No one knows exactly when people first started trading with one another—or how. We do know that metal coins have been used to buy and sell things for at least 4000 years. From horses and handcarts to ships, trucks, and airplanes, the need to trade goods has spurred on innovations in transportation for just as long. Today, though, it’s all change: many of us are now buying and selling with a new form of commerce that involves neither money nor transportation—at least not in the traditional sense. You just sit in your armchair, click your mouse a few times, enter your credit card number, and wait for the goods to show up on your doorstep. E-commerce has grown enormously in the last two decades, making life more convenient for consumers and opening up all kinds of new opportunities for businesses. Let’s take a closer look at what it is and how it works!

Artwork: Shopping by computer is the basic concept of e-commerce, but it’s a bit more subtle than that. Key parts of a retail transaction that once happened in a store (such as inspecting and comparing products and validating a payment card) now have to happen in your home, and fast, affordable, efficient delivery also plays a crucial part in the process. As this illustration shows, you can even buy a new computer with a computer!

The basic components of an e-commerce system

Whether you’re buying in a store or buying online, everything you do is geared around a transaction: the basic exchange of money for goods or services. In a real-world store, you simply take your new jeans to the checkout, hand over some cash, and leave the store with your purchase in a bag—that’s a transaction. It works similarly if you’re buying online, but there’s one important difference: you never actually get to handle (or even see) the goods until they arrive at your home sometime later.

If this makes buying online slightly problematic for the purchaser, it also introduces two extra problems for the retailer (or e-tailer, as online retailers are sometimes known). Apart from having some means of processing transactions online, it means they also need a way of checking that the goods you’ve ordered are actually in stock and a means of dispatching and delivering the goods to your address.

In short, then, e-commerce is about combining three different systems: a Web server that can manage an online storefront and process transactions (making appropriate links to bank computers to check out people’s credit card details), a database system that can keep a check of the items the store has in stock (constantly updating as people make orders and ideally making new orders with suppliers when stocks run low), and a dispatch system linked to a warehouse where the goods can be instantly located and sent to the buyer as quickly as possible.

Only the first of these three systems is strictly necessary for e-commerce. Many people successfully run small-scale online stores without either complicated databases or dispatch systems: they simply have a website to publicize their business and take orders and then they manage the stock control and dispatch in more traditional ways. Small traders who sell items on the auction website eBay often work in this way, for example. Their “databases” are in their head; their “dispatch system” is simply a walk to the local post office.

How e-commerce works

Here’s one example of how a sophisticated, fully computerized e-commerce system might work. Not all e-commerce systems work in exactly this way:

Sitting at her computer, a customer tries to order a book online. Her Web browser communicates back-and-forth over the Internet with a Web server that manages the store’s website.

The Web server sends her order to the order manager. This is a central computer that sees orders through every stage of processing from submission to dispatch.

The order manager queries a database to find out whether what the customer wants is actually in stock.

If the item is not in stock, the stock database system can order new supplies from the wholesalers or manufacturers. This might involve communicating with order systems at the manufacturer’s HQ to find out estimated supply times while the customer is still sitting at her computer (in other words, in “real-time”).

The stock database confirms whether the item is in stock or suggests an estimated delivery date when supplies will be received from the manufacturer.

Assuming the item is in stock, the order manager continues to process it. Next, it communicates with a merchant system (run by a credit-card processing firm or linked to a bank) to take payment using the customer’s credit or debit card number.

The merchant system might make extra checks with the customer’s bank computer.

The bank computer confirms whether the customer has enough funds.

The merchant system authorizes the transaction to go ahead, though funds will not be completely transferred until several days later.

The order manager confirms that the transaction has been successfully processed and notifies the Web server.

The Web server shows the customer a Web page confirming that her order has been processed and the transaction is complete.

The order manager sends a request to the warehouse to dispatch the goods to the customer.

A truck from a dispatch firm collects the goods from the warehouse and delivers them.

Once the goods have been dispatched, the warehouse computer e-mails the customer to confirm that her goods are on their way.

The goods are delivered to the customer

All of these things are invisible—”virtual”—to the customer except the computer she sits at and the dispatch truck that arrives at her door.

How do you design an e-commerce website?

The design of virtual stores is often the most important factor in the success or failure of online businesses. That doesn’t simply mean that e-commerce websites have to look attractive (though they do): they have to be usable (quick and easy to navigate around without irritating or confusing people), reliable (customers expect sites to be online 24 hours a day, seven days a week, and for pages to load without delay), and secure (because no one is prepared to type their credit card details into a website that isn’t safe).

Setting up an online store used to be quite an undertaking. Not only did you have to build a dedicated website from scratch, but you also had to develop your merchant system that could securely process credit card details and ship transactions to and from bank computers. These days, anyone can set up an online store in minutes. Websites like PayPal make it possible to build a store very quickly and, since they have built-in credit card processing features, handling transactions couldn’t be simpler. Many people set up virtual storefronts on the auction site eBay and then use PayPal (now a part of eBay too) to process their transactions. Some websites (notably Amazon) allow you to incorporate mini versions of their store inside your website—so you make a small commission selling their products within your site. For businesses with lots of products that need to combine an easy-to-use website (for users to order from), secure ordering, and a reliable database “back-end” (to manage stock), there are sophisticated content-management systems like Shopify®, Magento®, and WooCommerce® (built on WordPress) that do most of the work for you.

It used to be said that the right domain name was an essential requirement for a successful online business but some of the most memorably named websites (including pets.com, etoys.com, and garden.com) were early casualties of 2000/2001 dot.com boom and bust. As successful Web businesses such as eBay and Amazon have proved, there doesn’t necessarily have to be an obvious connection between the name of a website and things it does or sells: all that matters is that, over time, people will come to know, love, and trust the brand and visit the site instinctively when they want to buy something.

Managing how you get your products to your customers is crucially important too: you’ve only to look at review comments on sites like eBay to see that customers love rapid delivery. That doesn’t mean you need your warehouse and a fleet of delivery trucks, however. Companies like Amazon have built complex and highly efficient warehouse and dispatch systems for their purposes, which they now allow other people to use as well. Getting someone else to store your products, pick them, and ship them off to your customers, worldwide, is called fulfillment—and it means even tiny companies (or one person running a business from their spare bedroom) can manage deliveries as efficiently and professionally as a much bigger outfit.

Using e-commerce to sell information

There’s lots of money to be made online, but not all of this involves traditionally selling goods. Many online businesses try to make money by offering a mixture of free and premium services. Yahoo! (which originally stood for Yet Another Hierarchical Officious Oracle), is probably the best-known example of a website like this. Created as a comprehensive directory of other websites, it mutated into a search engine and then a portal, offering a gateway to all kinds of other premium services. For example, you can get free e-mail through Yahoo!, but you can also pay extra for a more sophisticated e-mail system; you can store your photographs for free on Yahoo’s Flickr site, but you can pay an extra sum to have them printed out or processed in various ways. (Yahoo has recently sold Flickr, but that’s another story.)

Newspapers, magazines, and book publishers also try to make money through a mixture of free and premium services. While most of them offer their basic content (the horrible, unappealing name that online businesses give to the words and pictures they publish) for free, using advertising to make money, some also offer a proportion of their articles for a one-off fixed fee or subscription). Buying an article involves a transaction similar to the ones you’d make on Amazon or eBay, so this kind of online publishing is also clearly a variety of e-commerce.

Advantages and disadvantages of e-commerce

Although early reactions to online shopping websites were often mixed (“It takes too long to find what you want”, “I’m not sure they’re secure”, “The things I want are never in stock”, “You can’t see what you’re buying”), things have improved greatly over the last decade and online businesses have found ways around most of the drawbacks. (For example, some online clothing stores sensibly offer free returns if you don’t like the clothes you’ve bought or if they turn out not to fit.) Many people now swear by online shopping and wouldn’t dream of setting foot in a real-world store where prices are often higher, waiting lines are longer, and the doors open only during normal business hours.

For businesses too, e-commerce has opened up all kinds of new opportunities. Not many can compete with huge businesses like Amazon or eBay, but anyone can open an online store and start trading within a matter of minutes. Small local stores, long threatened by the growth of giant retailers like Wal-Mart and Tesco, have found a new lease of life by trading online and selling their products mail order.

E-commerce has also threatened many traditional ways of doing business. When people flock to online shopping sites for the Christmas rush, they naturally spend less in real-world stores. Savvy existing businesses such as Wal-Mart have tried to offset the threat by seizing the opportunity: “bricks and clicks” (having real-world stores and a seamlessly integrated website) is now generally seen as the way to go. Shoppers have become equally savvy and are adept at inspecting products in real-world stores before buying online or using websites to locate local branches of stores where they can inspect and purchase exactly the goods they want. It’s important to bear in mind that e-commerce still represents only a fraction of all the trade that we do (for the third quarter of 2020, the US Department of Commerce reported e-commerce reaching about 14.3 percent of total retail sales, as shown in the chart below)—but that fraction has been growing very steadily, and will keep doing so.

The steady growth of e-commerce: this chart shows how online shopping currently represents about 14 percent of all retail sales—three times as much as a decade ago. More formally, it shows “Estimated Quarterly U.S. Retail E-commerce Sales as a Percent of Total Quarterly Retail Sales: 1st quarter 2011 to 3rd Quarter 2020”. By courtesy of US Census Bureau.

As ever, customers call the shots and will continue to do so. While some traders (notably car dealers, opticians, and realtors) have tried to resist the threat from online shopping, protectionist tactics are bound to fail in the long term. It’s all too easy now for customers to take their money and their spending power somewhere else—even to retailers in another country. The customer, and their mouse, are always right. And always will be.