Suppose the costs of putting on a show fall – this could be from falling rental rates for performance spaces, technological changes that reduce costs of lighting or sound, or falling labor costs (perhaps through policy changes that lower the cost of providing health insurance to employees). How will this affect ticket prices? In the short run, not at all. In the long run, ticket prices will fall.
Let me define ‘short run’ as the time period over which the production schedule for the company is set: the performance dates for the rest of the season are finalized, with no room for changes. But let’s suppose the company could, if it wished, still alter its prices for remaining shows. The prices that were originally chosen were determined by optimizing at the margin. It works like this: ask ‘what does it cost the company to seat one more member of the audience?’ (we call this marginal cost) and ‘what would we gain (or lose) in revenue if we lowered our prices to generate one more ticket sold?’ (we call this marginal revenue). In performing arts venues where there is room to seat more customers (or in uncrowded museums, for that matter), marginal cost is virtually zero: the company is not out of pocket at all from directing one more patron to her seat. Marginal revenue depends on the nature of customer demand: how responsive is it to changes in price? As a general rule, when admission prices are very high, marginal revenue is positive: total revenue could be increased by cutting prices a bit and selling more tickets as a result. But as prices get lower, so too does marginal revenue. At some price (or set of prices if you are scaling the house), marginal revenue hits zero, and that is the price where total revenue is maximized. If marginal costs are also zero, those are the prices that maximize profits from ticket sales. Any further price cuts, while generating more sales, will actually lower revenue (i.e., marginal revenue is negative). Profit maximizing prices occur where marginal cost equals marginal revenue. Now: what determines those numbers? Marginal cost is what it costs to seat one additional member of the audience – essentially zero. Marginal revenue depends on customer demand – how responsive is it to price changes. Changes in the cost of putting on the show in the first place – reduced labor costs, or rental costs, or heating costs, for example – affect neither marginal cost nor marginal revenue, and so, in turn, do not affect optimal ticket prices. It’s a surprising conclusion, but there it is.
But costs must affect prices somehow. Let me define ‘long run’ as that period over which there can be changes in the number of shows on offer. Extant companies look ahead to future seasons and make plans on the number of shows and performances. Entrepreneurs look into the possibilities of starting new theatre companies, or chamber orchestras. With lower production costs, shows that in the past would not have been worth it, in that sales revenue could not cover costs, start to have potential. Entrepreneurs look at lower costs, and arts demand, and decide that maybe a new company could make a go of it. In short: the supply of shows increases if production costs fall. How does that affect ticket prices? It doesn’t affect marginal cost – the cost of seating one more audience member is still zero. But it does shift demand: with more shows available (and assuming there haven’t been lots of other changes happening simultaneously), there is less customer demand at the margin for any one specific show (since audiences now have more options from which to choose). And that brings prices down. Falling production costs make more shows profitable, supply of shows increases, and that brings down average ticket prices.
Earlier this week, it was reported that Senator Chuck Schumer was displeased that falling fuel prices had failed to generate falling airfares. An airplane flight is something like a theatre performance: there is a high cost to putting on the show, but very low marginal cost to seating an additional customer (there is a small amount of extra fuel use from an additional passenger on an airline, but I am guessing it is small – intensive research* failed to produce a definitive answer). Over the short run, the number of flights cannot adjust very much. And in that case, falling fuel prices would have little effect on ticket prices. Over the long run, as the number of flights adjusts upwards – lower fuel prices make some routes and flights profitable that previously would not have been – prices would begin to drop with the increased supply. But it will take a while, and so the Senator needs to be patient.
* I googled ‘marginal cost airline passenger’.
Excellent essay, but it misses some things.
Broadway has at least two significant “barriers to entry,” a limited number of theaters and a limit of talented artists. The Road probably also has a limit in the number of venues available for traveling shows in any market. Most communities have only one performing arts center of adequate size. Those limited venues might be filled more nights than they are now, however, if the Road becomes more profitable. Thus, even in a moderate length of time, it is hard to increase capacity and fill that capacity with lower prices. There is still the problem of talent. There isn’t enough theater talent to fill much more capacity. (For comparison, consider cable television. All those channels and so little worth watching.)
Also marginal analysis–increasing production until the marginal revenue equals the marginal cost–will take a business to the point of highest profit OR of lowest loss. If the AVERAGE revenue is not greater than the AVERAGE cost, a business will lose money and go out of business. This happens for commercial theater shows that do not make their nut.
Marginal analysis is powerful when one has additional productive capacity. If your manufacturing plants are working full-time, marginal analysis no longer applies. So SRO shows have no economic reason to lower prices.
Also worth considering is that commercial theater is likely a luxury good. This takes us to the topic that beginning econ students dread, supply and demand curves. For normal goods, when the price goes up, the demand goes down. Supply then balances demand and the industry or business makes less revenue than it did before the price increase. All other things being equal. Luxury goods are different. When the price goes up, demand decreases only a little or in some cases demand increases. For luxury goods, a price rise increases revenue.
The Broadway League’s annual reports of revenue and numbers of tickets sold in recent years would support the notion that Broadway theater is a luxury good. The Road has also had no problem increasing ticket prices in recent years, even for non-Equity shows where weekly performer costs are lower.
But the real problem is the limit on talent. Any one show is not as attractive as any other show. If the library is out of the book you are seeking, you don’t just pick up the next book on the shelf. Theater has always had a limit on talent–most crushingly on writers and composers.
Thanks for the essay.