Steve Gillmor invited me to be a guest on the new edition of his Gillmor Gang gabfest, which was recorded yesterday afternoon. The main topic was the offer by Netscape’s Jason Calacanis to pay real money to the top “social bookmarkers,” a move I wrote about last week. So there we were in the middle of the show, burrowing down the usual rat holes, when TechCrunch’s Mike Arrington, whom I’ve never met or even spoken with, suddenly announced that he would resign from the Gang if Nick Carr was allowed to be a regular member.

Golly.

Don’t worry, Mike, I won’t accept any future invitations to be on the show. The last thing I want is to become known as the Yoko Ono of the Gillmor Gang.

So what’s a Dell to do? Business Week surveys a group of armchair CEOs who offer a few suggestions for the beleaguered PC maker: make it easier for customers to upgrade their machines, invest more in R&D, get into retailing, put an emphasis on getting service contracts. All well and good, perhaps, but I’d recommend a more fundamental rethinking of the business: Rather than selling personal computers, Dell should start selling personal computing.

Dell’s a company that succeeds by saving other companies money. It looks for places where businesses are overspending, and it moves in with a commoditization strategy. It wrings the excess spending out of the market and, in effect, splits the savings with its customers, padding their bottom lines as well as its own. But the amount of money it can wring out of business PCs is shrinking. PCs are so cheap at this point – and the entire supply chain has become so lean – that there’s just not a lot of savings left to be had. Combine that with sluggish corproate spending on PCs, and it gets real hard to grow as fast as investors want you to grow.

There is an area, though, where there continues to be a good deal of overspending: the labor-intensive tasks associated with PC maintenance. If Dell tackles the whole system of client computing in businesses – if it goes beyond selling just the box – it could well find a lucrative new opportunity to exert its core cost-cutting strength. What would that business look like? It would probably involve providing an integrated system – servers, PCs and, yes, software – for virtualizing the client desktop, enabling the centralization and automation of most traditional maintenance activities. (The game’s already afoot: Microsoft has displayed its serious interest in this kind of business through its recent acquisition of Softricity, which offers such a virtualization system.) Longer term, Dell might even provide the service remotely to clients, from its own utility plants.

What seems likely is that, in most businesses, the PC will become an ever more peripheral device – a thinner client, if not a thin client – that will be very cheap and upgraded on a slower schedule than was necessary in the past. Where the money will be is in supplying personal computing, not personal computers.

Early last year, Bill Gates commented on Apple’s success with its “closed” iTunes/iPod system and laid out Microsoft’s very different, “open” strategy for the music-player market:

Apple is doing things the way Apple does – where it’s the Apple hardware and the Apple store. That’s great for them. We’re doing it the Windows way … In the long run, there will be a lot of people making digital music players, and we think that there will be a very different market share with dozens and dozens of companies. And other than Apple, all those player makers are signing up to work inside the Windows PlaysForSure ecosystem.

“Other than Apple and Microsoft,” he should have said. Microsoft’s new Zune player, formally announced yesterday, represents an about-face for the company. Instead of going the “Windows way,” Microsoft is going the “Apple way,” creating a proprietary system combining hardware, software and store.

The Windows way worked for PCs because PCs are general purpose devices that become more attractive as more software and peripheral devices become available. An open architecture encouraged the development of lots of software and devices that expanded what a PC could do in ways that customers valued. They were even willing to put up with crashes and reboots and driver conflicts and all the other annoyances inherent in managing complex, heterogeneous systems. A special-purpose device, like a music or media player, is a different beast altogether. Customers want it to do what it’s supposed to do, and do it really well – and look good while it’s doing it. It’s fine – and in fact valuable – to have a lot of compatible accessories, as long as those accessories don’t mess up the internal workings of the core system itself. That’s been the Apple way with iPod, and now it’s the Microsoft way with Zune.

A lot of people still want to believe that the approach that worked for a general-purpose device will ultimately prevail for a special-purpose device, too. But why should it? They’re two different things, as customers plainly recognize.

Dell’s latest and greatest earnings disappointment pretty much settles it: The company isn’t just struggling to overcome a blip; its traditional strategy is no longer working, at least not the way it used to.

What went wrong? Obviously, there are various factors involved, including too much complexity in its product line and its pricing system and an undistinguished laptop line, not to mention sluggish demand from the corporate buyers in America who account for the lion’s share of Dell’s sales. But let me offer a theory – and it’s just a theory – about what might be the root economic cause of Dell’s declining fortunes. It’s a theory that may have broader ramifications for any manufacturer pursuing a direct-sales model like Dell’s.

The ultimate source of Dell’s great historical success has been its direct sales model. By cutting out the middlemen, Dell benefits in many ways. Since it doesn’t have to fill traditional sales channels, it doesn’t have a lot of PCs sitting in inventory all over the place. Given the breathtakingly rapid price deflation of PCs, that’s been a huge advantage. Also, it can wait for a customer’s order before assembling a machine, which means it can operate with an extraordinarily lean production system. Indeed, since it gets a customer’s payment for a machine before it pays its suppliers for the parts that went into it, it actually enjoys negative working capital – the production system itself becomes a source of profit. It also gets direct and immediate market information on demand trends, which it can use to continuously optimize the set of products it offers.

So on the production/distribution side of the PC business, Dell’s direct model has given it a big cost advantage, which in the past enabled it to make lots of money selling machines at prices that competitors could match only by taking a loss.

But there’s another side to the PC business: the support side. And here, the direct model looks less attractive. If, after all, you’re selling directly to customers, you have to shoulder all the related support costs, from handling information requests before the sale to taking and tracking orders to handling service inquiries after the sale. You can’t offload any of those costs onto resellers or retailers or other distribution partners – because you don’t have any distribution partners.

The direct sales model provides a cost advantage on the production side, in other words, but brings a cost disadvantage on the support side.

Now, as long as most of the costs (for you and your competitors) lie on the production side, you’re golden. If, however, the balance of costs shifts toward the support side, you’re in trouble.

I think that that’s exactly what’s been happening in the PC world. As PC prices have plummeted, thanks to cheaper components and ever more automated manufacturing, support costs have not fallen in tandem. Yes, you can get economies of scale in support and you can automate certain tasks, but in the end there’s a heavy labor component to support that sets a floor for costs: customers need to be able to talk to a human being when they have questions or problems. Dell tested that floor recently, and it got burned by customer-support problems, so now it’s having to reinvest on the support side of its business even as it continues to slash prices to hold onto market share. (In its last quarterly financial staement, Dell noted, “We have increased our headcount not only to accommodate our global growth but to also improve our customer experience.” [italics added]) That’s a painful position to be in – and I think we can see that pain in Dell’s recent financial announcements.

So there, perhaps, is the flaw in the direct sales model, particularly when it’s applied to a commodity product like the PC: You have a cost disadvantage in customer support, which is hidden as long as support represents a fairly small portion of the each product’s overall cost. But as the price of your product falls, due to savings on the production side, support begins to represent an ever larger percentage of its cost. At some point, you cross the line: The direct model’s cost advantage disappears. Dell hasn’t reached that line yet, but it seems to be edging a little bit closer to it every day.

Much of the software that runs businesses today is designed to run on a specific and static hardware setup. Basic operating parameters are hardcoded into the machines, and applications are written with those parameters in mind. Developers assume, as Martin Banks writes today at The Register, “that the operating system they are writing to is stable, that the amount of memory they have available is static, and that the amount of CPU utilization is static.”

Virtualization overturns those assumptions. Indeed, the whole point of virtualization is to replace static physical machines with dynamic virtual ones. By getting rid of hardcoding, you free your machines to be much more flexible and to operate at much higher levels of capacity utilization – to operate as a single system rather than as a bunch of discrete parts.

If companies are to reap the full benefits of virtualization, developers will need to change the way they write code. Banks’s article is a good one for anyone looking to understand the challenges involved. He interviews Sharad Singhal, of HP Labs, who notes that while companies are rushing to embrace virtualization, “many developers are continuing to write code that is not efficient and does not match the environments the code will have to run in. This poses problems for enterprises that are already moving to virtualized environments”:

Being able to exploit the flexibility of virtualization in terms of workload and capacity management is an obvious case in point. “For example,” Singhal said, “such an environment can detect that an application requires more capacity, but the application itself has not been written in a way that can make use of it. On the other hand, capacity may be taken temporarily from an application because a higher priority task requires it, but then that deprived application promptly crashes rather than being able to continue functioning in a degraded manner. What this means is that the development tools we give them are going to have to change over time.”

For some time to come, there’s going to be a tension between virtualized hardware and old-style applications. “Until developers catch up and recognize that they can take advantage of virtualization capabilities,” says Singhal, “the onus is on those doing the virtualization to present to the applications things that look [like] legacy environments.”

The first thing you have to virtualize, in other words, is the past. Only then can you begin to move into the future.

“What we are seeing now,” writes Yale law professor Yochai Benkler in his techno-anarcho-utopian magnum opus The Wealth of Networks, “is the emergence of more effective collective action practices that are decentralized but do not rely on either the price system or a managerial structure for coordination … As computers become cheaper and as network connections become faster, cheaper, and ubiquitous, we are seeing the phenomenon of peer production of information scale to much larger sizes, performing more complex tasks than were possible in the past for nonprofessional production.”

What this all amounts to, says Benkler, is “a quite basic transformation in the world around us, and how we act, alone and in concert with others, to shape our own understanding of the world we occupy and that of others with whom we share it.” By changing “the way we create and exchange information, knowledge, and culture,” he concludes, “we can make the twenty-first century one that offers individuals greater autonomy, political communities greater democracy, and societies greater opportunities for cultural self-reflection and human connection.”

Clearly, Benkler is suggesting that we’re undergoing a radical reordering of the means of producing and consuming cultural goods, one that will bring us – as long as the industrialists and lawmakers don’t screw it up – to a supra-earthly paradise of thought and symbol. The moneychangers and their managerial goon squads will be thrown out of the temple, and the people will share their creative gifts freely over a dense network of fiber optic cables, a new and serpentless Tree of Knowledge hung with tasty digital fruit. (Whoa. I’m starting to speak in tongues, like Kevin Kelly’s evil twin.) Benkler’s tome provides arguably the most eloquent and certainly the most exhaustive explanation, and defense, of the idea of what some have called “the gift economy.” As Benkler’s fellow-traveler Lawrence Lessig blurbs, “No work to date has more carefully or convincingly made the case for a fundamental change in how we understand the economy of society.”

But how convincing is Benkler’s case? The string from which it hangs is his contention that we are seeing “the emergence of more effective collective action practices that are decentralized but do not rely on either the price system or a managerial structure for coordination.” Amateurs and volunteers have always been active in producing creative works, of course. Emily Dickinson didn’t write her poems to get rich, and community orchestras and theater troupes rely mainly on volunteers. But in the past such enterprises have been small-scale affairs (in terms of production, not necessarily artistic merit), limited to the work of an individual or a tiny, local group. What Benkler argues is that the Internet will allow the model to “scale to much larger sizes, performing more complex tasks than were possible in the past for nonprofessional production.” Teams of amateurs, working for free and without managerial oversight in technology-mediated collectives, will be able to do what up until now has required formal and usually for-profit organizations manned and managed by professionals who get paid for their work. The amateur collective will thus supplant the professional institution as the engine of common culture.

So how strong is Benkler’s string? Will the decentralized web collectives be able to operate successfully outside “the price system” and without “managerial structure”? The fact is, it’s too soon to know for sure. We should be skeptical, though. For one thing, in the past we’ve seen a pattern of amateur activity springing up in the wake of the invention of a new communication medium, only to be followed by increasing professionalization and commercialization. The invention of the radio – the original “wireless” technology – spurred the creation of a vast network of amateur broadcasters, but that nonprofessional network was soon displaced by a smaller set of commercial radio stations that were better able to fulfill the desires of the listening public.

For another thing, we’re already seeing the (re)emergence of formal managerial structure in new online media. As examples supporting his thesis, Benkler points to (among others) Wikipedia and open-source software. As I have described more than once on this blog – with tedious regularity, in fact – Wikipedia has been steadily wrapping itself in an ever more elaborate and hierarchical management structure as it has pursued its goal of improving its quality. Open-source software, too, has been successful not because it lacks a management structure but because it has a very good one. I won’t rehash these points again – you can look here, here and here – but I think that Benkler’s belief that large-scale efforts to create cultural goods will succeed without management structure is dubious, at best.

But what about the ability of those efforts to exist outside the price system? Here, Benkler’s string seems a bit stronger. But it’s starting to fray. One thing that has become clear is that the success of social production collectives hinges on the intensive contributions of a very small subset of their members. Not only that, but it’s possible to identify who these people are and to measure their contributions with considerable precision. That means, as well, that these people are valuable in old-fashioned monetary terms – that they could charge for what they do. They have, in other words, a price, even if they’re not currently charging it. The question, then, is simple: Will the “amateurs” go pro? If they have a price, will they take it?

We are going to start finding out the answer to that question, thanks in some measure to Jason Calacanis. Calacanis, whose company Weblogs was one of the first to pay bloggers, is an unbeliever in the gift economy, and yesterday he in effect called Benkler’s bluff. He offered to put the elite diggers and taggers that do most of the work at sites like Digg on his payroll – if they’d come and work for him instead of the competition. He offered, in other words, to bring the social mediators into the price system. It’s worth quoting some of what Calacanis wrote, just to emphasize how his model is the antithesis of Benkler’s:

When [my partner] and I started Weblogs, Inc. the idea of paying bloggers – heck, even making money from blogging – was considered offensive to many. Blogging was, as the case was stated, a highly personal activity that should not be trivialized by the forces of commerce and greed. I don’t have a complicated relationship with money or capitalism: I love them both and see them as simply as fuel and the process by which fuel is produced. Money to me means time, time means quality, and quality means success …

Talented people’s time in our society is primarily engaged with money … Talent wins, and talent needs to get paid. I love paying talented people so they can sleep well at night doing what they love. That’s my biggest joy in business: gettin’ people paid … The concept of “free” content producers, which I think WIRED called crowdsourcing, is going to be a short-lived joke. A loophole in the content business that will be closed by savvy startups which identify the top 5% of the audience and buy their time.

I think that what Calacanis is getting at is that the reason “social media” has existed outside the price system up until now is simply that a market hadn’t yet emerged for this new kind of labor. We weren’t yet able to assign a value – in monetary terms – to what these workers were doing; we weren’t even able to draw distinctions between what they were contributing. We couldn’t see the talent for the crowd. Now, though, the amateurs are being sorted according to their individual skills, calculations as to the monetary value of those skills are starting to be made, and a market appears to be taking shape. As buyers and sellers come into this market, we’ll see whether large-scale social media can in fact survive outside the price system, or whether it’s fated to be subsumed into professional media. Which is mightier – Benkler’s dream or Calacanis’s wallet?

Jeff Jarvis must have forgotten to lock the door to the blogosphere a couple of nights ago, because some counterrevolutionary appears to have snuck in and now he’s posting appallingly level-headed stuff like this: “The world is a much better place when vendors and customers can engage in quick, reliable, secure, semi-anonymous transactions.”