Google is not only a powerful search engine, but also a service with a very successful pricing model for their advertising links. Instead of setting prices for clicks, Google creates a real-time auction, where advertisers can decide how much they are willing to pay for the ad. Economists love auctions because they reveal the customers' willingness-to-pay and allow the company to capture a better price.
- Some of you know more about Google Advertising than I do.…Let me ask.…Google makes money every time a user clicks…on a sponsored link, but not all clicks cost the same.…How does Google set the price per click?…Do they have a huge price list…for keywords in different countries?…Certainly not.…In fact, Google asks every advertiser…to indicate their willingness to pay…for a click on a specific keyword.…So if you are willing to pay up to 20 pounds per click…for the keyword mortgage,…you will probably be listed very high in the search results…so that many users click and Google makes a lot of money.…
If you are willing to pay only 10 pence,…Google will bury your ad on page 32,…which means nobody will ever click.…Of course, Google's algorithm is more complex than that,…because Google also looks at the likelihood…that the user is actually clicking,…depending on his or her profile.…So here comes the next question for my fellow economists.…Why do we love auctions as a pricing-setting mechanism?…While Google has millions of advertisers,…
- What are customers buying? (demand theory)
- What should we produce? (production theory)
- Which costs do I need to worry about now? (cost theory)
- What market am I in? (competition theory)
- What should we charge for it? (pricing theory)
To understand what managerial economics looks like in practice, Stefan explains how Google's auction-based advertising system employs the principles of game theory and how understanding this can help decision makers to outmaneuver their competitors.
- Using economics to solve business problems
- Understanding price elasticity
- Demand curve shifts
- Economics of scale vs. scope
- Break-even and what-if analysis
- Profit maximization
- Economics in action