What is the True Loss Due to Piracy?: Evidence from Microsoft Office in Hong Kong

Software piracy remains rampant despite the successful measures the Hong Kong government has taken to eradicate street piracy. This is because most people prefer substituting a counterfeit copy of a software CD (street piracy) with an illegal download of the software (Internet piracy). To support this claim, I construct a unique data set from 281 college students in Hong Kong to demonstrate two things. First, I estimate a random-coefficient discrete choice demand system for Microsoft Office from legal and different illegal sources. Estimates obtained from a Bayesian approach, with a mixture of normal priors, indicate a strong substitution pattern between street piracy and Internet piracy. Second, I conduct counterfactuals in which street piracy is absent. Results are twofold. First, most students would switch to Internet piracy. Second, the government, by assuming that each pirated copy represents a lost sale, may over-estimate the gain from eradicating piracy by up to nine times.