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Tuesday, January 26, 2010

What is All This Nonsense about Smartphone Early Termination Fees?
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OK, time for a quick rant. What is all this confusion and consternation over early termination fees (ETFs) for high-end smartphones? I mean, seriously, how hard is this process to understand? The FCC has worked itself into a lather over this and is bombarding wireless operators and Google with hate mail letters of inquiry harassing asking them about their ETF policies. I just don't get it. Let's review some simple realities:

  • Smartphones -- especially high-end devices like the iPhone, the Droid, and the Nexus One -- are basically mobile mini computers.

  • Mini mobile computers do not grow on trees; someone has to make them and sell them at a profit or else no one would offer them to begin with.

  • But the people who make and sell these devices (and wireless service for these devices) want to ensure rapid, widespread distribution to win over customers and recoup their costs.

  • So, they offer a classic business inducement -- an upfront subsidy for the product in exchange for monthly payments to amortize the upfront "loan" they have given the customer;

  • AND THEN THEY FORM A CONTRACT WITH THE BUYER TO MAKE THE DEAL WORK. And that contract obligates both sides to live up to their end of the deal.

  • Hey... did I mention they need to form a contract to make the deal worth it? OK, good, wanted to make sure I got that point across.

  • Then they give you a nice shiny new mobile mini-computer that for some reason we Americans still insist on calling a cell phone.

  • Then you start paying off the "loan" they've given you for that device over the span of the service contract. This is called "prorating."

  • But, if you default on that loan by breaking your contract, you'll be hit with a penalty -- an early termination fee -- since it would leave the carrier without a way to recoup the cost of that shiny new mobile mini-computer that they handed you on the cheap when you just absolutely had to have the hot new toy in town.

Is this process really all that complicated? And why is it so controversial? It certainly shouldn't be. Prorating happens every day in countless ways in a capitalist economy. And yet in the apparent techno-entitlement society we live in these days, some people seem to think there's something scandalous about this process when it happens with our beloved mobile devices. In reality, the smartphone subsidy and prorated contract system is really one of the great pro-consumer accomplishments of our time.

With various inducements and buyer loyalty credits, I recently got my Motorola Droid from Verizon for just $99 bucks. Like the iPhone and Google's new Nexus One, the Droid is worth over $500 bucks, and yet millions of Americans have been able to obtain these spectacular devices because of this system of upfront subsidies and prorating. And it's not like Lucifer is present at the signing of the contract asking for a blood offering or your first born as part of the exchange. Nobody forces you to buy a $500 phone!

Moreover, if you really want, there are plenty of "unlocked" mobile devices you can pay full freight for and then take to any carrier you want to get service. Needless to say, not a lot of people bother. I think that tells us something. And, again, who can really blame consumers... just look at the prices of these unsubsidized phones! $574.99 for the Droid, $649.99 for the Nexus One, and $909.99 for the Sony Ericsson Xperia! You could buy a used car for that kind of money.

Look, I can appreciate arguments about "better transparency" in this process to make sure consumers know what they are getting into, but you don't need a PhD in economics to understand that you'll have to make some payments over the long haul to pay off what you got up front on the cheap. My guess is that most people who buy an expensive smartphone have likely also has had a car or home loan at some point in their lives--or any loan for that matter. The principle in all cases is the same: There is no free lunch.

posted by Adam Thierer @ 11:20 PM | Economics , Spectrum

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