Nicholas Carr (in "Is the ad bubble leaking?") correctly observes that auctions, when run well, drive up prices such that buyers' margins get squeezed.
Clearly that's one reason for Google's spectacular profit margins: they've successfully extracted value from the buyers (advertisers) by causing them to outbid each other in a scramble for access to their inventory. The value hasn't disappeared: it has just shifted from buyers to sellers.
And, as we've seen, prices for keywords have indeed climbed to such levels that many advertisers are starting to pause. The game is getting too rich for them. Many will drop out, or just stop raising their bid prices.
He writes:
"For any given ad, the per-click price will hit an economic ceiling, and advertisers will then stop bidding the price higher. The ability of advertisers to precisely measure the value of a click makes search ads attractive. But it also ensures that, in the end, the price will come to rest at a rational level."
And John Battelle voices similar concerns in his post on FTD.
"Search marketing may be on its way toward a slowdown, if not a plateau."
But I think it's a mistake to conclude that self-serve, bid-for-placement advertising models must also be approaching a peak or plateau. There's something else going on here.
True, prices will come to rest at some "rational" level for any given advertiser. But, what's a rational price for one advertiser is different than what's a rational price for another. That is, new advertisers, and better, more efficient advertisers will continue to emerge and drive prices up. Indeed, some advertisers have been grumbling about getting outbid since the dawn of bid-for-placement models.
In 2006, as the mix of advertisers continues to change, we can expect to hear more grumbling and hissing.
Moreover rational price for any given advertiser changes over time, as that business is forced to examine its own cost structure, better understand its customers, improve its targeting, optimization, merchandising, etc. As an advertiser makes those improvements, it's able to justify paying higher prices.
What's magical about first generation advertising marketplaces (like Google's) is that they force advertisers to become more efficient, smarter. That's a good thing.
The next generation of advertising marketplaces need to go a step further and better engage publishers, providing feedback so they do what they can to improve the quality and quantity of what they provide into the mix: customers.
That's going to be a major driver of growth in online advertising, and self-serve advertising in particular.
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