This document summarizes how the music industry has changed from an oligopolistic market dominated by a few major record labels to a more decentralized market with many independent labels. The rise of music piracy through Napster and file sharing led to a decline in physical album sales but an increase in concert attendance. Lower recording and distribution costs through new technology allowed many more artists to enter the market successfully. As a result, the market structure has shifted from a Cournot oligopoly model to one better described by the differentiated firms model of a Salop circle, with many small firms each occupying a niche.

1. Section I: Introduction
The market for music has changed significantly in the last sixteen years. In 1999,
the introduction of Napster and other file sharing software diminished music sales
significantly. Goldman (2010) showed that record companies have suffered an eight
percent decrease per year in physical album sales. The advent of music streaming
software such as spotify and apple music have further changed the business model. A
market that used to follow a cournot competition model with big firms taking up the
majority of the market is now more reflective of a salop circle model with a large amount
of firms taking up smaller portions of the industry. Larger firms are being marginalized
because of file sharing. Smaller firms are flourishing due to diminishing costs of
production and higher expected profits.
Section II: HISTORY
In 1878 Thomas Edison patented the first practical mechanism for recording and
replaying music. The production and distribution of music became a major international
industry. Firms consolidated and grew until in the 1990’s there were six major record
labels. These larger firms had so much power in distribution and recording that they
were able to buy out most new artists that they predicted would be popular. The
competition between these firms reflected a cournot model with some elements of
collusion.
In the cournot model groups of firms maximize their profits through the quantity
they produce. While maximizing their profit they have to consider the demand of
consumers, the quantity produced by other firms, and the costs associated with output.

2. The equilibrium produced by these firms has lower profits, lower prices, and higher
outputs than collusion. Music firms competed in this game and released quantities that
maximized their consumption.
The music industry reflected elements of collusion in their treatment of contracts
with labor. The three major constraints to output were labor, distribution, and recording
studios. Within the music industry a talented musician would experience a form of
competition from labels interested in employing their labor. Although offers were
somewhat differential, each contract tended toward certain “industry standards” These
standards reflected collusion in royalty rates and indefinite relinquishing of publishing
rights.
These large firms deterred entry through economies to scale involved with
distribution and economies of scope recording studios. In the model of the old market,
high fixed costs were associated with the recording and distribution of every record.
Only firms with large distribution power could benefit from the network effects that came
from the popularity of a new single. According to Shy (2011), dissemination of
information greatly enhances the value of the intellectual property such as music. Large
record labels thrived in their ability to disseminate information through distribution.
Recording studios also tended to have high fixed costs and lower variable costs, which
increased the effect of economies to scope. One recording studio can create two
separate products from two separate artists at lower average cost than one studio could
for one particular artist.

3. Section III: Changes
The advent of Napster and other file sharing software, together with lower
distribution and recording costs significantly changed market share in the recording
industry. The big six record labels slowly dissolved and merged into the big three record
labels. These big three record labels have lost a significant amount of their market
share. Independent record labels accounted for 35.4% of total album sales in 2015
according to Nielsen data. The other sixty-five percent is taken up by the big four,
Universal Music Group had 27.6%, Sony Music Entertainment had 20.9%, and Warner
Music Group had 15.2% with the last .9% not attributed to any record label at the
moment.
Mortimer, Nosko, and Sorensen (2012) show that the advent of file sharing lead
to huge increases in concert attendance. In one graph, he shows that in 2000 when
album sales started to steadily decline due to file sharing, concert attendance started to
increase substantially. Within four years the number of concert events doubled to
24,000. In their paper they show that the increase in piracy lead to a large decrease in
album sales for popular artist with a small decrease in album sales for lesser known
artists. Lesser known artists became more accessible, and any loss in their music sales
was attenuated by the increase in concert attendance.
This demonstrates an interesting phenomenon in the music industry. The market
for music becomes decentralized as more music is available. Because the market is no
longer a “Superstar” market where only the top players can make a reasonable income,
more artists are willing to enter the market in order to make a profit. Assume that their
old expected profit could be represented by the following equation:

4. E(w)=Pfamous(wfamous)+(1-Pfamous)(wnotfamous)
In the music industry the probability that an artist becomes famous is very low.
Although the wealth may be high, this factor won’t do much to affect entry(provided that
the confidence of the entrant isn’t inappropriately high). Most potential entrants look at
their potential wealth if they never achieve fame. The increase in file sharing lead to an
increase in wealth for the non famous music entrants.
Along with the increase in expected wealth for entrants, there has also been a
large decrease in expected cost. This has made the model reflect less economies of
scale in distribution and less economies to scope in recording.
Since the 1980’s, technology and affordability in recording costs significantly
changed the markets. Artists found it easier and easier to record themselves in home
based studios. They would normally only involve recording engineers in post production.
During this period, the amount of needed labor also decreased as electronic
instruments became more acceptable. The fixed cost associated with recording an
album fell significantly. So, the benefit of a recording label in economies of scope was
reduced (Pras, Guastavino, & Lavoie 2013).
Popular usage of the internet helped to decrease the costs of distribution. Firms
no longer need to develop each individual physical album. They instead can sell their
albums on itunes and other online stores at low costs. Peitz & Waelbroeck (2006) find
that piracy can actually help with distribution of music. They claim that individuals use
piracy as a form of sampling. Once they understand how the music of the particular
artist coincides with their taste they start to support their music. This idea of sampling is

5. furthered with music streaming software like apple music and Spotify. Websites such as
bandcamp have furthered this idea of supporting artists after downloading their music.
Bandcamp features an option in which purchasers can choose to pay more for music.
These changes in the music market lead to a more differentiated market. In this
new market competition is better represented by a Salop Circle model. In this model,
firms are classically differentiated by location. In music they would be differentiated by
taste in music or genre. Entrants look for points in which revenue is greater than cost
because they have a reasonable distance to cover. Firms in the music industry can do
this so much more now because costs have been lowered so much over time. This has
served to decentralize the industry. The market is now filled with independent record
labels that can produce new and interesting forms of music and make significant profit.
Another interesting feature of internet purchases in recorded music is the ability
to buy individual tracks from an album. The industry used to require that customers buy
an album in entirety. Itunes allows people to but individual tracks from an album. This
has changed the pricing scheme significantly and allowed for individual demands for
songs. This allows the market for music to reflect more of a Salop Circle model. Within
an artist a customer can look for music that falls within his individual taste spectrum.
Section IV: Conclusion
Changes in the music industry have allowed for more entry and less collusive
ability. As labels become less important, individual artists can be payed more directly for
their music. The market is likely to continue decentralizing as technology continues to
improve and as sampling methods allow for more exploration.