Having just comfortably secured re-election to a third term, embattled Texas Attorney General Ken Paxton is likely to want to change the subject from investigations of his own conduct to a topic where he feels on much firmer ground: the 16-state lawsuit he currently leads accusing Google of monopolizing a segment of the digital advertising business.
The segment in question concerns the systems used to buy and sell display ads shown on third-party websites, such as TheNew York Times or Runner’s World. Paxton’s suit, originally filed in December 2020, alleges that digital advertising is dominated by a few large firms and that this stifles competition and generates enormous profits for companies like Google at the expense of advertisers, publishers, and consumers.
On the surface, the digital advertising business appears straightforward: Publishers sell space on their sites and advertisers buy that space to display ads. In this simple view, advertisers seek to minimize how much they pay for ads and publishers seek to maximize their revenues from selling ads.
The reality is much more complex. Rather than paying for how many “eyeballs” see an ad, digital advertisers generally pay only for the ads that consumers click on. Moreover, many digital advertising transactions move through a “stack” of intermediary services to link buyers and sellers, including “exchanges” that run real-time auctions matching bids from advertisers and publishers.
Because revenues are generated only when an ad is clicked on, advertisers, publishers, and exchange operators have an incentive to maximize the likelihood that a consumer will click. A cheap ad is worthless if the viewer doesn’t act on it and an expensive ad may be worthwhile if it elicits a click. The role of a company running the exchange, such as Google, is to balance the interests of advertisers buying the ads, publishers displaying the ads, and consumers viewing the ads. In some cases, pricing on one side of the trade will subsidize participation on another side, increasing the value to all sides combined.
At the heart of Paxton’s lawsuit is the belief that the exchanges run by Google and other large digital advertising firms simultaneously overcharge advertisers, underpay publishers, and pocket the difference. Google’s critics allege the company leverages its ownership of Search, YouTube, and other services to coerce advertisers to use Google’s ad-buying tools and Google’s exchange, thus keeping competing firms away from these advertisers. It’s also claimed that, through its Search, YouTube, and Maps services, Google has superior information about consumers that it won’t share with publishers or competing digital advertising companies.
These claims are based on the premise that “big is bad,” and that dominant firms have a duty to ensure that their business practices do not create obstacles for their competitors. Under this view, Google would be deemed anticompetitive if there is a hypothetical approach that would accomplish the same goals while fostering even more competition or propping up rivals.
But U.S. antitrust law is supposed to foster innovation that creates benefits for consumers. The law does not forbid conduct that benefits consumers on grounds that it might also inconvenience competitors, or that there is some other arrangement that could be “even more” competitive. Any such conduct would first have to be shown to be anticompetitive—that is, to harm consumers or competition, not merely certain competitors.
That means Paxton has to show not just that some firms on one side of the market are harmed, but that the combined effect across all sides of the market is harmful. In this case, his suit really only discusses the potential harms to publishers (who would like to be paid more), while advertisers and consumers have clearly benefited from the huge markets and declining advertising prices Google has helped to create.
While we can’t be sure how the Texas case will develop once its allegations are fleshed out into full arguments and rebutted in court, many of its claims and assumptions appear wrongheaded. If the court rules in favor of these claims, the result will be to condemn conduct that promotes competition and potentially to impose costly, inefficient remedies that function as a drag on innovation.
Paxton and his fellow attorneys general should not fall for the fallacy that their vision of a hypothetical ideal market can replace a well-functioning real market. This would pervert businesses’ incentives to innovate and compete, and would make an unobtainable perfect that exists only in the minds of some economists and lawyers the enemy of a “good” that exists in the real world.
[For in-depth analysis of the multi-state suit against Google, see our recent ICLE white paper “The Antitrust Assault on Ad Tech.”]
The European Commission and its supporters were quick to claim victory following last week’s long-awaited General Court of the European Union ruling in the Google Shoppingcase. It’s hard to fault them. The judgment is ostensibly an unmitigated win for the Commission, with the court upholding nearly every aspect of its decision.
However, the broader picture is much less rosy for both the Commission and the plaintiffs. The General Court’s ruling notably provides strong support for maintaining the current remedy package, in which rivals can bid for shopping box placement. This makes the Commission’s earlier rejection of essentially the same remedy in 2014 look increasingly frivolous. It also pours cold water on rivals’ hopes that it might be replaced with something more far-reaching.
More fundamentally, the online world continues to move further from the idealistic conception of an “open internet” that regulators remain determined to foist on consumers. Indeed, users consistently choose convenience over openness, thus rejecting the vision of online markets upon which both the Commission’s decision and the General Court’s ruling are premised.
The Google Shopping case will ultimately prove to be both a pyrrhic victory and a monument to the pitfalls of myopic intervention in digital markets.
Google’s big remedy win
The main point of law addressed in the Google Shopping ruling concerns the distinction between self-preferencing and refusals to deal. Contrary to Google’s defense, the court ruled that self-preferencing can constitute a standalone abuse of Article 102 of the Treaty on the Functioning of the European Union (TFEU). The Commission was thus free to dispense with the stringent conditions laid out in the 1998 Bronner ruling.
This undoubtedly represents an important victory for the Commission, as it will enable it to launch new proceedings against both Google and other online platforms. However, the ruling will also constrain the Commission’s available remedies, and rightly so.
The origins of the Google Shopping decision are enlightening. Several rivals sought improved access to the top of the Google Search page. The Commission was receptive to those calls, but faced important legal constraints. The natural solution would have been to frame its case as a refusal to deal, which would call for a remedy in which a dominant firm grants rivals access to its infrastructure (be it physical or virtual). But going down this path would notably have required the Commission to show that effective access was “indispensable” for rivals to compete (one of the so-called Bronner conditions)—something that was most likely not the case here.
Sensing these difficulties, the Commission framed its case in terms of self-preferencing, surmising that this would entail a much softer legal test. The General Court’s ruling vindicates this assessment (at least barring a successful appeal by Google):
240 It must therefore be concluded that the Commission was not required to establish that the conditions set out in the judgment of 26 November 1998, Bronner (C‑7/97, EU:C:1998:569), were satisfied […]. [T]he practices at issue are an independent form of leveraging abuse which involve […] ‘active’ behaviour in the form of positive acts of discrimination in the treatment of the results of Google’s comparison shopping service, which are promoted within its general results pages, and the results of competing comparison shopping services, which are prone to being demoted.
This more expedient approach, however, entails significant limits that will undercut both the Commission and rivals’ future attempts to extract more far-reaching remedies from Google.
Because the underlying harm is no longer the denial of access, but rivals being treated less favorably, the available remedies are much narrower. Google must merely ensure that it does not treat itself more preferably than rivals, regardless whether those rivals ultimately access its infrastructure and manage to compete. The General Court says this much when it explains the theory of harm in the case at hand:
287. Conversely, even if the results from competing comparison shopping services would be particularly relevant for the internet user, they can never receive the same treatment as results from Google’s comparison shopping service, whether in terms of their positioning, since, owing to their inherent characteristics, they are prone to being demoted by the adjustment algorithms and the boxes are reserved for results from Google’s comparison shopping service, or in terms of their display, since rich characters and images are also reserved to Google’s comparison shopping service. […] they can never be shown in as visible and as eye-catching a way as the results displayed in Product Universals.
Regulation 1/2003 (Art. 7.1) ensures the European Commission can only impose remedies that are “proportionate to the infringement committed and necessary to bring the infringement effectively to an end.” This has obvious ramifications for the Google Shopping remedy.
Under the remedy accepted by the Commission, Google agreed to auction off access to the Google Shopping box. Google and rivals would thus compete on equal footing to display comparison shopping results.
Rivals and their consultants decried this outcome; and Margrethe Vestager intimated the commission might review the remedy package. Both camps essentially argued the remedy did not meaningfully boost traffic to rival comparison shopping services (CSSs), because those services were not winning the best auction slots:
All comparison shopping services other than Google’s are hidden in plain sight, on a tab behind Google’s default comparison shopping page. Traffic cannot get to them, but instead goes to Google and on to merchants. As a result, traffic to comparison shopping services has fallen since the remedy—worsening the original abuse.
Or, as Margrethe Vestager put it:
We may see a show of rivals in the shopping box. We may see a pickup when it comes to clicks for merchants. But we still do not see much traffic for viable competitors when it comes to shopping comparison
But these arguments are entirely beside the point. If the infringement had been framed as a refusal to supply, it might be relevant that rivals cannot access the shopping box at what is, for them, cost-effective price. Because the infringement was framed in terms of self-preferencing, all that matters is whether Google treats itself equally.
I am not aware of a credible claim that this is not the case. At best, critics have suggested the auction mechanism favors Google because it essentially pays itself:
The auction mechanism operated by Google to determine the price paid for PLA clicks also disproportionately benefits Google. CSSs are discriminated against per clickthrough, as they are forced to cede most of their profit margin in order to successfully bid […] Google, contrary to rival CSSs, does not, in reality, have to incur the auction costs and bid away a great part of its profit margins.
But this reasoning completely omits Google’s opportunity costs. Imagine a hypothetical (and oversimplified) setting where retailers are willing to pay Google or rival CSSs 13 euros per click-through. Imagine further that rival CSSs can serve these clicks at a cost of 2 euros, compared to 3 euros for Google (excluding the auction fee). Google is less efficient in this hypothetical. In this setting, rivals should be willing to bid up to 11 euros per click (the difference between what they expect to earn and their other costs). Critics claim Google will accept to bid higher because the money it pays itself during the auction is not really a cost (it ultimately flows to Google’s pockets). That is clearly false.
To understand this, readers need only consider Google’s point of view. On the one hand, it could pay itself 11 euros (and some tiny increment) to win the auction. Its revenue per click-through would be 10 euros (13 euros per click-through, minus its cost of 3 euros). On the other hand, it could underbid rivals by a tiny increment, ensuring they bid 11 euros. When its critics argue that Google has an advantage because it pays itself, they are ultimately claiming that 10 is larger than 11.
Google’s remedy could hardly be more neutral. If it wins more auction slots than rivals CSSs, the appropriate inference should be that it is simply more efficient. Nothing in the Commission’s decision or the General Court’s ruling precludes that outcome. In short, while Google has (for the time being, at least) lost its battle to appeal the Commission’s decision, the remedy package—the same it put forward way back in 2014—has never looked stronger.
Good news for whom?
The above is mostly good news for both Google and consumers, who will be relieved that the General Court’s ruling preserves Google’s ability to show specialized boxes (of which the shopping unit is but one example). But that should not mask the tremendous downsides of both the Commission’s case and the court’s ruling.
The Commission and rivals’ misapprehensions surrounding the Google Shopping remedy, as well as the General Court’s strong stance against self-preferencing, are revealing of a broader misunderstanding about online markets that also permeates through other digital regulation initiatives like the Digital Markets Act and the American Choice and Innovation Act.
Policymakers wrongly imply that platform neutrality is a good in and of itself. They assume incumbent platforms generallyhave an incentive to favor their own services, and that preventing them from doing so is beneficial to both rivals and consumers. Yet neither of these statements is correct.
Economic research suggests self-preferencing is only harmful in exceptional circumstances. That is true of the traditional literature on platform threats (here and here), where harm is premised on the notion that rivals will use the downstream market, ultimately, to compete with an upstream incumbent. It’s also true in more recent scholarship that compares dual mode platforms to pure marketplaces and resellers, where harm hinges on a platform being able to immediately imitate rivals’ offerings. Even this ignores the significant efficiencies that might simultaneously arise from self-preferencing and closed platforms, more broadly. In short, rules that categorically prohibit self-preferening by dominant platforms overshoot the mark, and the General Court’s Google Shopping ruling is a troubling development in that regard.
It is also naïve to think that prohibiting self-preferencing will automatically benefit rivals and consumers (as opposed to harming the latter and leaving the former no better off). If self-preferencing is not anticompetitive, then propping up inefficient firms will at best be a futile exercise in preserving failing businesses. At worst, it would impose significant burdens on consumers by destroying valuable synergies between the platform and its own downstream service.
Finally, if the past years teach us anything about online markets, it is that consumers place a much heavier premium on frictionless user interfaces than on open platforms. TikTok is arguably a much more “closed” experience than other sources of online entertainment, like YouTube or Reddit (i.e. users have less direct control over their experience). Yet many observers have pinned its success, among other things, on its highly intuitive and simple interface. The emergence of Vinted, a European pre-owned goods platform, is another example of competition through a frictionless user experience.
There is a significant risk that, by seeking to boost “choice,” intervention by competition regulators against self-preferencing will ultimately remove one of the benefits users value most. By increasing the information users need to process, there is a risk that non-discrimination remedies will merely add pain points to the underlying purchasing process. In short, while Google Shopping is nominally a victory for the Commission and rivals, it is also a testament to the futility and harmfulness of myopic competition intervention in digital markets. Consumer preferences cannot be changed by government fiat, nor can the fact that certain firms are more efficient than others (at least, not without creating significant harm in the process). It is time this simple conclusion made its way into European competition thinking.
The Autorità Garante della Concorenza e del Mercato (AGCM), Italy’s competition and consumer-protection watchdog, on Nov. 25 handed down fines against Google and Apple of €10 million each—the maximum penalty contemplated by the law—for alleged unfair commercial practices. Ultimately, the twodecisions stand as textbook examples of why regulators should, wherever possible, strongly defer to consumer preferences, rather than substitute their own.
The Alleged Infringements
The AGCM has made two practically identical cases built around two interrelated claims. The first claim is that the companies have not properly informed users that the data they consent to share will be used for commercial purposes. The second is that, by making users opt out if they don’t want to consent to data sharing, the companies unduly restrict users’ freedom of choice and constrain them to accept terms they would not have otherwise accepted.
According to the AGCM, Apple and Google’s behavior infringes Articles 20, 21, 22, 24 and 25 of the Italian Consumer Code. The first three provisions prohibit misleading business practices, and are typically applied to conduct such as lying, fraud, the sale of unsafe products, or the omission or otherwise deliberate misrepresentation of facts in ways that would deceive the average user. The conduct caught by the first claim would allegedly fall into this category.
The last two provisions, by contrast, refer to aggressive business practices such as coercion, blackmail, verbal threats, and even physical harassment capable of “limiting the freedom of choice of users.” The conduct described in the second claim would fall here.
The First Claim
The AGCM’s first claim does not dispute that the companies informed users about the commercial use of their data. Instead, the authority argues that the companies are not sufficiently transparent in how they inform users.
Let’s start with Google. Upon creating a Google ID, users can click to view the “Privacy and Terms” disclosure, which details the types of data that Google processes and the reasons that it does so. As Figure 1 below demonstrates, the company explains that it processes data: “to publish personalized ads, based on your account settings, on Google services as well as on other partner sites and apps” (translation of the Italian text highlighted in the first red rectangle). Below, under the “data combination” heading, the user is further informed that: “in accordance with the settings of your account, we show you personalized ads based on the information gathered from your combined activity on Google and YouTube” (the section in the second red rectangle).
Figure 1: ACGM Google decision, p. 7
After creating a Google ID, a pop-up once again reminds the user that “this Google account is configured to include the personalization function, which provides tips and personalized ads based on the information saved on your account. [And that] you can select ‘other options’ to change the personalization settings as well as the information saved in your account.”
The AGCM sees two problems with this. First, the user must click on “Privacy and Terms” to be told what Google does with their data and why. Viewing this information is not simply an unavoidable step in the registration process. Second, the AGCM finds it unacceptable that the commercial use of data is listed together with other, non-commercial uses, such as improved quality, security, etc. (the other items listed in Figure 1). The allegation is that this leads to confusion and makes it less likely that users will notice the commercial aspects of data usage.
A similar argument is made in the Apple decision, where the AGCM similarly contends that users are not properly informed that their data may be used for commercial purposes. As shown in Figure 2, upon creating an Apple ID, users are asked to consent to receive “communications” (notifications, tips, and updates on Apple products, services, and software) and “Apps, music, TV, and other” (latest releases, exclusive content, special offers, tips on apps, music, films, TV programs, books, podcasts, Apple Pay and others).
Figure 2: AGCM Apple decision, p. 8
If users click on “see how your data is managed”—located just above the “Continue” button, as shown in Figure 2—they are taken to another page, where they are given more detailed information about what data Apple collects and how it is used. Apple discloses that it may employ user data to send communications and marketing e-mails about new products and services. Categories are clearly delineated and users are reminded that, if they wish to change their marketing email preferences, they can do so by going to appleid.apple.com. The word “data” is used 40 times and the taxonomy of the kind of data gathered by Apple is truly comprehensive. See for yourself.
The App Store, Apple Book Store, and iTunes Store have similar clickable options (“see how your data is managed”) that lead to pages with detailed information about how Apple uses data. This includes unambiguous references to so-called “commercial use” (e.g., “Apple uses information on your purchases, downloads, and other activities to send you tailored ads and notifications relative to Apple marketing campaigns.”)
But these disclosures failed to convince the AGCM that users are sufficiently aware that their data may be used for commercial purposes. The two reasons cited in the opinion mirror those in the Google decision. First, the authority claims that the design of the “see how your data is managed” option does not “induce the user to click on it” (see the marked area in Figure 2). Further, it notes that accessing the “Apple ID Privacy” page requires a “voluntary and eventual [i.e., hypothetical]” action by the user. According to the AGCM, this leads to a situation in which “the average user” is not “directly and intuitively” aware of the magnitude of data used for commercial purposes, and is instead led to believe that data is shared to improve the functionality of the Apple product and the Apple ecosystem.
The Second Claim
The AGCM’s second claim contends that the opt-out mechanism used by both Apple and Google “limits and conditions” users’ freedom of choice by nudging them toward the companies’ preferred option—i.e., granting the widest possible consent to process data for commercial use.
In Google’s case, the AGCM first notes that, when creating a Google ID, a user must take an additional discretionary step before they can opt out of data sharing. This refers to mechanism in which a user must click the words “OTHER OPTIONS,” in bright blue capitalized font, as shown in Figure 3 below (first blue rectangle, upper right corner).
Figure 3: AGCM Google decision, p. 22
The AGCM’s complaint here is that it is insufficient to grant users merely the possibility of opting out, as Google does. Rather, the authority contends, users must be explicitly asked whether they wish to share their data. As in the first claim, the AGCM holds that questions relating to the commercial use of data must be woven in as unavoidable steps in the registration process.
The AGCM also posits that the opt-out mechanism itself (in the lower left corner of Figure 3) “restricts and conditions” users’ freedom of choice by preventing them from “expressly and preventively” manifesting their real preferences. The contention is that, if presented with an opt-in checkbox, users would choose differently—and thus, from the authority’s point of view, choose correctly. Indeed, the AGCM concludes from the fact that the vast majority of users have not opted out from data sharing (80-100%, according to the authority), that the only reasonable conclusion is that “a significant number of subscribers have been induced to make a commercial decision without being aware of it.”
A similar argument is made in the Apple decision. Here, the issue is the supposed difficulty of the opt-out mechanism, which the AGCM describes as “intricate and non-immediate.” If a user wishes to opt out of data sharing, he or she would not only have to “uncheck” the checkboxes displayed in Figure 2, but also do the same in the Apple Store with respect to their preferences for other individual Apple products. This “intricate” process generally involves two to three steps. For instance, to opt out of “personalized tips,” a user must first go to Settings, then select their name, then multimedia files, and then “deactivate personalized tips.”
According to the AGCM, the registration process is set up in such a way that the users’ consent is not informed, free, and specific. It concludes:
The consumer, entangled in this system, of which he is not aware, is conditioned in his choices, undergoing the transfer of his data, which the professional can dispose of for his own promotional purposes.
The AGCM’s decisions fail on three fronts. They are speculative, paternalistic, and subject to the Nirvana Fallacy. They are also underpinned by an extremely uncharitable conception of what the “average user” knows and understands.
Epistemic Modesty Under Uncertainty
The AGCM makes far-reaching and speculative assumptions about user behavior based on incomplete knowledge. For instance, both Google and Apple’s registration processes make clear that they gather users’ data for advertising purposes—which, especially in the relevant context, cannot be interpreted by a user as anything but “commercial” (even under the AGCM’s pessimistic assumptions about the “average user.”) It’s true that the disclosure requires the user to click “see how your data is managed” (Apple) or “Privacy and Terms” (Google). But it’s not at all clear that this is less transparent than, say, the obligatory scroll-text that most users will ignore before blindly clicking to accept.
For example, in registering for a Blizzard account (a gaming service), users are forced to read the company’s lengthy terms and conditions, with information on the “commercial use” of data buried somewhere in a seven-page document of legalese. Does it really follow from this that Blizzard users are better informed about the commercial use of their data? I don’t think so.
Rather than the obligatory scroll-text, the AGCM may have in mind some sort of pop-up screen. But would this mean that companies should also include separate, obligatory pop-ups for every other relevant aspect of their terms and conditions? This would presumably take us back to square one, as the AGCM’s complaint was that Google amalgamated commercial and non-commercial uses of data under the same title. Perhaps the pop-up for the commercial use of data would have to be made more conspicuous. This would presumably require a normative hierarchy of the companies’ terms and conditions, listed in order of relevance for users. That would raise other thorny questions. For instance, should information about the commercial use of data be more prominently displayed than information about safety and security?
A reasonable alternative—especially under conditions of uncertainty—would be to leave Google and Apple alone to determine the best way to inform consumers, because nobody reads the terms and conditions anyway, no matter how they are presented. Moreover, the AGCM offers no evidence to support its contention that companies’ opt-out mechanisms lead more users to share their data than would freely choose to do so.
Whose Preferences?
The AGCM also replaces revealed user preferences with its own view of what those preferences should be. For instance, the AGCM doesn’t explain why opting to share data for commercial purposes would be, in principle, a bad thing. There are a number of plausible and legitimate explanations for why a user would opt for more generous data-sharing arrangements: they may believe that data sharing will improve their experience; may wish to receive tailored ads rather than generic ones; or may simply value a company’s product and see data sharing as a fair exchange. None of these explanations—or, indeed, any others—are ever contemplated in the AGCM decision.
Assuming that opt-outs, facultative terms and conditions screens, and two-to-three-step procedures to change one’s preferences truncate users’ “freedom of choice” is paternalistic and divorced from the reality of the average person, and the average Italian.
Ideal or Illegal?
At the heart of the AGCM decisions is the notion that it is proper to punish market actors wherever the real doesn’t match a regulator’s vision of the ideal—commonly known as “the Nirvana fallacy.” When the AGCM claims that Apple and Google do not properly disclose the commercial use of user data, or that the offered opt-out mechanism is opaque or manipulative, the question is: compared to what? There will always be theoretically “better” ways of granting users the choice to opt out of sharing their data. The test should not be whether a company falls short of some ideal imagined practice, but whether the existing mechanism actually deceives users.
There is nothing in the AGCM’s decisions to suggest that it does. Depending on how precipitously one lowers the bar for what the “average user” would understand, just about any intervention might be justified, in principle. But to justify the AGCM’s intervention in this case requires stretching the plausible ignorance of the average user to its absolute theoretical limits.
Conclusion
Even if a court were to buy the AGCM’s impossibly low view of the “average user” and grant the first claim—which would be unfortunate, but plausible — not even the most liberal reading of Articles 24 and 25 can support the view that “overly complex, non-immediate” opt-outs, as interpreted by the AGCM, limit users’ freedom of choice in any way comparable to the type of conduct described in those provisions (coercion, blackmail, verbal threats, etc.)
The AGCM decisions are shot through with unsubstantiated assumptions about users’ habits and preferences, and risk imposing undue burdens not only on the companies, but on users themselves. With some luck, they will be stricken down by a sensible judge. In the meantime, however, the trend of regulatory paternalism and over-enforcement continues. Much like in the United States, where the Federal Trade Commission (FTC) has occasionally engaged in product-design decisions that substitute the commission’s own preferences for those of consumers, regulators around the world continue to think they know better than consumers about what’s in their best interests.
In the world of video games, the process by which players train themselves or their characters in order to overcome a difficult “boss battle” is called “leveling up.” I find that the phrase also serves as a useful metaphor in the context of corporate mergers. Here, “leveling up” can be thought of as acquiring another firm in order to enter or reinforce one’s presence in an adjacent market where a larger and more successful incumbent is already active.
In video-game terminology, that incumbent would be the “boss.” Acquiring firms choose to level up when they recognize that building internal capacity to compete with the “boss” is too slow, too expensive, or is simply infeasible. An acquisition thus becomes the only way “to beat the boss” (or, at least, to maximize the odds of doing so).
Alas, this behavior is often mischaracterized as a “killer acquisition” or “reverse killer acquisition.” What separates leveling up from killer acquisitions is that the former serve to turn the merged entity into a more powerful competitor, while the latter attempt to weaken competition. In the case of “reverse killer acquisitions,” the assumption is that the acquiring firm would have entered the adjacent market regardless absent the merger, leaving even more firms competing in that market.
In other words, the distinction ultimately boils down to a simple (though hard to answer) question: could both the acquiring and target firms have effectively competed with the “boss” without a merger?
Because they are ubiquitous in the tech sector, these mergers—sometimes also referred to as acquisitions of nascent competitors—have drawn tremendous attention from antitrust authorities and policymakers. All too often, policymakers fail to adequately consider the realistic counterfactual to a merger and mistake leveling up for a killer acquisition. The most recent high-profile example is Meta’s acquisition of the virtual-reality fitness app Within. But in what may be a hopeful sign of a turning of the tide, a federal court appears set to clear that deal over objections from the Federal Trade Commission (FTC).
Some Recent ‘Boss Battles’
The canonical example of leveling up in tech markets is likely Google’s acquisition of Android back in 2005. While Apple had not yet launched the iPhone, it was already clear by 2005 that mobile would become an important way to access the internet (including Google’s search services). Rumors were swirling that Apple, following its tremendously successful iPod, had started developing a phone, and Microsoft had been working on Windows Mobile for a long time.
In short, there was a serious risk that Google would be reliant on a single mobile gatekeeper (i.e., Apple) if it did not move quickly into mobile. Purchasing Android was seen as the best way to do so. (Indeed, averting an analogous sort of threat appears to be driving Meta’s move into virtual reality today.)
The natural next question is whether Google or Android could have succeeded in the mobile market absent the merger. My guess is that the answer is no. In 2005, Google did not produce any consumer hardware. Quickly and successfully making the leap would have been daunting. As for Android:
Google had significant advantages that helped it to make demands from carriers and OEMs that Android would not have been able to make. In other words, Google was uniquely situated to solve the collective action problem stemming from OEMs’ desire to modify Android according to their own idiosyncratic preferences. It used the appeal of its app bundle as leverage to get OEMs and carriers to commit to support Android devices for longer with OS updates. The popularity of its apps meant that OEMs and carriers would have great difficulty in going it alone without them, and so had to engage in some contractual arrangements with Google to sell Android phones that customers wanted. Google was better resourced than Android likely would have been and may have been able to hold out for better terms with a more recognizable and desirable brand name than a hypothetical Google-less Android. In short, though it is of course possible that Android could have succeeded despite the deal having been blocked, it is also plausible that Android became so successful only because of its combination with Google. (citations omitted)
In short, everything suggests that Google’s purchase of Android was a good example of leveling up. Note that much the same could be said about the company’s decision to purchase Fitbit in order to compete against Apple and its Apple Watch (which quickly dominated the market after its launch in 2015).
A more recent example of leveling up is Microsoft’s planned acquisition of Activision Blizzard. In this case, the merger appears to be about improving Microsoft’s competitive position in the platform market for game consoles, rather than in the adjacent market for games.
At the time of writing, Microsoft is staring down the barrel of a gun: Sony is on the cusp of becoming the runaway winner of yet another console generation. Microsoft’s executives appear to have concluded that this is partly due to a lack of exclusive titles on the Xbox platform. Hence, they are seeking to purchase Activision Blizzard, one of the most successful game studios, known among other things for its acclaimed Call of Duty series.
Again, the question is whether Microsoft could challenge Sony by improving its internal game-publishing branch (known as Xbox Game Studios) or whether it needs to acquire a whole new division. This is obviously a hard question to answer, but a cursory glance at the titles shipped by Microsoft’s publishing studio suggest that the issues it faces could not simply be resolved by throwing more money at its existing capacities. Indeed, Microsoft Game Studios seems to be plagued by organizational failings that might only be solved by creating more competition within the Microsoft company. As one gaming journalist summarized:
The current predicament of these titles goes beyond the amount of money invested or the buzzwords used to market them – it’s about Microsoft’s plan to effectively manage its studios. Encouraging independence isn’t an excuse for such a blatantly hands-off approach which allows titles to fester for years in development hell, with some fostering mistreatment to occur. On the surface, it’s just baffling how a company that’s been ranked as one of the top 10 most reputable companies eight times in 11 years (as per RepTrak) could have such problems with its gaming division.
The upshot is that Microsoft appears to have recognized that its own game-development branch is failing, and that acquiring a well-functioning rival is the only way to rapidly compete with Sony. There is thus a strong case to be made that competition authorities and courts should approach the merger with caution, as it has at least the potential to significantly increase competition in the game-console industry.
Finally, leveling up is sometimes a way for smaller firms to try and move faster than incumbents into a burgeoning and promising segment. The best example of this is arguably Meta’s effort to acquire Within, a developer of VR fitness apps. Rather than being an attempt to thwart competition from a competitor in the VR app market, the goal of the merger appears to be to compete with the likes of Google, Apple, and Sony at the platform level. As Mark Zuckerberg wrote back in 2015, when Meta’s VR/AR strategy was still in its infancy:
Our vision is that VR/AR will be the next major computing platform after mobile in about 10 years… The strategic goal is clearest. We are vulnerable on mobile to Google and Apple because they make major mobile platforms. We would like a stronger strategic position in the next wave of computing….
Over the next few years, we’re going to need to make major new investments in apps, platform services, development / graphics and AR. Some of these will be acquisitions and some can be built in house. If we try to build them all in house from scratch, then we risk that several will take too long or fail and put our overall strategy at serious risk. To derisk this, we should acquire some of these pieces from leading companies.
In short, many of the tech mergers that critics portray as killer acquisitions are just as likely to be attempts by firms to compete head-on with incumbents. This “leveling up” is precisely the sort of beneficial outcome that antitrust laws were designed to promote.
Building Products Is Hard
Critics are often quick to apply the “killer acquisition” label to any merger where a large platform is seeking to enter or reinforce its presence in an adjacent market. The preceding paragraphs demonstrate that it’s not that simple, as these mergers often enable firms to improve their competitive position in the adjacent market. For obvious reasons, antitrust authorities and policymakers should be careful not to thwart this competition.
The harder part is how to separate the wheat from the chaff. While I don’t have a definitive answer, an easy first step would be for authorities to more seriously consider the supply side of the equation.
Building a new product is incredibly hard, even for the most successful tech firms. Microsoft famously failed with its Zune music player and Windows Phone. The Google+ social network never gained any traction. Meta’s foray into the cryptocurrency industry was a sobering experience. Amazon’s Fire Phone bombed. Even Apple, which usually epitomizes Silicon Valley firms’ ability to enter new markets, has had its share of dramatic failures: Apple Maps, its Ping social network, and the first Home Pod, to name a few.
To put it differently, policymakers should not assume that internal growth is always a realistic alternative to a merger. Instead, they should carefully examine whether such a strategy is timely, cost-effective, and likely to succeed.
This is obviously a daunting task. Firms will struggle to dispositively show that they need to acquire the target firm in order to effectively compete against an incumbent. The question essentially hinges on the quality of the firm’s existing management, engineers, and capabilities. All of these are difficult—perhaps even impossible—to measure. At the very least, policymakers can improve the odds of reaching a correct decision by approaching these mergers with an open mind.
Under Chair Lina Khan’s tenure, the FTC has opted for the opposite approach and taken a decidedly hostile view of tech acquisitions. The commission sued to block both Meta’s purchase of Within and Microsoft’s acquisition of Activision Blizzard. Likewise, several economists—notably Tommasso Valletti—have called for policymakers to reverse the burden of proof in merger proceedings, and opined that all mergers should be viewed with suspicion because, absent efficiencies, they always reduce competition.
Unfortunately, this skeptical approach is something of a self-fulfilling prophecy: when authorities view mergers with suspicion, they are likely to be dismissive of the benefits discussed above. Mergers will be blocked and entry into adjacent markets will occur via internal growth.
Large tech companies’ many failed attempts to enter adjacent markets via internal growth suggest that such an outcome would ultimately harm the digital economy. Too many “boss battles” will needlessly be lost, depriving consumers of precious competition and destroying startup companies’ exit strategies.
Gus Hurwitz called the bill dead in September. Then it passed the Senate Judiciary Committee. Now, there are some reports that suggest it could be added to the obviously unrelated National Defense Authorization Act (it should be noted that the JCPA was not included in the version of NDAA introduced in the U.S. House).
For an overview of the bill and its flaws, see Dirk Auer and Ben Sperry’s tl;dr. The JCPA would force “covered” online platforms like Facebook and Google to pay for journalism accessed through those platforms. When a user posts a news article on Facebook, which then drives traffic to the news source, Facebook would have to pay. I won’t get paid for links to my banger cat videos, no matter how popular they are, since I’m not a qualifying publication.
I’m going to focus on one aspect of the bill: the use of “final offer arbitration” (FOA) to settle disputes between platforms and news outlets. FOA is sometimes called “baseball arbitration” because it is used for contract disputes in Major League Baseball. This form of arbitration has also been implemented in other jurisdictions to govern similar disputes, notably by the Australian ACCC.
Before getting to the more complicated case, let’s start simple.
Scenario #1: I’m a corn farmer. You’re a granary who buys corn. We’re both invested in this industry, so let’s assume we can’t abandon negotiations in the near term and need to find an agreeable price. In a market, people make offers. Prices vary each year. I decide when to sell my corn based on prevailing market prices and my beliefs about when they will change.
Scenario #2: A government agency comes in (without either of us asking for it) and says the price of corn this year is $6 per bushel. In conventional economics, we call that a price regulation. Unlike a market price, where both sides sign off, regulated prices do not enjoy mutual agreement by the parties to the transaction.
Scenario #3: Instead of a price imposed independently by regulation, one of the parties (say, the corn farmer) may seek a higher price of $6.50 per bushel and petition the government. The government agrees and the price is set at $6.50. We would still call that price regulation, but the outcome reflects what at least one of the parties wanted and some may argue that it helps “the little guy.” (Let’s forget that many modern farms are large operations with bargaining power. In our head and in this story, the corn farmer is still a struggling mom-and-pop about to lose their house.)
Scenario #4: Instead of listening only to the corn farmer, both the farmer and the granary tell the government their “final offer” and the government picks one of those offers, not somewhere in between. The parties don’t give any reasons—just the offer. This is called “final offer arbitration” (FOA).
As an arbitration mechanism, FOA makes sense, even if it is not always ideal. It avoids some of the issues that can attend “splitting the difference” between the parties.
While it is better than other systems, it is still a price regulation. In the JCPA’s case, it would not be imposed immediately; the two parties can negotiate on their own (in the shadow of the imposed FOA). And the actual arbitration decision wouldn’t technically be made by the government, but by a third party. Fine. But ultimately, after stripping away the veneer, this is all just an elaborate mechanism built atop the threat of the government choosing the price in the market.
I call that price regulation. The losing party does not like the agreement and never agreed to the overall mechanism. Unlike in voluntary markets, at least one of the parties does not agree with the final price. Moreover, neither party explicitly chose the arbitration mechanism.
The JCPA’s FOA system is not precisely like the baseball situation. In baseball, there is choice on the front-end. Players and owners agree to the system. In baseball, there is also choice after negotiations start. Players can still strike; owners can enact a lockout. Under the JCPA, the platforms must carry the content. They cannot walk away.
I’m an economist, not a philosopher. The problem with force is not that it is unpleasant. Instead, the issue is that force distorts the knowledge conveyed through market transactions. That distortion prevents resources from moving to their highest valued use.
How do we know the apple is more valuable to Armen than it is to Ben? In a market, “we” don’t need to know. No benevolent outsider needs to pick the “right” price for other people. In most free markets, a seller posts a price. Buyers just need to decide whether they value it more than that price. Armen voluntarily pays Ben for the apple and Ben accepts the transaction. That’s how we know the apple is in the right hands.
Often, transactions are about more than just price. Sometimes there may be haggling and bargaining, especially on bigger purchases. Workers negotiate wages, even when the ad stipulates a specific wage. Home buyers make offers and negotiate.
But this just kicks up the issue of information to one more level. Negotiating is costly. That is why sometimes, in anticipation of costly disputes down the road, the two sides voluntarily agree to use an arbitration mechanism. MLB players agree to baseball arbitration. That is the two sides revealing that they believe the costs of disputes outweigh the losses from arbitration.
Again, each side conveys their beliefs and values by agreeing to the arbitration mechanism. Each step in the negotiation process allows the parties to convey the relevant information. No outsider needs to know “the right” answer.For a choice to convey information about relative values, it needs to be freely chosen.
At an abstract level, any trade has two parts. First, people agree to the mechanism, which determines who makes what kinds of offers. At the grocery store, the mechanism is “seller picks the price and buyer picks the quantity.” For buying and selling a house, the mechanism is “seller posts price, buyer can offer above or below and request other conditions.” After both parties agree to the terms, the mechanism plays out and both sides make or accept offers within the mechanism.
We need choice on both aspects for the price to capture each side’s private information.
For example, suppose someone comes up to you with a gun and says “give me your wallet or your watch. Your choice.” When you “choose” your watch, we don’t actually call that a choice, since you didn’t pick the mechanism. We have no way of knowing whether the watch means more to you or to the guy with the gun.
When the JCPA forces Facebook to negotiate with a local news website and Facebook offers to pay a penny per visit, it conveys no information about the relative value that the news website is generating for Facebook. Facebook may just be worried that the website will ask for two pennies and the arbitrator will pick the higher price. It is equally plausible that in a world without transaction costs, the news would pay Facebook, since Facebook sends traffic to them. Is there any chance the arbitrator will pick Facebook’s offer if it asks to be paid? Of course not, so Facebook will never make that offer.
For sure, things are imposed on us all the time. That is the nature of regulation. Energy prices are regulated. I’m not against regulation. But we should defend that use of force on its own terms and be honest that the system is one of price regulation. We gain nothing by a verbal sleight of hand that turns losing your watch into a “choice” and the JCPA’s FOA into a “negotiation” between platforms and news.
In economics, we often ask about market failures. In this case, is there a sufficient market failure in the market for links to justify regulation? Is that failure resolved by this imposition?
[TOTM: The following is part of a digital symposium by TOTM guests and authors on Antitrust’s Uncertain Future: Visions of Competition in the New Regulatory Landscape. Information on the authors and the entire series of posts is available here.]
May 2007, Palo Alto
The California sun shone warmly on Eric Schmidt’s face as he stepped out of his car and made his way to have dinner at Madera, a chic Palo Alto restaurant.
Dining out was a welcome distraction from the endless succession of strategy meetings with the nitpickers of the law department, which had been Schmidt’s bread and butter for the last few months. The lawyers seemed to take issue with any new project that Google’s engineers came up with. “How would rivals compete with our maps?”; “Our placement should be no less favorable than rivals’’; etc. The objections were endless.
This is not how things were supposed to be. When Schmidt became Google’s chief executive officer in 2001, his mission was to take the company public and grow the firm into markets other than search. But then something unexpected happened. After campaigning on an anti-monopoly platform, a freshman senator from Minnesota managed to get her anti-discrimination bill through Congress in just her first few months in office. All companies with a market cap of more than $150 billion were now prohibited from favoring their own products. Google had recently crossed that Rubicon, putting a stop to years of carefree expansion into new markets.
But today was different. The waiter led Schmidt to his table overlooking Silicon Valley. His acquaintance was already seated.
With his tall and slender figure, Andy Rubin had garnered quite a reputation among Silicon Valley’s elite. After engineering stints at Apple and Motorola, developing various handheld devices, Rubin had set up his own shop. The idea was bold: develop the first open mobile platform—based on Linux, nonetheless. Rubin had pitched the project to Google in 2005 but given the regulatory uncertainty over the future of antitrust—the same wave of populist sentiment that would carry Klobuchar to office one year later—Schmidt and his team had passed.
“There’s no money in open source,” the company’s CFO ruled. Schmidt had initially objected, but with more pressing matters to deal with, he ultimately followed his CFO’s advice.
Schmidt and Rubin were exchanging pleasantries about Microsoft and Java when the meals arrived–sublime Wagyu short ribs and charred spring onions paired with a 1986 Chateau Margaux.
Rubin finally cut to the chase. “Our mobile operating system will rely on state-of-the-art touchscreen technology. Just like the device being developed by Apple. Buying Android today might be your only way to avoid paying monopoly prices to access Apple’s mobile users tomorrow.”
Schmidt knew this all too well: The future was mobile, and few companies were taking Apple’s upcoming iPhone seriously enough. Even better, as a firm, Android was treading water. Like many other startups, it had excellent software but no business model. And with the Klobuchar bill putting the brakes on startup investment—monetizing an ecosystem had become a delicate legal proposition, deterring established firms from acquiring startups–Schmidt was in the middle of a buyer’s market. “Android we could make us a force to reckon with” Schmidt thought to himself.
But he quickly shook that thought, remembering the words of his CFO: “There is no money in open source.” In an ideal world, Google would have used Android to promote its search engine—placing a search bar on Android users to draw users to its search engine—or maybe it could have tied a proprietary app store to the operating system, thus earning money from in-app purchases. But with the Klobuchar bill, these were no longer options. Not without endless haggling with Google’s planning committee of lawyers.
And they would have a point, of course. Google risked heavy fines and court-issued injunctions that would stop the project in its tracks. Such risks were not to be taken lightly. Schmidt needed a plan to make the Android platform profitable while accommodating Google’s rivals, but he had none.
The desserts were served, Schmidt steered the conversation to other topics, and the sun slowly set over Sand Hill Road.
Present Day, Cupertino
Apple continues to dominate the smartphone industry with little signs of significant competition on the horizon. While there are continuing rumors that Google, Facebook, or even TikTok might enter the market, these have so far failed to transpire.
Google’s failed partnership with Samsung, back in 2012, still looms large over the industry. After lengthy talks to create an open mobile platform failed to materialize, Google ultimately entered into an agreement with the longstanding mobile manufacturer. Unfortunately, the deal was mired by antitrust issues and clashing visions—Samsung was believed to favor a closed ecosystem, rather than the open platform envisioned by Google.
The sense that Apple is running away with the market is only reinforced by recent developments. Last week, Tim Cook unveiled the company’s new iPhone 11—the first ever mobile device to come with three cameras. With an eye-watering price tag of $1,199 for the top-of-the-line Pro model, it certainly is not cheap. In his presentation, Cook assured consumers Apple had solved the security issues that have been an important bugbear for the iPhone and its ecosystem of competing app stores.
Analysts expect the new range of devices will help Apple cement the iPhone’s 50% market share. This is especially likely given the important challenges that Apple’s main rivals continue to face.
The Windows Phone’s reputation for buggy software continues to undermine its competitive position, despite its comparatively low price point. Andy Rubin, the head of the Windows Phone, was reassuring in a press interview, but there is little tangible evidence he will manage to successfully rescue the flailing ship. Meanwhile, Huawei has come under increased scrutiny for the threats it may pose to U.S. national security. The Chinese manufacturer may face a U.S. sales ban, unless the company’s smartphone branch is sold to a U.S. buyer. Oracle is said to be a likely candidate.
The sorry state of mobile competition has become an increasingly prominent policy issue. President Klobuchar took to Twitter and called on mobile-device companies to refrain from acting as monopolists, intimating elsewhere that failure to do so might warrant tougher regulation than her anti-discrimination bill:
[The following is a guest post from Andrew Mercado, a research assistant at the Mercatus Center at George Mason University and an adjunct professor and research assistant at George Mason’s Antonin Scalia Law School.]
The Competition and Transparency in Digital Advertising Act (CTDAA), introduced May 19 by Sens. Mike Lee (R-Utah), Ted Cruz (R-Texas), Amy Klobuchar (D-Minn.), and Richard Blumenthal (D-Conn.), is the latest manifestation of the congressional desire to “do something” legislatively about big digital platforms. Although different in substance from the other antitrust bills introduced this Congress, it shares one key characteristic: it is fatally flawed and should not be enacted.
Restrictions
In brief, the CTDAA imposes revenue-based restrictions on the ownership structure of firms engaged in digital advertising. The CTDAA bars a firm with more than $20 billion in annual advertising revenue (adjusted annually for inflation) from:
owning a digital-advertising exchange if it owns either a sell-side ad brokerage or a buy-side ad brokerage; and
owning a sell-side brokerage if it owns a buy-side brokerage, or from owning a buy-side or sell-side brokerage if it is also a buyer or seller of advertising space.
The proposal’s ownership restrictions present the clearest harm to the future of the digital-advertising market. From an efficiency perspective, vertical integration of both sides of the market can lead to enormous gains. Since, for example, Google owns and operates an ad exchange, a sell-side broker, and a buy-side broker, there are very few frictions that exist between each side of the market. All of the systems are integrated and the supply of advertising space, demand for that space, and the marketplace conducting price-discovery auctions are automatically updated in real time.
While this instantaneous updating is not unique to Google’s system, and other buy- and sell-side firms can integrate into the system, the benefit to advertisers and publishers can be found in the cost savings that come from the integration. Since Google is able to create synergies on all sides of the market, the fees on any given transaction are lower. Further, incorporating Google’s vast trove of data allows for highly relevant and targeted ads. All of this means that advertisers spend less for the same quality of ad; publishers get more for each ad they place; and consumers see higher-quality, more relevant ads.
Without the ability to own and invest in the efficiency and transaction-cost reduction of an integrated platform, there will likely be less innovation and lower quality on all sides of the market. Further, advertisers and publishers will have to shoulder the burden of using non-integrated marketplaces and would likely pay higher fees for less-efficient brokers. Since Google is a one-stop shop for all of a company’s needs—whether that be on the advertising side or the publishing side—companies can move seamlessly from one side of the market to the other, all while paying lower costs per transaction, because of the integrated nature of the platform.
In the absence of such integration, a company would have to seek out one buy-side brokerage to place ads and another, separate sell-side brokerage to receive ads. These two brokers would then have to go to an ad exchange to facilitate the deal, bringing three different brokers into the mix. Each of these middlemen would take a proportionate cut of the deal. When comparing the situation between an integrated and non-integrated market, the fees associated with serving ads in a non-integrated market are almost certainly higher.
Additionally, under this proposal, the innovative potential of each individual firm is capped. If a firm grows big enough and gains sufficient revenue through integrating different sides of the market, they will be forced to break up their efficiency-inducing operations. Marginal improvements on each side of the market may be possible, but without integrating different sides of the market, the scale required to justify those improvements would be insurmountable.
Assumptions
The CTDAA assumes that:
there is a serious competitive problem in digital advertising; and
the structural separation and regulation of advertising brokerages run by huge digital-advertising platforms (as specified in the CTDAA) would enhance competition and benefit digital advertising customers and consumers.
The first assumption has not been proven and is subject to debate, while the second assumption is likely to be false.
Fundamental to the bill’s assumption that the digital-advertising market lacks competition is a misunderstanding of competitive forces and the idea that revenue and profit are inversely related to competition. While it is true that high profits can be a sign of consolidation and anticompetitive outcomes, the dynamic nature of the internet economy makes this theory unlikely.
As Christopher Kaiser and I have discussed, competition in the internet economy is incredibly dynamic. Vigorous competition can be achieved with just a handful of firms, despite claims from some quarters that four competitors is necessarily too few. Even in highly concentrated markets, there is the omnipresent threat that new entrants will emerge to usurp an incumbent’s reign. Additionally, while some studies may show unusually large profits in those markets, when adjusted for the consumer welfare created by large tech platforms, profits should actually be significantly higher than they are.
Evidence of dynamic entry in digital markets can be found in a recently announced product offering from a small (but more than $6 billion in revenue) competitor in digital advertising. Following the outcry associated with Google’s alleged abuse with Project Bernanke, the Trade Desk developed OpenPath. This allowed the Trade Desk, a buy-side broker, to handle some of the functions of a sell-side broker and eliminate harms from Google’s alleged bid-rigging to better serve its clients.
In developing the platform, the Trade Desk said it would discontinue serving any Google-based customers, effectively severing ties with the largest advertising exchange on the market. While this runs afoul of the letter of the law spelled out in CTDAA, it is well within the spirit its sponsor’s stated goal: businesses engaging in robust free-market competition. If Google’s market power was as omnipresent and suffocating as the sponsors allege, then eliminating traffic from Google would have been a death sentence for the Trade Desk.
While various theories of vertical and horizontal competitive harm have been put forward, there has not been an empirical showing that consumers and advertising customers have failed to benefit from the admittedly efficient aspects of digital-brokerage auctions administered by Google, Facebook, and a few other platforms. The rapid and dramatic growth of digital advertising and associated commerce strongly suggests that this has been an innovative and welfare-enhancing development. Moreover, the introduction of a new integrated brokerage platform by a “small” player in the advertising market indicates there is ample opportunity to increase this welfare further.
Interfering in brokerage operations under the unproven assumption that “monopoly rents” are being charged and that customers are being “exploited” is rhetoric unmoored from hard evidence. Furthermore, if specific platform practices are shown inefficiently to exclude potential entrants, existing antitrust law can be deployed on a case-specific basis. This approach is currently being pursued by a coalition of state attorneys general against Google (the merits of which are not relevant to this commentary).
Even assuming for the sake of argument that there are serious competition problems in the digital-advertising market, there is no reason to believe that the arbitrary provisions and definitions found in the CTDAA would enhance welfare. Indeed, it is likely that the act would have unforeseen consequences:
It would lead to divestitures supervised by the U.S. Justice Department (DOJ) that could destroy efficiencies derived from efficient targeting by brokerages integrated into platforms;
It would disincentivize improvements in advertising brokerages and likely would reduce future welfare on both the buy and sell sides of digital advertising;
It would require costly recordkeeping and disclosures by covered platforms that could have unforeseen consequences for privacy and potentially reduce the efficiency of bidding practices;
It would establish a fund for damage payments that would encourage wasteful litigation (see next two points);
It would spawn a great deal of wasteful private rent-seeking litigation that would discourage future platform and brokerage innovations; and
It would likely generate wasteful lawsuits by rent-seeking state attorneys general (and perhaps the DOJ as well).
The legislation would ultimately harm consumers who currently benefit from a highly efficient form of targeted advertising (for more on the welfare benefits of targeted advertising, see here). Since Google continually invests in creating a better search engine (to deliver ads directly to consumers) and collects more data to better target ads (to deliver ads to specific consumers), the value to advertisers of displaying ads on Google constantly increases.
Proposing a new regulatory structure that would directly affect the operations of highly efficient auction markets is the height of folly. It ignores the findings of Nobel laureate James M. Buchanan (among others) that, to justify regulation, there should first be a provable serious market failure and that, even if such a failure can be shown, the net welfare costs of government intervention should be smaller than the net welfare costs of non-intervention.
Given the likely substantial costs of government intervention and the lack of proven welfare costs from the present system (which clearly has been associated with a growth in output), the second prong of the Buchanan test clearly has not been met.
Conclusion
While there are allegations of abuses in the digital-advertising market, it is not at all clear that these abuses have had a long-term negative economic impact. As shown in a study by Erik Brynjolfsson and his student Avinash Collis—recently summarized in the Harvard Business Review (Alden Abbott offers commentary here)—the consumer surplus generated by digital platforms has far outstripped the advertising and services revenues received by the platforms. The CTDAA proposal would seek to unwind much of these gains.
If the goal is to create a multitude of small, largely inefficient advertising companies that charge high fees and provide low-quality service, this bill will deliver. The market for advertising will have a far greater number of players but it will be far less competitive, since no companies will be willing to exceed the $20 billion revenue threshold that would leave them subject to the proposal’s onerous ownership standards.
If, however, the goal is to increase consumer welfare, increase rigorous competition, and cement better outcomes for advertisers and publishers, then it is likely to fail. Ownership requirements laid out in the proposal will lead to a stagnant advertising market, higher fees for all involved, and lower-quality, less-relevant ads. Government regulatory interference in highly successful and efficient platform markets are a terrible idea.
In our previous post on Gonzalez v. Google LLC, which will come before the U.S. Supreme Court for oral arguments Feb. 21, Kristian Stout and I argued that, while the U.S. Justice Department (DOJ) got the general analysis right (looking to Roommates.com as the framework for exceptions to the general protections of Section 230), they got the application wrong (saying that algorithmic recommendations should be excepted from immunity).
Now, after reading Google’s brief, as well as the briefs of amici on their side, it is even more clear to me that:
algorithmic recommendations are protected by Section 230 immunity; and
creating an exception for such algorithms would severely damage the internet as we know it.
I address these points in reverse order below.
Google on the Death of the Internet Without Algorithms
The central point that Google makes throughout its brief is that a finding that Section 230’s immunity does not extend to the use of algorithmic recommendations would have potentially catastrophic implications for the internet economy. Google and amici for respondents emphasize the ubiquity of recommendation algorithms:
Recommendation algorithms are what make it possible to find the needles in humanity’s largest haystack. The result of these algorithms is unprecedented access to knowledge, from the lifesaving (“how to perform CPR”) to the mundane (“best pizza near me”). Google Search uses algorithms to recommend top search results. YouTube uses algorithms to share everything from cat videos to Heimlich-maneuver tutorials, algebra problem-solving guides, and opera performances. Services from Yelp to Etsy use algorithms to organize millions of user reviews and ratings, fueling global commerce. And individual users “like” and “share” content millions of times every day. – Brief for Respondent Google, LLC at 2.
The “recommendations” they challenge are implicit, based simply on the manner in which YouTube organizes and displays the multitude of third-party content on its site to help users identify content that is of likely interest to them. But it is impossible to operate an online service without “recommending” content in that sense, just as it is impossible to edit an anthology without “recommending” the story that comes first in the volume. Indeed, since the dawn of the internet, virtually every online service—from news, e-commerce, travel, weather, finance, politics, entertainment, cooking, and sports sites, to government, reference, and educational sites, along with search engines—has had to highlight certain content among the thousands or millions of articles, photographs, videos, reviews, or comments it hosts to help users identify what may be most relevant. Given the sheer volume of content on the internet, efforts to organize, rank, and display content in ways that are useful and attractive to users are indispensable. As a result, exposing online services to liability for the “recommendations” inherent in those organizational choices would expose them to liability for third-party content virtually all the time. – Amicus Brief for Meta Platforms at 3-4.
In other words, if Section 230 were limited in the way that the plaintiffs (and the DOJ) seek, internet platforms’ ability to offer users useful information would be strongly attenuated, if not completely impaired. The resulting legal exposure would lead inexorably to far less of the kinds of algorithmic recommendations upon which the modern internet is built.
This is, in part, why we weren’t able to fully endorse the DOJ’s brief in our previous post. The DOJ’s brief simply goes too far. It would be unreasonable to establish as a categorical rule that use of the ubiquitous auto-discovery algorithms that power so much of the internet would strip a platform of Section 230 protection. The general rule advanced by the DOJ’s brief would have detrimental and far-ranging implications.
Amici on Publishing and Section 230(f)(4)
Google and the amici also make a strong case that algorithmic recommendations are inseparable from publishing. They have a strong textual hook in Section 230(f)(4), which explicitly protects “enabling tools that… filter, screen, allow, or disallow content; pick, choose, analyze or disallow content; or transmit, receive, display, forward, cache, search, subset, organize, reorganize, or translate content.”
As the amicus brief from a group of internet-law scholars—including my International Center for Law & Economics colleagues Geoffrey Manne and Gus Hurwitz—put it:
Section 230’s text should decide this case. Section 230(c)(1) immunizes the user or provider of an “interactive computer service” from being “treated as the publisher or speaker” of information “provided by another information content provider.” And, as Section 230(f)’s definitions make clear, Congress understood the term “interactive computer service” to include services that “filter,” “screen,” “pick, choose, analyze,” “display, search, subset, organize,” or “reorganize” third-party content. Automated recommendations perform exactly those functions, and are therefore within the express scope of Section 230’s text. – Amicus Brief of Internet Law Scholars at 3-4.
In other words, Section 230 protects not just the conveyance of information, but how that information is displayed. Algorithmic recommendations are a subset of those display tools that allow users to find what they are looking for with ease. Section 230 can’t be reasonably read to exclude them.
Why This Isn’t Really (Just) a Roommates.com Case
This is where the DOJ’s amicus brief (and our previous analysis) misses the point. This is not strictly a Roomates.com case. The case actually turns on whether algorithmic recommendations are separable from publication of third-party content, rather than whether they are design choices akin to what was occurring in that case.
For instance, in our previous post, we argued that:
[T]he DOJ argument then moves onto thinner ice. The DOJ believes that the 230 liability shield in Gonzalez depends on whether an automated “recommendation” rises to the level of development or creation, as the design of filtering criteria in Roommates.com did.
While we thought the DOJ went too far in differentiating algorithmic recommendations from other uses of algorithms, we gave them too much credit in applying the Roomates.com analysis. Section 230 was meant to immunize filtering tools, so long as the information provided is from third parties. Algorithmic recommendations—like the type at issue with YouTube’s “Up Next” feature—are less like the conduct in Roommates.com and much more like a search engine.
The DOJ did, however, have a point regarding algorithmic tools in that they may—like any other tool a platform might use—be employed in a way that transforms the automated promotion into a direct endorsement or original publication. For instance, it’s possible to use algorithms to intentionally amplify certain kinds of content in such a way as to cultivate more of that content.
That’s, after all, what was at the heart of Roommates.com. The site was designed to elicit responses from users that violated the law. Algorithms can do that, but as we observed previously, and as the many amici in Gonzalez observe, there is nothing inherent to the operation of algorithms that match users with content that makes their use categorically incompatible with Section 230’s protections.
Conclusion
After looking at the textual and policy arguments forwarded by both sides in Gonzalez, it appears that Google and amici for respondents have the better of it. As several amici argued, to the extent there are good reasons to reform Section 230, Congress should take the lead. The Supreme Court shouldn’t take this case as an opportunity to significantly change the consensus of the appellate courts on the broad protections of Section 230 immunity.
[TOTM: The following is part of a digital symposium by TOTM guests and authors on the law, economics, and policy of the antitrust lawsuits against Google. The entire series of posts is available here.]
Google is facing a series of lawsuits in 2020 and 2021 that challenge some of the most fundamental parts of its business, and of the internet itself — Search, Android, Chrome, Google’s digital-advertising business, and potentially other services as well.
The U.S. Justice Department (DOJ) has brought a case alleging that Google’s deals with Android smartphone manufacturers, Apple, and third-party browsers to make Google Search their default general search engine are anticompetitive (ICLE’s tl;dr on the case is here), and the State of Texas has brought a suit against Google’s display advertising business. These follow a market study by the United K’s Competition and Markets Authority that recommended an ex ante regulator and code of conduct for Google and Facebook. At least one more suit is expected to follow.
These lawsuits will test ideas that are at the heart of modern antitrust debates: the roles of defaults and exclusivity deals in competition; the costs of self-preferencing and its benefits to competition; the role of data in improving software and advertising, and its role as a potential barrier to entry; and potential remedies in these markets and their limitations.
This Truth on the Market symposium asks contributors with wide-ranging viewpoints to comment on some of these issues as they arise in the lawsuits being brought—starting with the U.S. Justice Department’s case against Google for alleged anticompetitive practices in search distribution and search-advertising markets—and continuing throughout the duration of the lawsuits.
Digital advertising is the economic backbone of the Internet. It allows websites and apps to monetize their userbase without having to charge them fees, while the emergence of targeted ads allows this to be accomplished affordably and with less wasted time wasted.
This advertising is facilitated by intermediaries using the “adtech stack,” through which advertisers and publishers are matched via auctions and ads ultimately are served to relevant users. This intermediation process has advanced enormously over the past three decades. Some now allege, however, that this market is being monopolized by its largest participant: Google.
A lawsuit filed by the State of Texas and nine other states in December 2020 alleges, among other things, that Google has engaged in anticompetitive conduct related to its online display advertising business. Those 10 original state plaintiffs were joined by another four states and the Commonwealth of Puerto Rico in March 2021, while South Carolina and Louisiana have also moved to be added as additional plaintiffs. Google also faces a pending antitrust lawsuit brought by the U.S. Justice Department (DOJ) and 14 states (originally 11) related to the company’s distribution agreements, as well as a separate action by the State of Utah, 35 other states, and the District of Columbia related to its search design.
In recent weeks, it has been reported that the DOJ may join the Texas suit or bring its own similar action against Google in the coming months. If it does, it should learn from the many misconceptions and errors in the Texas complaint that leave it on dubious legal and economic grounds.
Relevant market
The Texas complaint identifies at least five relevant markets within the adtech stack that it alleges Google either is currently monopolizing or is attempting to monopolize:
Publisher ad servers;
Display ad exchanges;
Display ad networks;
Ad-buying tools for large advertisers; and
Ad-buying tools for small advertisers.
None of these constitute an economically relevant product market for antitrust purposes, since each “market” is defined according to how superficially similar the products are in function, not how substitutable they are. Nevertheless, the Texas complaint vaguely echoes how markets were conceived in the “Roadmap” for a case against Google’s advertising business, published last year by the Omidyar Network, which may ultimately influence any future DOJ complaint, as well.
The Omidyar Roadmap narrows the market from media advertising to digital advertising, then to the open supply of display ads, which comprises only 9% of the total advertising spending and less than 20% of digital advertising, as shown in the figure below. It then further narrows the defined market to the intermediation of the open supply of display ads. Once the market has been sufficiently narrowed, the Roadmap authors conclude that Google’s market share is “perhaps sufficient to confer market power.”
While whittling down the defined market may achieve the purposes of sketching a roadmap to prosecute Google, it also generates a mishmash of more than a dozen relevant markets for digital display and video advertising. In many of these, Google doesn’t have anything approaching market power, while, in some, Facebook is the most dominant player.
The Texas complaint adopts a non-economic approach to market definition. It ignores potential substitutability between different kinds of advertising, both online and offline, which can serve as a competitive constraint on the display advertising market. The complaint considers neither alternative forms of display advertising, such as social media ads, nor alternative forms of advertising, such as search ads or non-digital ads—all of which can and do act as substitutes. It is possible, at the very least, that advertisers who choose to place ads on third-party websites may switch to other forms of advertising if the price of third-party website advertising was above competitive levels. To ignore this possibility, as the Texas complaint does, is to ignore the entire purpose of defining the relevant antitrust market altogether.
Offline advertising vs. online advertising
The fact that offline and online advertising employ distinct processes does not consign them to economically distinct markets. Indeed, online advertising has manifestly drawn advertisers from offline markets, just as previous technological innovations drew advertisers from other pre-existing channels.
Moreover, there is evidence that, in some cases, offline and online advertising are substitute products. For example, economists Avi Goldfarb and Catherine Tucker demonstrate that display advertising pricing is sensitive to the availability of offline alternatives. They conclude:
We believe our studies refute the hypothesis that online and offline advertising markets operate independently and suggest a default position of substitution. Online and offline advertising markets appear to be closely related. That said, it is important not to draw any firm conclusions based on historical behavior.
Display ads vs. search ads
There is perhaps even more reason to doubt that online display advertising constitutes a distinct, economically relevant market from online search advertising.
Although casual and ill-informed claims are often made to the contrary, various forms of targeted online advertising are significant competitors of each other. Bo Xing and Zhanxi Lin report firms spread their marketing budgets across these different sources of online marketing, and “search engine optimizers”—firms that help websites to maximize the likelihood of a valuable “top-of-list” organic search placement—attract significant revenue. That is, all of these different channels vie against each other for consumer attention and offer advertisers the ability to target their advertising based on data gleaned from consumers’ interactions with their platforms.
Facebook built a business on par with Google’s thanks in large part to advertising, by taking advantage of users’ more extended engagement with the platform to assess relevance and by enabling richer, more engaged advertising than previously appeared on Google Search. It’s an entirely different model from search, but one that has turned Facebook into a competitive ad platform.
And the market continues to shift. Somewhere between 37-56% of product searches start on Amazon, according to one survey, and advertisers have noticed. This is not surprising, given Amazon’s strong ability to match consumers with advertisements, and to do so when and where consumers are more likely to make a purchase.
‘Open’ display advertising vs. ‘owned-and-operated’ display advertising
The United Kingdom’s Competition and Markets Authority (like the Omidyar Roadmap report) has identified two distinct channels of display advertising, which they term “owned and operated” and “open.” The CMA concludes:
Over half of display expenditure is generated by Facebook, which owns both the Facebook platform and Instagram. YouTube has the second highest share of display advertising and is owned by Google. The open display market, in which advertisers buy inventory from many publishers of smaller scale (for example, newspapers and app providers) comprises around 32% of display expenditure.
The Texas complaint does not directly address the distinction between open and owned and operated, but it does allege anticompetitive conduct by Google with respect to YouTube in a separate “inline video advertising market.”
The CMA finds that the owned-and-operated channel mostly comprises large social media platforms, which sell their own advertising inventory directly to advertisers or media agencies through self-service interfaces, such as Facebook Ads Manager or Snapchat Ads Manager. In contrast, in the open display channel, publishers such as online newspapers and blogs sell their inventory to advertisers through a “complex chain of intermediaries.” Through these, intermediaries run auctions that match advertisers’ ads to publisher inventory of ad space. In both channels, nearly all transactions are run through programmatic technology.
The CMA concludes that advertisers “largely see” the open and the owned-and-operated channels as substitutes. According to the CMA, an advertiser’s choice of one channel over the other is driven by each channel’s ability to meet the key performance metrics the advertising campaign is intended to achieve.
The Omidyar Roadmap argues, instead, that the CMA too narrowly focuses on the perspective of advertisers. The Roadmap authors claim that “most publishers” do not control supply that is “owned and operated.” As a result, they conclude that publishers “such as gardenandgun.com or hotels.com” do not have any owned-and-operated supply and can generate revenues from their supply “only through the Google-dominated adtech stack.”
But this is simply not true. For example, in addition to inventory in its print media, Garden & Gun’s “Digital Media Kit” indicates that the publisher has several sources of owned-and-operated banner and video supply, including the desktop, mobile, and tablet ads on its website; a “homepage takeover” of its website; branded/sponsored content; its email newsletters; and its social media accounts. Hotels.com, an operating company of Expedia Group, has its own owned-and-operated search inventory, which it sells through its “Travel Ads Sponsored Listing,” as well owned-and-operated supply of standard and custom display ads.
Given that both perform the same function and employ similar mechanisms for matching inventory with advertisers, it is unsurprising that both advertisers and publishers appear to consider the owned-and-operated channel and the open channel to be substitutes.
Politico has released a cache of confidential Federal Trade Commission (FTC) documents in connection with a series of articles on the commission’s antitrust probe into Google Search a decade ago. The headline of the first piece in the series argues the FTC “fumbled the future” by failing to follow through on staff recommendations to pursue antitrust intervention against the company.
But while the leaked documents shed interesting light on the inner workings of the FTC, they do very little to substantiate the case that the FTC dropped the ball when the commissioners voted unanimously not to bring an action against Google.
Drawn primarily from memos by the FTC’s lawyers, the Politico report purports to uncover key revelations that undermine the FTC’s decision not to sue Google. None of the revelations, however, provide evidence that Google’s behavior actually harmed consumers.
The report’s overriding claim—and the one most consistently forwarded by antitrust activists on Twitter—is that FTC commissioners wrongly sided with the agency’s economists (who cautioned against intervention) rather than its lawyers (who tenuously recommended very limited intervention).
One thing that really comes through in @leah_nylen excellent set of articles on the FTC decision to abandon the GOOG lawsuit is just how *wrong* the economists were. /1
16. But the biggest reason is the point of the post. Economists. The commission’s antitrust economists made a very strong, and entirely wrong, argument against the case, which in retrospect rested on a set of laughably inaccurate predictions. pic.twitter.com/L5ecQcurAd
Reading through @leah_nylen's incredible scoop on how FTC dropped the ball on Google in 2013. This passage from the economics memo stands out as emblematic of the ways economists have repeatedly fumbled antitrust enforcement. pic.twitter.com/lKBgVfxI4H
Indeed, the overarching narrative is that the lawyers knew what was coming and the economists took wildly inaccurate positions that turned out to be completely off the mark:
But the FTC’s economists successfully argued against suing the company, and the agency’s staff experts made a series of predictions that would fail to match where the online world was headed:
— They saw only “limited potential for growth” in ads that track users across the web — now the backbone of Google parent company Alphabet’s $182.5 billion in annual revenue.
— They expected consumers to continue relying mainly on computers to search for information. Today, about 62 percent of those queries take place on mobile phones and tablets, nearly all of which use Google’s search engine as the default.
— They thought rivals like Microsoft, Mozilla or Amazon would offer viable competition to Google in the market for the software that runs smartphones. Instead, nearly all U.S. smartphones run on Google’s Android and Apple’s iOS.
— They underestimated Google’s market share, a heft that gave it power over advertisers as well as companies like Yelp and Tripadvisor that rely on search results for traffic.
The report thus asserts that:
The agency ultimately voted against taking action, saying changes Google made to its search algorithm gave consumers better results and therefore didn’t unfairly harm competitors.
That conclusion underplays what the FTC’s staff found during the probe. In 312 pages of documents, the vast majority never publicly released, staffers outlined evidence that Google had taken numerous steps to ensure it would continue to dominate the market — including emerging arenas such as mobile search and targeted advertising. [EMPHASIS ADDED]
What really emerges from the leaked memos, however, is analysis by both the FTC’s lawyers and economists infused with a healthy dose of humility. There were strong political incentives to bring a case. As one of us noted upon the FTC’s closing of the investigation: “It’s hard to imagine an agency under more pressure, from more quarters (including the Hill), to bring a case around search.” Yet FTC staff and commissioners resisted that pressure, because prediction is hard.
Ironically, the very prediction errors that the agency’s staff cautioned against are now being held against them. Yet the claims that these errors (especially the economists’) systematically cut in one direction (i.e., against enforcement) and that all of their predictions were wrong are both wide of the mark.
Decisions Under Uncertainty
In seeking to make an example out of the FTC economists’ inaccurate predictions, critics ignore that antitrust investigations in dynamic markets always involve a tremendous amount of uncertainty; false predictions are the norm. Accordingly, the key challenge for policymakers is not so much to predict correctly, but to minimize the impact of incorrect predictions.
Seen in this light, the FTC economists’ memo is far from the laissez-faire manifesto that critics make it out to be. Instead, it shows agency officials wrestling with uncertain market outcomes, and choosing a course of action under the assumption the predictions they make might indeed be wrong.
Consider the following passage from FTC economist Ken Heyer’s memo:
The great American philosopher Yogi Berra once famously remarked “Predicting is difficult, especially about the future.” How right he was. And yet predicting, and making decisions based on those predictions, is what we are charged with doing. Ignoring the potential problem is not an option. So I will be reasonably clear about my own tentative conclusions and recommendation, recognizing that reasonable people, perhaps applying a somewhat different standard, may disagree. My recommendation derives from my read of the available evidence, combined with the standard I personally find appropriate to apply to Commission intervention. [EMPHASIS ADDED]
In other words, contrary to what many critics have claimed, it simply is not the case that the FTC’s economists based their recommendations on bullish predictions about the future that ultimately failed to transpire. Instead, they merely recognized that, in a dynamic and unpredictable environment, antitrust intervention requires both a clear-cut theory of anticompetitive harm and a reasonable probability that remedies can improve consumer welfare. According to the economists, those conditions were absent with respect to Google Search.
Perhaps more importantly, it is worth asking why the economists’ erroneous predictions matter at all. Do critics believe that developments the economists missed warrant a different normative stance today?
In that respect, it is worth noting that the economists’ skepticism appeared to have rested first and foremost on the speculative nature of the harms alleged and the difficulty associated with designing appropriate remedies. And yet, if anything, these two concerns appear even more salient today.
Indeed, the remedies imposed against Google in the EU have not delivered the outcomes that enforcers expected (here and here). This could either be because the remedies were insufficient or because Google’s market position was not due to anticompetitive conduct. Similarly, there is still no convincing economic theory or empirical research to support the notion that exclusive pre-installation and self-preferencing by incumbents harm consumers, and a great deal of reason to think they benefit them (see, e.g., our discussions of the issue here and here).
Against this backdrop, criticism of the FTC economists appears to be driven more by a prior assumption that intervention is necessary—and that it was and is disingenuous to think otherwise—than evidence that erroneous predictions materially affected the outcome of the proceedings.
To take one example, the fact that ad tracking grew faster than the FTC economists believed it would is no less consistent with vigorous competition—and Google providing a superior product—than with anticompetitive conduct on Google’s part. The same applies to the growth of mobile operating systems. Ditto the fact that no rival has managed to dislodge Google in its most important markets.
In short, not only were the economist memos informed by the very prediction difficulties that critics are now pointing to, but critics have not shown that any of the staff’s (inevitably) faulty predictions warranted a different normative outcome.
Putting Erroneous Predictions in Context
So what were these faulty predictions, and how important were they? Politico asserts that “the FTC’s economists successfully argued against suing the company, and the agency’s staff experts made a series of predictions that would fail to match where the online world was headed,” tying this to the FTC’s failure to intervene against Google over “tactics that European regulators and the U.S. Justice Department would later label antitrust violations.” The clear message is that the current actions are presumptively valid, and that the FTC’s economists thwarted earlier intervention based on faulty analysis.
But it is far from clear that these faulty predictions would have justified taking a tougher stance against Google. One key question for antitrust authorities is whether they can be reasonably certain that more efficient competitors will be unable to dislodge an incumbent. This assessment is necessarily forward-looking. Framed this way, greater market uncertainty (for instance, because policymakers are dealing with dynamic markets) usually cuts against antitrust intervention.
This does not entirely absolve the FTC economists who made the faulty predictions. But it does suggest the right question is not whether the economists made mistakes, but whether virtually everyone did so. The latter would be evidence of uncertainty, and thus weigh against antitrust intervention.
In that respect, it is worth noting that the staff who recommended that the FTC intervene also misjudged the future of digital markets.For example, while Politico surmises that the FTC “underestimated Google’s market share, a heft that gave it power over advertisers as well as companies like Yelp and Tripadvisor that rely on search results for traffic,” there is a case to be made that the FTC overestimated this power. If anything, Google’s continued growth has opened new niches in the online advertising space.
Politico asserts not only that the economists’ market share and market power calculations were wrong, but that the lawyers knew better:
The economists, relying on data from the market analytics firm Comscore, found that Google had only limited impact. They estimated that between 10 and 20 percent of traffic to those types of sites generally came from the search engine.
FTC attorneys, though, used numbers provided by Yelp and found that 92 percent of users visited local review sites from Google. For shopping sites like eBay and TheFind, the referral rate from Google was between 67 and 73 percent.
This compares apples and oranges, or maybe oranges and grapefruit. The economists’ data, from Comscore, applied to vertical search overall. They explicitly noted that shares for particular sites could be much higher or lower: for comparison shopping, for example, “ranging from 56% to less than 10%.” This, of course, highlights a problem with the data provided by Yelp, et al.: it concerns only the websites of companies complaining about Google, not the overall flow of traffic for vertical search.
But the more important point is that none of the data discussed in the memos represents the overall flow of traffic for vertical search. Take Yelp, for example. According to the lawyers’ memo, 92 percent of Yelp searches were referred from Google. Only, that’s not true. We know it’s not true because, as Yelp CEO Jerry Stoppelman pointed out around this time in Yelp’s 2012 Q2 earnings call:
When you consider that 40% of our searches come from mobile apps, there is quite a bit of un-monetized mobile traffic that we expect to unlock in the near future.
The numbers being analyzed by the FTC staff were apparently limited to referrals to Yelp’s website from browsers. But is there any reason to think that is the relevant market, or the relevant measure of customer access? Certainly there is nothing in the staff memos to suggest they considered the full scope of the market very carefully here. Indeed, the footnote in the lawyers’ memo presenting the traffic data is offered in support of this claim:
Vertical websites, such as comparison shopping and local websites, are heavily dependent on Google’s web search results to reach users. Thus, Google is in the unique position of being able to “make or break any web-based business.”
It’s plausible that vertical search traffic is “heavily dependent” on Google Search, but the numbers offered in support of that simply ignore the (then) 40 percent of traffic that Yelp acquired through its own mobile app, with no Google involvement at all. In any case, it is also notable that, while there are still somewhat fewer app users than web users (although the number has consistently increased), Yelp’s app users view significantly more pages than its website users do — 10 times as many in 2015, for example.
Also noteworthy is that, for whatever speculative harm Google might be able to visit on the company, at the time of the FTC’s analysis Yelp’s local ad revenue was consistently increasing — by 89% in Q3 2012. And that was without any ad revenue coming from its app (display ads arrived on Yelp’s mobile app in Q1 2013, a few months after the staff memos were written and just after the FTC closed its Google Search investigation).
In short, the search-engine industry is extremely dynamic and unpredictable. Contrary to what many have surmised from the FTC staff memo leaks, this cuts against antitrust intervention, not in favor of it.
The FTC Lawyers’ Weak Case for Prosecuting Google
At the same time, although not discussed by Politico, the lawyers’ memo also contains errors, suggesting that arguments for intervention were also (inevitably) subject to erroneous prediction.
Among other things, the FTC attorneys’ memo argued the large upfront investments were required to develop cutting-edge algorithms, and that these effectively shielded Google from competition. The memo cites the following as a barrier to entry:
A search engine requires algorithmic technology that enables it to search the Internet, retrieve and organize information, index billions of regularly changing web pages, and return relevant results instantaneously that satisfy the consumer’s inquiry. Developing such algorithms requires highly specialized personnel with high levels of training and knowledge in engineering, economics, mathematics, sciences, and statistical analysis.
If there are barriers to entry in the search-engine industry, algorithms do not seem to be the source. While their market shares may be smaller than Google’s, rival search engines like DuckDuckGo and Bing have been able to enter and gain traction; it is difficult to say that algorithmic technology has proven a barrier to entry. It may be hard to do well, but it certainly has not proved an impediment to new firms entering and developing workable and successful products. Indeed, some extremely successful companies have entered into similar advertising markets on the backs of complex algorithms, notably Instagram, Snapchat, and TikTok. All of these compete with Google for advertising dollars.
The FTC’s legal staff also failed to see that Google would face serious competition in the rapidly growing voice assistant market. In other words, even its search-engine “moat” is far less impregnable than it might at first appear.
Moreover, as Ben Thompson argues in his Stratechery newsletter:
The Staff memo is completely wrong too, at least in terms of the potential for their proposed remedies to lead to any real change in today’s market. This gets back to why the fundamental premise of the Politico article, along with much of the antitrust chatter in Washington, misses the point: Google is dominant because consumers like it.
This difficulty was deftly highlighted by Heyer’s memo:
If the perceived problems here can be solved only through a draconian remedy of this sort, or perhaps through a remedy that eliminates Google’s legitimately obtained market power (and thus its ability to “do evil”), I believe the remedy would be disproportionate to the violation and that its costs would likely exceed its benefits. Conversely, if a remedy well short of this seems likely to prove ineffective, a remedy would be undesirable for that reason. In brief, I do not see a feasible remedy for the vertical conduct that would be both appropriate and effective, and which would not also be very costly to implement and to police. [EMPHASIS ADDED]
Of course, we now know that this turned out to be a huge issue with the EU’s competition cases against Google. The remedies in both the EU’s Google Shopping and Android decisions were severely criticized by rival firms and consumer-defense organizations (here and here), but were ultimately upheld, in part because even the European Commission likely saw more forceful alternatives as disproportionate.
And in the few places where the legal staff concluded that Google’s conduct may have caused harm, there is good reason to think that their analysis was flawed.
Google’s ‘revenue-sharing’ agreements
It should be noted that neither the lawyers nor the economists at the FTC were particularly bullish on bringing suit against Google. In most areas of the investigation, neither recommended that the commission pursue a case. But one of the most interesting revelations from the recent leaks is that FTC lawyers did advise the commission’s leadership to sue Google over revenue-sharing agreements that called for it to pay Apple and other carriers and manufacturers to pre-install its search bar on mobile devices:
FTC staff urged the agency’s five commissioners to sue Google for signing exclusive contracts with Apple and the major wireless carriers that made sure the company’s search engine came pre-installed on smartphones.
The lawyers’ stance is surprising, and, despite actions subsequently brought by the EU and DOJ on similar claims, a difficult one to countenance.
To a first approximation, this behavior is precisely what antitrust law seeks to promote: we want companies to compete aggressively to attract consumers. This conclusion is in no way altered when competition is “for the market” (in this case, firms bidding for exclusive placement of their search engines) rather than “in the market” (i.e., equally placed search engines competing for eyeballs).
Competition for exclusive placement has several important benefits. For a start, revenue-sharing agreements effectively subsidize consumers’ mobile device purchases. As Brian Albrecht aptly puts it:
This payment from Google means that Apple can lower its price to better compete for consumers. This is standard; some of the payment from Google to Apple will be passed through to consumers in the form of lower prices.
This finding is not new. For instance, Ronald Coase famously argued that the Federal Communications Commission (FCC) was wrong to ban the broadcasting industry’s equivalent of revenue-sharing agreements, so-called payola:
[I]f the playing of a record by a radio station increases the sales of that record, it is both natural and desirable that there should be a charge for this. If this is not done by the station and payola is not allowed, it is inevitable that more resources will be employed in the production and distribution of records, without any gain to consumers, with the result that the real income of the community will tend to decline. In addition, the prohibition of payola may result in worse record programs, will tend to lessen competition, and will involve additional expenditures for regulation. The gain which the ban is thought to bring is to make the purchasing decisions of record buyers more efficient by eliminating “deception.” It seems improbable to me that this problematical gain will offset the undoubted losses which flow from the ban on Payola.
Applying this logic to Google Search, it is clear that a ban on revenue-sharing agreements would merely lead both Google and its competitors to attract consumers via alternative means. For Google, this might involve “complete” vertical integration into the mobile phone market, rather than the open-licensing model that underpins the Android ecosystem. Valuable specialization may be lost in the process.
Moreover, from Apple’s standpoint, Google’s revenue-sharing agreements are profitable only to the extent that consumers actually like Google’s products. If it turns out they don’t, Google’s payments to Apple may be outweighed by lower iPhone sales. It is thus unlikely that these agreements significantly undermined users’ experience. To the contrary, Apple’s testimony before the European Commission suggests that “exclusive” placement of Google’s search engine was mostly driven by consumer preferences (as the FTC economists’ memo points out):
Apple would not offer simultaneous installation of competing search or mapping applications. Apple’s focus is offering its customers the best products out of the box while allowing them to make choices after purchase. In many countries, Google offers the best product or service … Apple believes that offering additional search boxes on its web browsing software would confuse users and detract from Safari’s aesthetic. Too many choices lead to consumer confusion and greatly affect the ‘out of the box’ experience of Apple products.
Similarly, Kevin Murphy and Benjamin Klein have shown that exclusive contracts intensify competition for distribution. In other words, absent theories of platform envelopment that are arguably inapplicable here, competition for exclusive placement would lead competing search engines to up their bids, ultimately lowering the price of mobile devices for consumers.
Indeed, this revenue-sharing model was likely essential to spur the development of Android in the first place. Without this prominent placement of Google Search on Android devices (notably thanks to revenue-sharing agreements with original equipment manufacturers), Google would likely have been unable to monetize the investment it made in the open source—and thus freely distributed—Android operating system.
In short, Politico and the FTC legal staff do little to show that Google’s revenue-sharing payments excluded rivals that were, in fact, as efficient. In other words, Bing and Yahoo’s failure to gain traction may simply be the result of inferior products and cost structures. Critics thus fail to show that Google’s behavior harmed consumers, which is the touchstone of antitrust enforcement.
Self-preferencing
Another finding critics claim as important is that FTC leadership declined to bring suit against Google for preferencing its own vertical search services (this information had already been partially leaked by the Wall Street Journal in 2015). Politico’s framing implies this was a mistake:
When Google adopted one algorithm change in 2011, rival sites saw significant drops in traffic. Amazon told the FTC that it saw a 35 percent drop in traffic from the comparison-shopping sites that used to send it customers
The focus on this claim is somewhat surprising. Even the leaked FTC legal staff memo found this theory of harm had little chance of standing up in court:
Staff has investigated whether Google has unlawfully preferenced its own content over that of rivals, while simultaneously demoting rival websites….
…Although it is a close call, we do not recommend that the Commission proceed on this cause of action because the case law is not favorable to our theory, which is premised on anticompetitive product design, and in any event, Google’s efficiency justifications are strong. Most importantly, Google can legitimately claim that at least part of the conduct at issue improves its product and benefits users. [EMPHASIS ADDED]
More importantly, as one of us has argued elsewhere, the underlying problem lies not with Google, but with a standard asset-specificity trap:
A content provider that makes itself dependent upon another company for distribution (or vice versa, of course) takes a significant risk. Although it may benefit from greater access to users, it places itself at the mercy of the other — or at least faces great difficulty (and great cost) adapting to unanticipated, crucial changes in distribution over which it has no control….
…It was entirely predictable, and should have been expected, that Google’s algorithm would evolve. It was also entirely predictable that it would evolve in ways that could diminish or even tank Foundem’s traffic. As one online marketing/SEO expert puts it: On average, Google makes about 500 algorithm changes per year. 500!….
…In the absence of an explicit agreement, should Google be required to make decisions that protect a dependent company’s “asset-specific” investments, thus encouraging others to take the same, excessive risk?
Even if consumers happily visited rival websites when they were higher-ranked and traffic subsequently plummeted when Google updated its algorithm, that drop in traffic does not amount to evidence of misconduct. To hold otherwise would be to grant these rivals a virtual entitlement to the state of affairs that exists at any given point in time.
Indeed, there is good reason to believe Google’s decision to favor its own content over that of other sites is procompetitive. Beyond determining and ensuring relevance, Google surely has the prerogative to compete vigorously and decide how to design its products to keep up with a changing market. In this case, that means designing, developing, and offering its own content in ways that partially displace the original “ten blue links” design of its search results page and instead offer its own answers to users’ queries.
Competitor Harm Is Not an Indicator of the Need for Intervention
Some of the other information revealed by the leak is even more tangential, such as that the FTC ignored complaints from Google’s rivals:
Amazon said it was so concerned about the prospect of Google monopolizing the search advertising business that it willingly sacrificed revenue by making ad deals aimed at keeping Microsoft’s Bing and Yahoo’s search engine afloat.
But complaints from rivals are at least as likely to stem from vigorous competition as from anticompetitive exclusion. This goes to a core principle of antitrust enforcement: antitrust law seeks to protect competition and consumer welfare, not rivals. Competition will always lead to winners and losers. Antitrust law protects this process and (at least theoretically) ensures that rivals cannot manipulate enforcers to safeguard their economic rents.
This explains why Frank Easterbrook—in his seminal work on “The Limits of Antitrust”—argued that enforcers should be highly suspicious of complaints lodged by rivals:
Antitrust litigation is attractive as a method of raising rivals’ costs because of the asymmetrical structure of incentives….
…One line worth drawing is between suits by rivals and suits by consumers. Business rivals have an interest in higher prices, while consumers seek lower prices. Business rivals seek to raise the costs of production, while consumers have the opposite interest….
…They [antitrust enforcers] therefore should treat suits by horizontal competitors with the utmost suspicion. They should dismiss outright some categories of litigation between rivals and subject all such suits to additional scrutiny.
Google’s competitors spent millions pressuring the FTC to bring a case against the company. But why should it be a failing for the FTC to resist such pressure? Indeed, as then-commissioner Tom Rosch admonished in an interview following the closing of the case:
They [Google’s competitors] can darn well bring [a case] as a private antitrust action if they think their ox is being gored instead of free-riding on the government to achieve the same result.
Not that they would likely win such a case. Google’s introduction of specialized shopping results (via the Google Shopping box) likely enabled several retailers to bypass the Amazon platform, thus increasing competition in the retail industry. Although this may have temporarily reduced Amazon’s traffic and revenue (Amazon’s sales have grown dramatically since then), it is exactly the outcome that antitrust laws are designed to protect.
Conclusion
When all is said and done, Politico’s revelations provide a rarely glimpsed look into the complex dynamics within the FTC, which many wrongly imagine to be a monolithic agency. Put simply, the FTC’s commissioners, lawyers, and economists often disagree vehemently about the appropriate course of conduct. This is a good thing. As in many other walks of life, having a market for ideas is a sure way to foster sound decision making.
But in the final analysis, what the revelations do not show is that the FTC’s market for ideas failed consumers a decade ago when it declined to bring an antitrust suit against Google. They thus do little to cement the case for antitrust intervention—whether a decade ago, or today.
In a new paper, Giuseppe Colangelo and Oscar Borgogno investigate whether antitrust policy is sufficiently flexible to keep up with the dynamics of digital app stores, and whether regulatory interventions are required in order to address their unique features. The authors summarize their findings in this blog post.
Likewise, the terms and conditions for accessing app stores—such as in-app purchasing rules, restrictions on freedom of choice for smartphone payment apps, and near field communication (NFC) limitations—face scrutiny from courts and antitrust authorities around the world.
Finally, legislative initiatives envisage obligations explicitly addressed to app stores. Notably, the EuropeanDigital Markets Act (DMA) and some U.S. bills (e.g., the American Innovation and Choice Online Act and the Open App Markets Act, both of which are scheduled to be marked up Jan. 20 by the Senate Judiciary Committee) prohibit designated platforms from, for example: discriminating among users by engaging in self-preferencing and applying unfair access conditions; preventing users from sideloading and uninstalling pre-installed apps; impeding data portability and interoperability; or imposing anti-steering provisions. Likewise, South Korea has recently prohibited app-store operators in dominant market positions from forcing payment systems upon content providers and inappropriately delaying the review of, or deleting, mobile content from app markets.
Despite their differences, these international legislative initiatives do share the same aims and concerns. By and large, they question the role of competition law in the digital economy. In the case of app stores, these regulatory interventions attempt to introduce a neutrality regime, with the aim of increasing contestability, facilitating the possibility of switching by users, tackling conflicts of interests, and addressing imbalances in the commercial relationship. Ultimately, these proposals would treat online platforms as akin to common carriers or public utilities.
All of these initiatives assume antitrust is currently falling, because competition rules apply ex post and require an extensive investigation on a case-by-case basis. But is that really the case?
Platform and Device Neutrality Regime
Focusing on the content of the European, German, and U.S. legislative initiatives, the neutrality regime envisaged for app stores would introduce obligations in terms of both device and platform neutrality. The former includes provisions on app uninstalling, sideloading, app switching, access to technical functionality, and the possibility of changing default settings. The latter entail data portability and interoperability obligations, and the ban on self-preferencing, Sherlocking, and unfair access conditions.
App Store Obligations: Comparison of EU, German, and U.S. Initiatives
Antitrust v. Regulation
Despite the growing consensus regarding the need to rely on ex ante regulation to govern digital markets and tackle the practices of large online platforms, recent and ongoing antitrust investigations demonstrate that standard competition law still provides a flexible framework to scrutinize several practices sometimes described as new and peculiar to app stores.
This is particularly true in Europe, where the antitrust framework grants significant leeway to antitrust enforcers relative to the U.S. scenario, as illustrated by the recentGoogle Shopping decision.
Indeed, considering legislative proposals to modernize antitrust law and to strengthen its enforcement, the U.S. House Judiciary Antitrust Subcommittee, along with someauthoritative scholars, have suggested emulating the European model—imposing particular responsibility on dominant firms through the notion of abuse of dominant position and overriding several Supreme Court decisions in order to clarify the prohibitions on monopoly leveraging, predatory pricing, denial of essential facilities, refusals to deal, and tying.
By contrast, regulation appears better suited to support interventions intended to implement industrial-policy objectives. This applies, in particular, to provisions prohibiting app stores from impeding or restricting sideloading, app uninstalling, the possibility of choosing third-party apps and app stores as defaults, as well as provisions that would mandate data portability and interoperability.
However, such regulatory proposals may ultimately harm consumers. Indeed, by questioning the core of digital platform business models and affecting their governance design, these interventions entrust public authorities with mammoth tasks that could ultimately jeopardize the profitability of app-store ecosystems. They also overlook the differences that may exist between the business models of different platforms, such as Google and Apple’s app stores.
To make matters worse, the difficulties encountered by regulators that have imposed product-design remedies on firms suggest that regulators may struggle to craft feasible and effective solutions. For instance, when the European General Court found that Google favored its own services in the Google Shopping case, it noted that this finding rested on the differential positioning and display of Shopping Units when compared to generic results. As a consequence, it could be argued that Google’s proposed auction remedy (whereby Google would compete with rivals for Shopping box placement) is compliant with the Court’s ruling because there is no dicrimination, regardless of the fact that Google might ultimately outbid its rivals (seehere).
Finally, the neutrality principle cannot be transposed perfectly to all online platforms. Indeed, the workings of the app-discovery and distribution markets differ from broadband networks, as rankings and mobile services by definition involve some form of continuous selection and differentiated treatment to optimize the mobile-customer experience.
For all these reasons, our analysis suggests that antitrust law provides a less intrusive and more individualized approach, which would eventually benefit consumers by safeguarding quality and innovation.
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