Costly Memories: Tivo, iPod, and X-Box: An Industry Struggles for Profits

Read the following summary of a Wall Street Journal article by Scott Thurm that appeared on 14 October 2004, entitled, "Costly Memories: Tivo, iPod, and X-Box: An Industry Struggles for Profits," and use this information to answers questions 1 & 2:

SUMMARY: The TiVo video recorder, the iPod music player and the Xbox game machine all owe their existence to the same high-tech innovation: smaller, denser, cheaper disk drives. However, in spite of the gains of the products that use the drives, the drive makers have not been able to produce sustainable profits. The article points to three reasons for the losses of the drive manufacturers. First, encouraged in part by aggressive sales forecasts from computer makers, the drive makers added capacity and overproduced. Second, computer makers long ago relegated drives to being interchangeable parts. Thus, the drive industry is a competitive market. Third, even with the exit of the least competitive firms from the industry following the big losses of the late 1990s, profits for the remaining firms did not increase. Instead, the survivors battled for market share, primarily through capacity expansion; as inventories swelled, prices were pushed down. The article notes that the beneficiaries of the drive manufacturers' low prices and negative profits are computer users.

1) Using a market supply and demand graph, show how the disk drive industry ended up with so many losses in the short run.

Be sure to reflect the disparity between the industry's overly optimistic demand forecasts and actual demand in explaining the behavior of producers: Draw the market supply curve and forecasted demand, then contrast it to the market supply curve and the lower, actual demand, and discuss the equilibrium in both cases. Then, using a separate diagram, show the individual firm's losses facing the actual (not forecasted) market price with the firm cost curves, clearly indicating the breakeven and shut-down points.

2) Explain the concept of consumer surplus and utilize it along with a well-labeled diagram to show how disk drive consumers can benefit from the excess capacity in the disk drive market. [20]