DarrkPhoenix: It's important to distinguish between marginal costs, which include things like manufacturing costs and shipping costs, and fixed costs, which include the development costs. Marginal costs can have a significant impact on the optimal price point, while fixed costs have no impact on optimal price point. I looked around a bit, and while it's tough to find any case studies involving solid numbers, in general it seems that manufacturing costs for disc-based games are pretty low, around $1-2 (cartridge games can have significantly higher manufacturing costs, up to $10 it seems). For console games there's also the per-unit royalty costs paid to the console manufacturer, which seem to run in the range of $2-5. Unfortunately I wasn't able to find any numbers on shipping costs, but they do seem to be significant enough the game companies take measures to reduce them (such as decreasing the size of manuals, in order to reduce package weight). For the sake of simplicity I won't even try to factor in elements like botched manufacturing runs, overstock, etc.
Now, when considering a game selling at full price these kinds of marginal costs don't mean much when comparing digital sales and retail sales. However, once you start reducing the price they can start to factor in much more significantly. For instance, consider a digitally distributed PC game which could have a marginal cost of under $1, and the equivalent console game which could have a marginal cost of around $5. Now, let's say both are put on sale at $10. At that price the PC game is still delivering a per-unit profit of $9, while the console game is only delivering a per-unit profit of $5- the decrease in price would have to result in twice as many sales for the console game vs the PC game for the sale price to have the same benefit. Basically, once the sale price starts getting close to the marginal cost you'll start seeing major effects on profits, regardless of the absolute value of the marginal costs. This most definitely has an impact on the optimal price point and the effectiveness of sales.
And this doesn't even take into account the merchant. Another big difference between games sold through physical retailers and games sold through digital distributors is that (as far as I know) retailers operate on a wholesale model, while digital distributors operate on something closer to an agency model. This means that retailers pay a certain cost upfront for the games, which they are then free to markup or discount as they please, but because of that upfront cost their own marginal cost for each game is pretty high, making large discounts even less worthwhile for them unless they're just trying to clear stock. On the other hand, when digital distributors operating through an agency model offer a discount the decrease in profit per unit is borne by both the publisher and the distributor, and as a result neither is dealing with a high marginal cost that limits the extent to which the game can be reasonably discounted.
I don't think the shipping costs were what reduced manual size and package size over the years but rather to reduce space in the retail store was my understanding for the switch to the current thin-box and DVD box system. Simply more merchandise could be fit onto store shelves as a way to have a larger (depth and breadth) inventory. More than the direct marginal costs of physical retail, space - the indirect marginal cost - seems to be the paramount concern for physical retailers and distributors.
I agree that the agency vs wholesale model does lead to significant differences in how discounts work. However, while it's true the retailer has its own marginal costs associated with quantity (stocking costs), again for large retailers, those are relatively small. Fixed costs do have *some* effect on optimal price point but don't have an effect on it relative to quantity sold - so that the more the game is sold the less the fixed costs matter. It is true, that in digital sales, marginal costs are reduced (I don't disagree), but there is still the bottom line of needing to make a profit and the marginal costs of the games are not as high as people are oft inclined to believe. :) The biggest issue I hear about is the difference in space - in retail space is paramount, so it's almost the case that the biggest marginal cost to a retailer isn't the usual thing but again a hidden, secondary cost - how much space is this item taking up and could it be replaced on the floor by something that sells better. And that's where clearance sales and bargain bins come in to play. They sell the left-over inventory for a partial loss (hoping perhaps for a loss-leader, but not banking on it), mostly because now there is the hidden cost of keeping an item out on the floor when it could be replaced by something that would sell better. So it would cost them more to keep it on the shelf than to sell at almost nothing.
Naturally a game does take up server space and the more game inventory one has, the larger servers one needs. However, those storage costs on a per-game basis are almost nothing for a digital retailer. While I agree that the agency model allows for a different structuring of the sales and I don't disagree about marginal costs being (somewhat) higher for retail, I would still argue that the lack of secondhand sales is an, if not the, important force in digital retail in regards to making the same kind of "clearance"-like sales necessary for digital retailers. I think you and I agree on the basic principles, but are disagreeing over degree. :)
