To maximize utility, V now takes the Lagrange multiplier functionL = f (Q, Tc ) + [Q p (T Tc )] ,which is then differentiated with respect to Q, Tc , and the multiplier .16. See Trost (1986) and Monthly Labor Review, U.S. Department of Commerce, Bureauof Labor Statistics, November 1986, No. 11.17. Owens (1970) study of these issues leads to a model supporting the hypothesis ofa backward-bending labor-supply curve and suggesting that demand for leisure activityhas positive income and negative price elasticities, consistent with economic theory. AndDeidda and Cerina (2002) explore the elasticity of wages per unit of labor relative to thefraction of labor income saved.18. Utility can often be visualized in the form of a mathematical curve or function. Forinstance, the utility a person derives from the purchase of good x might vary with the squareroot of the amount of x (i.e., U(x) = square root of x). Also see Section 11.5 and Levy andSarnat (1972).19. Taking this a step further, one nds that a marginal rate of substitution (MRS) betweengood x and good y can then be presented in the form of indifference curves that are a ratioof the marginal utility (MU) of x to the marginal utility of y, and along which utility isconstant. The underlying assumption is that of diminishing marginal utility, which meansthat the curves never intersect and are negatively sloped and generally convex to the origin. 57. Notes 3720. A dependency ratio is the number of peop