The Economics of House EdgesBy: Rick Balding, Friday April 9th 2010
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Online casino software developers decide the parameters of a new game they are developing so that it delivers the desired house edge. House edges are like the price of the game. Players pay a higher price for games that have higher house edges. Therefore the software developers decide the house edges based on the type of player they are targeting with that game.
It is essential to understand first how the house edge represents the price that the player pays. A house edge of 4% would mean that for every $100 the player wagers he can expect to lose $4 to the online casino and recover $96. Therefore in effect he is paying $4 for the utility or the pleasure of wagering $100. Online blackjack games generally have a house edge of 1%, whereas online slot games have a house edge of say 4%. Therefore it costs the player $1 for getting the utility of wagering $100 on a blackjack game and it costs him $4 for getting the utility of wagering $100 on a slot game. If utility of wagering $100 on both types of games is the same for a player then obviously he would prefer to play blackjack because it costs him less. But for many players the utility of playing slot games is much higher. In the first instance they do not have to learn the complicated blackjack strategy that is required to achieve the house edge of 1%. Also blackjack games do not have the features and bonus rounds that make slot games interesting. Therefore these players do not mind paying a higher price for slot games because they are getting better utility. Therefore online casino software developers can easily create slot games with house edges of around 4% and yet find a market for these games.
The economics of house edge e has been in the news of late for another reason. Many European Union countries that are formulating new policies for online gambling in an open market have taken a view that the house edges of online casino games should not be allowed to be lower a specified value. This value is intended to be higher than the values that are prevalent in the industry. The reasoning behind this concept is that the authorities want the player to pay a higher price for online wagering. They argue that if the player has to pay a higher price for the product then demand for that product will fall and this will prevent proliferation of online gambling.
The organizations associated with online gambling, including software developers, have strongly opposed this move. Not only does it erode the competitive advantage of the more efficient software developers and online gaming operators, but this line of reasoning is economically flawed. A small increase in price would lead to a significant reduction in demand of a product only if the product demand is elastic. However, the demand for online gaming is inelastic. This implies that increasing the cost of online gambling by increasing the house edge is not likely to have any effect on the total quantum of wagering. This will only result in the consumer, in this case the player, being cheated and having to pay more. Over the years several researches have shown that the demand for online gambling is inelastic. The most recent of these was conducted by Dr Jonathan Parke, senior lecturer from the University of Salford.
The European Gambling and Betting Association (EGBA) has been advocating that the real reason for the imposition of a floor on house edges is something else. The state owned gambling monopolies are inefficient and need higher prices in order to meet their costs and earn a profit. The governments want everyone to operate at higher prices in a liberalized market so that the state owned gambling monopolies do not lose their business to private operators.
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