E Commerce: The Buyer Wins

Will the Net pull prices ever lower?

Theoretically, Internet retailing is supposed to be a positive sum game that allows consumers to win via easy access to price and product information and retailers to gain by obtaining detailed information on buyers' needs, tastes, and price sensitivity. If a new study on life insurance costs by Jeffrey R. Brown of Harvard University and Austan Goolsbee of the University of Chicago is any indication, however, it's consumers who really come out ahead.

The two economists noticed that average prices of term life insurance, which had been edging down in response to falling mortality rates during the 1990s, suddenly fell sharply in 1996 and 1997. Meanwhile, a growing number of Web sites had begun offering price quotes from a variety of companies to potential buyers of term life insurance.

To see whether there was a connection, the authors matched highly detailed data from 1992 to 1997 on household Internet usage in the 50 states with similar data on the cost of term life insurance policies purchased by households over the same period. (The first set of data came from Forrester Research, the second from LIMRA International, a life insurance trade group).

The results are striking. Among households of different age groups in different states, the study shows a strong correlation between rising Net usage and falling costs of term insurance. By contrast, costs of whole life insurance, for which online quotes were unavailable, hardly changed. The authors estimate that each 10% increase in the share of individuals in a group (say, those age 30-34 in Utah, or 40-44 in Texas) using the Net reduced the group's average term insurance costs by 3% to 5%. By 1997, annual nationwide savings to consumers totalled $115 million to $215 million.

Thus, the Internet--by enabling people to comparison shop without having to first contact a variety of insurance agents--apparently drove insurance prices down not only for Web surfers but for their neighbors as well. And that was in a period in which Net usage was relatively low by today's standards.

For buyers, of course, this picture spells good news, suggesting that markets will become increasingly competitive as more and more people log on and search for low prices. Sellers both online and offline, however, are likely to find their profit margins under chronic pressure--forcing them to engage in continual cost-cutting. "That's a lesson the stock market finally appears to be learning," says Goolsbee.

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