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For a potential entrepreneur, just how much time it will take to compete, and the barrier to entry that time represents, will vary greatly depending on the market he or she wishes to enter. A would-be competitor to the likes of Subway, for example, might not find the time needed to open a sandwich shop to be a substantial hurdle. Even where it does take a long time to bring a product to market, it may be possible to accelerate the timeline if the potential profits are sufficiently high. 

As Steven Salop notes in a recent paper, however, there may be cases where long periods of production time are intrinsic to a product: 

If entry takes a long time, then the fear of entry may not provide a substantial constraint on conduct. The firm can enjoy higher prices and profits until the entry occurs. Even if a strong entrant into the 12-year-old scotch market begins the entry process immediately upon announcement of the merger of its rivals, it will not be able to constrain prices for a long time. [emphasis added]

Salop’s point relates to the supply-side substitutability of Scotch whisky (sic — Scotch whisky is spelt without an “e”). That is, to borrow from the European Commission’s definition, whether “suppliers are able to switch production to the relevant products and market them in the short term.” Scotch is aged in wooden barrels for a number of years (at least three, but often longer) before being bottled and sold, and the value of Scotch usually increases with age. 

Due to this protracted manufacturing process, Salop argues, an entrant cannot compete with an incumbent dominant firm for however many years it would take to age the Scotch; they cannot produce the relevant product in the short term, no matter how high the profits collected by a monopolist are, and hence no matter how strong the incentive to enter the market. If I wanted to sell 12-year-old Scotch, to use Salop’s example, it would take me 12 years to enter the market. In the meantime, a dominant firm could extract monopoly rents, leading to higher prices for consumers. 

But can a whisky producer “enjoy higher prices and profits until … entry occurs”? A dominant firm in the 12-year-old Scotch market will not necessarily be immune to competition for the entire 12-year period it would take to produce a Scotch of the same vintage. There are various ways, both on the demand and supply side, that pressure could be brought to bear on a monopolist in the Scotch market.

One way could be to bring whiskies that are being matured for longer-maturity bottles (like 16- or 18-year-old Scotches) into service at the 12-year maturity point, shifting this supply to a market in which profits are now relatively higher. 

Alternatively, distilleries may try to produce whiskies that resemble 12-year old whiskies in flavor with younger batches. A 2013 article from The Scotsman discusses this possibility in relation to major Scottish whisky brand Macallan’s decision to switch to selling exclusively No-Age Statement (NAS — they do not bear an age on the bottle) whiskies: 

Experts explained that, for example, nine and 11-year-old whiskies—not yet ready for release under the ten and 12-year brands—could now be blended together to produce the “entry-level” Gold whisky immediately.

An aged Scotch cannot contain any whisky younger than the age stated on the bottle, but an NAS alternative can contain anything over three years (though older whiskies are often used to capture a flavor more akin to a 12-year dram). For many drinkers, NAS whiskies are a close substitute for 12-year-old whiskies. They often compete with aged equivalents on quality and flavor and can command similar prices to aged bottles in the 12-year category. More than 80% of bottles sold bear no age statement. While this figure includes non-premium bottles, the share of NAS whiskies traded at auction on the secondary market, presumably more likely to be premium, increased from 20% to 30% in the years between 2013 and 2018.

There are also whiskies matured outside of Scotland, in regions such as Taiwan and India, that can achieve flavor profiles akin to older whiskies more quickly, thanks to warmer climates and the faster chemical reactions inside barrels they cause. Further increases in maturation rate can be brought about by using smaller barrels with a higher surface-area-to-volume ratio. Whiskies matured in hotter climates and smaller barrels can be brought to market even more quickly than NAS Scotch matured in the cooler Scottish climate, and may well represent a more authentic replication of an older barrel. 

“Whiskies” that can be manufactured even more quickly may also be on the horizon. Some startups in the United States are experimenting with rapid-aging technology which would allow them to produce a whisky-like spirit in a very short amount of time. As detailed in a recent article in The Economist, Endless West in California is using technology that ages spirits within 24 hours, with the resulting bottles selling for $40 – a bit less than many 12-year-old Scotches. Although attempts to break the conventional maturation process are nothing new, recent attempts have won awards in blind taste-test competitions.

None of this is to dismiss Salop’s underlying point. But it may suggest that, even for a product where time appears to be an insurmountable barrier to entry, there may be more ways to compete than we initially assume.

The recent launch of the international Multilateral Pharmaceutical Merger Task Force (MPMTF) is just the latest example of burgeoning cooperative efforts by leading competition agencies to promote convergence in antitrust enforcement. (See my recent paper on the globalization of antitrust, which assesses multinational cooperation and convergence initiatives in greater detail.) In what is a first, the U.S. Federal Trade Commission (FTC), the U.S. Justice Department’s (DOJ) Antitrust Division, offices of state Attorneys General, the European Commission’s Competition Directorate, Canada’s Competition Bureau, and the U.K.’s Competition and Market Authority (CMA) jointly created the MPMTF in March 2021 “to update their approach to analyzing the effects of pharmaceutical mergers.”

To help inform its analysis, in May 2021 the MPMTF requested public comments concerning the effects of pharmaceutical mergers. The MPMTF sought submissions regarding (among other issues) seven sets of questions:   

  1. What theories of harm should enforcement agencies consider when evaluating pharmaceutical mergers, including theories of harm beyond those currently considered?
  2. What is the full range of a pharmaceutical merger’s effects on innovation? What challenges arise when mergers involve proprietary drug discovery and manufacturing platforms?
  3. In pharmaceutical merger review, how should we consider the risks or effects of conduct such as price-setting practices, reverse payments, and other ways in which pharmaceutical companies respond to or rely on regulatory processes?
  4. How should we approach market definition in pharmaceutical mergers, and how is that implicated by new or evolving theories of harm?
  5. What evidence may be relevant or necessary to assess and, if applicable, challenge a pharmaceutical merger based on any new or expanded theories of harm?
  6. What types of remedies would work in the cases to which those theories are applied?
  7. What factors, such as the scope of assets and characteristics of divestiture buyers, influence the likelihood and success of pharmaceutical divestitures to resolve competitive concerns?

My research assistant Andrew Mercado and I recently submitted comments for the record addressing the questions posed by the MPMTF. We concluded:

Federal merger enforcement in general and FTC pharmaceutical merger enforcement in particular have been effective in promoting competition and consumer welfare. Proposed statutory amendments to strengthen merger enforcement not only are unnecessary, but also would, if enacted, tend to undermine welfare and would thus be poor public policy. A brief analysis of seven questions propounded by the Multilateral Pharmaceutical Merger Task Force suggests that: (a) significant changes in enforcement policies are not warranted; and (b) investigators should employ sound law and economics analysis, taking full account of merger-related efficiencies, when evaluating pharmaceutical mergers. 

While we leave it to interested readers to review our specific comments, this commentary highlights one key issue which we stressed—the importance of giving due weight to efficiencies (and, in particular, dynamic efficiencies) in evaluating pharma mergers. We also note an important critique by FTC Commissioner Christine Wilson of the treatment accorded merger-related efficiencies by U.S. antitrust enforcers.   

Discussion

Innovation in pharmaceuticals and vaccines has immensely significant economic and social consequences, as demonstrated most recently in the handling of the COVID-19 pandemic. As such, it is particularly important that public policy not stand in the way of realizing efficiencies that promote innovation in these markets. This observation applies directly, of course, to pharmaceutical antitrust enforcement, in general, and to pharma merger enforcement, in particular.

Regrettably, however, though general merger-enforcement policy has been generally sound, it has somewhat undervalued merger-related efficiencies.

Although U.S. antitrust enforcers give lip service to their serious consideration of efficiencies in merger reviews, the reality appears to be quite different, as documented by Commissioner Wilson in a 2020 speech.

Wilson’s General Merger-Efficiencies Critique: According to Wilson, the combination of finding narrow markets and refusing to weigh out-of-market efficiencies has created major “legal and evidentiary hurdles a defendant must clear when seeking to prove offsetting procompetitive efficiencies.” What’s more, the “courts [have] largely continue[d] to follow the Agencies’ lead in minimizing the importance of efficiencies.” Wilson shows that “the Horizontal Merger Guidelines text and case law appear to set different standards for demonstrating harms and efficiencies,” and argues that this “asymmetric approach has the obvious potential consequence of preventing some procompetitive mergers that increase consumer welfare.” Wilson concludes on a more positive note that this problem can be addressed by having enforcers: (1) treat harms and efficiencies symmetrically; and (2) establish clear and reasonable expectations for what types of efficiency analysis will and will not pass muster.

While our filing with the MPMTF did not discuss Wilson’s general treatment of merger efficiencies, one would hope that the task force will appropriately weigh it in its deliberations. Our filing instead briefly addressed two “informational efficiencies” that may arise in the context of pharmaceutical mergers. These include:

More Efficient Resource Reallocation: The theory of the firm teaches that mergers may be motivated by the underutilization or misallocation of assets, or the opportunity to create welfare-enhancing synergies. In the pharmaceutical industry, these synergies may come from joining complementary research and development programs, combining diverse and specialized expertise that may be leveraged for better, faster drug development and more innovation.

Enhanced R&D: Currently, much of the R&D for large pharmaceutical companies is achieved through partnerships or investment in small biotechnology and research firms specializing in a single type of therapy. Whereas large pharmaceutical companies have expertise in marketing, navigating regulation, and undertaking trials of new drugs, small, research-focused firms can achieve greater advancements in medicine with smaller budgets. Furthermore, changes within firms brought about by a merger may increase innovation.

With increases in intellectual property and proprietary data that come from the merging of two companies, smaller research firms that work with the merged entity may have access to greater pools of information, enhancing the potential for innovation without increasing spending. This change not only raises the efficiency of the research being conducted in these small firms, but also increases the probability of a breakthrough without an increase in risk.

Conclusion

U.S. pharmaceutical merger enforcement has been fairly effective in forestalling anticompetitive combinations while allowing consumer welfare-enhancing transactions to go forward. Policy in this area should remain generally the same. Enforcers should continue to base enforcement decisions on sound economic theory fully supported by case-specific facts. Enforcement agencies could benefit, however, by placing a greater emphasis on efficiencies analysis. In particular, they should treat harms and efficiencies symmetrically (as recommend by Commissioner Wilson), and fully take into account likely resource reallocation and innovation-related efficiencies. 

The European Commission recently issued a formal Statement of Objections (SO) in which it charges Apple with antitrust breach. In a nutshell, the commission argues that Apple prevents app developers—in this case, Spotify—from using alternative in-app purchase systems (IAPs) other than Apple’s own, or steering them towards other, cheaper payment methods on another site. This, the commission says, results in higher prices for consumers in the audio streaming and ebook/audiobook markets.

More broadly, the commission claims that Apple’s App Store rules may distort competition in markets where Apple competes with rival developers (such as how Apple Music competes with Spotify). This explains why the anticompetitive concerns raised by Spotify regarding the Apple App Store rules have now expanded to Apple’s e-books, audiobooks and mobile payments platforms.

However, underlying market realities cast doubt on the commission’s assessment. Indeed, competition from Google Play and other distribution mediums makes it difficult to state unequivocally that the relevant market should be limited to Apple products. Likewise, the conduct under investigation arguably solves several problems relating to platform dynamics, and consumers’ privacy and security.

Should the relevant market be narrowed to iOS?

An important first question is whether there is a distinct, antitrust-relevant market for “music streaming apps distributed through the Apple App Store,” as the EC posits.

This market definition is surprising, given that it is considerably narrower than the one suggested by even the most enforcement-minded scholars. For instance, Damien Geradin and Dimitrias Katsifis—lawyers for app developers opposed to Apple—define the market as “that of app distribution on iOS devices, a two-sided transaction market on which Apple has a de facto monopoly.” Similarly, a report by the Dutch competition authority declared that the relevant market was limited to the iOS App Store, due to the lack of interoperability with other systems.

The commission’s decisional practice has been anything but constant in this space. In the Apple/Shazam and Apple/Beats cases, it did not place competing mobile operating systems and app stores in separate relevant markets. Conversely, in the Google Android decision, the commission found that the Android OS and Apple’s iOS, including Google Play and Apple’s App Store, did not compete in the same relevant market. The Spotify SO seems to advocate for this definition, narrowing it even further to music streaming services.

However, this narrow definition raises several questions. Market definition is ultimately about identifying the competitive constraints that the firm under investigation faces. As Gregory Werden puts it: “the relevant market in an antitrust case […] identifies the competitive process alleged to be harmed.”

In that regard, there is clearly some competition between Apple’s App Store, Google Play and other app stores (whether this is sufficient to place them in the same relevant market is an empirical question).

This view is supported by the vast number of online posts comparing Android and Apple and advising consumers on their purchasing options. Moreover, the growth of high-end Android devices that compete more directly with the iPhone has reinforced competition between the two firms. Likewise, Apple has moved down the value chain; the iPhone SE, priced at $399, competes with other medium-range Android devices.

App developers have also suggested they view Apple and Android as alternatives. They take into account technical differences to decide between the two, meaning that these two platforms compete with each other for developers.

All of this suggests that the App Store may be part of a wider market for the distribution of apps and services, where Google Play and other app stores are included—though this is ultimately an empirical question (i.e., it depends on the degree of competition between both platforms)

If the market were defined this way, Apple would not even be close to holding a dominant position—a prerequisite for European competition intervention. Indeed, Apple only sold 27.43% of smartphones in March 2021. Similarly, only 30.41% of smartphones in use run iOS, as of March 2021. This is well below the lowest market share in a European abuse of dominance—39.7% in the British Airways decision.

The sense that Apple and Android compete for users and developers is reinforced by recent price movements. Apple dropped its App Store commission fees from 30% to 15% in November 2020 and Google followed suit in March 2021. This conduct is consistent with at least some degree of competition between the platforms. It is worth noting that other firms, notably Microsoft, have so far declined to follow suit (except for gaming apps).

Barring further evidence, neither Apple’s market share nor its behavior appear consistent with the commission’s narrow market definition.

Are Apple’s IAP system rules and anti-steering provisions abusive?

The commission’s case rests on the idea that Apple leverages its IAP system to raise the costs of rival app developers:

 “Apple’s rules distort competition in the market for music streaming services by raising the costs of competing music streaming app developers. This in turn leads to higher prices for consumers for their in-app music subscriptions on iOS devices. In addition, Apple becomes the intermediary for all IAP transactions and takes over the billing relationship, as well as related communications for competitors.”

However, expropriating rents from these developers is not nearly as attractive as it might seem. The report of the Dutch competition notes that “attracting and maintaining third-party developers that increase the value of the ecosystem” is essential for Apple. Indeed, users join a specific platform because it provides them with a wide number of applications they can use on their devices. And the opposite applies to developers. Hence, the loss of users on either or both sides reduces the value provided by the Apple App Store. Following this logic, it would make no sense for Apple to systematically expropriate developers. This might partly explain why Apple’s fees are only 30%-15%, since in principle they could be much higher.

It is also worth noting that Apple’s curated App Store and IAP have several redeeming virtues. Apple offers “a highly curated App Store where every app is reviewed by experts and an editorial team helps users discover new apps every day.”  While this has arguably turned the App Store into a relatively closed platform, it provides users with the assurance that the apps they find there will meet a standard of security and trustworthiness.

As noted by the Dutch competition authority, “one of the reasons why the App Store is highly valued is because of the strict review process. Complaints about malware spread via an app downloaded in the App Store are rare.” Apple provides users with a special degree of privacy and security. Indeed, Apple stopped more than $1.5 billion in potentially fraudulent transactions in 2020, proving that the security protocols are not only necessary, but also effective. In this sense, the App Store Review Guidelines are considered the first line of defense against fraud and privacy breaches.

It is also worth noting that Apple only charges a nominal fee for iOS developer kits and no fees for in-app advertising. The IAP is thus essential for Apple to monetize the platform and to cover the costs associated with running the platform (note that Apple does make money on device sales, but that revenue is likely constrained by competition between itself and Android). When someone downloads Spotify from the App Store, Apple does not get paid, but Spotify does get a new client. Thus, while independent developers bear the costs of the app fees, Apple bears the costs and risks of running the platform itself.

For instance, Apple’s App Store Team is divided into smaller teams: the Editorial Design team, the Business Operations team, and the Engineering R&D team. These teams each have employees, budgets, and resources for which Apple needs to pay. If the revenues stopped, one can assume that Apple would have less incentive to sustain all these teams that preserve the App Store’s quality, security, and privacy parameters.

Indeed, the IAP system itself provides value to the Apple App Store. Instead of charging all of the apps it provides, it takes a share of the income from some of them. As a result, large developers that own in-app sales contribute to the maintenance of the platform, while smaller ones are still offered to consumers without having to contribute economically. This boosts Apple’s App Store diversity and supply of digital goods and services.

If Apple was forced to adopt another system, it could start charging higher prices for access to its interface and tools, leading to potential discrimination against the smaller developers. Or, Apple could increase the prices of handset devices, thus incurring higher costs for consumers who do not purchase digital goods. Therefore, there are no apparent alternatives to the current IAP that satisfy the App Store’s goals in the same way.

As the Apple Review Guidelines emphasize, “for everything else there is always the open Internet.” Netflix and Spotify have ditched the subscription options from their app, and they are still among the top downloaded apps in iOS. The IAP system is therefore not compulsory to be successful in Apple’s ecosystem, and developers are free to drop Apple Review Guidelines.

Conclusion

The commission’s case against Apple is based on shaky foundations. Not only is the market definition extremely narrow—ignoring competition from Android, among others—but the behavior challenged by the commission has a clear efficiency-enhancing rationale. Of course, both of these critiques ultimately boil down to empirical questions that the commission will have overcome before it reaches a final decision. In the meantime, the jury is out.

Despite calls from some NGOs to mandate radical interoperability, the EU’s draft Digital Markets Act (DMA) adopted a more measured approach, requiring full interoperability only in “ancillary” services like identification or payment systems. There remains the possibility, however, that the DMA proposal will be amended to include stronger interoperability mandates, or that such amendments will be introduced in the Digital Services Act. Without the right checks and balances, this could pose grave threats to Europeans’ privacy and security.

At the most basic level, interoperability means a capacity to exchange information between computer systems. Email is an example of an interoperable standard that most of us use today. Expanded interoperability could offer promising solutions to some of today’s difficult problems. For example, it might allow third-party developers to offer different “flavors” of social media news feed, with varying approaches to content ranking and moderation (see Daphne Keller, Mike Masnick, and Stephen Wolfram for more on that idea). After all, in a pluralistic society, someone will always be unhappy with what some others consider appropriate content. Why not let smaller groups decide what they want to see? 

But to achieve that goal using currently available technology, third-party developers would have to be able to access all of a platform’s content that is potentially available to a user. This would include not just content produced by users who explicitly agrees for their data to be shared with third parties, but also content—e.g., posts, comments, likes—created by others who may have strong objections to such sharing. It doesn’t require much imagination to see how, without adequate safeguards, mandating this kind of information exchange would inevitably result in something akin to the 2018 Cambridge Analytica data scandal.

It is telling that supporters of this kind of interoperability use services like email as their model examples. Email (more precisely, the SMTP protocol) originally was designed in a notoriously insecure way. It is a perfect example of the opposite of privacy by design. A good analogy for the levels of privacy and security provided by email, as originally conceived, is that of a postcard message sent without an envelope that passes through many hands before reaching the addressee. Even today, email continues to be a source of security concerns due to its prioritization of interoperability.

It also is telling that supporters of interoperability tend to point to what are small-scale platforms (e.g., Mastodon) or protocols with unacceptably poor usability for most of today’s Internet users (e.g., Usenet). When proposing solutions to potential privacy problems—e.g., that users will adequately monitor how various platforms use their data—they often assume unrealistic levels of user interest or technical acumen.

Interoperability in the DMA

The current draft of the DMA contains several provisions that broadly construe interoperability as applying only to “gatekeepers”—i.e., the largest online platforms:

  1. Mandated interoperability of “ancillary services” (Art 6(1)(f)); 
  2. Real-time data portability (Art 6(1)(h)); and
  3. Business-user access to their own and end-user data (Art 6(1)(i)). 

The first provision, (Art 6(1)(f)), is meant to force gatekeepers to allow e.g., third-party payment or identification services—for example, to allow people to create social media accounts without providing an email address, which is possible using services like “Sign in with Apple.” This kind of interoperability doesn’t pose as big of a privacy risk as mandated interoperability of “core” services (e.g., messaging on a platform like WhatsApp or Signal), partially due to a more limited scope of data that needs to be exchanged.

However, even here, there may be some risks. For example, users may choose poorly secured identification services and thus become victims of attacks. Therefore, it is important that gatekeepers not be prevented from protecting their users adequately. Of course,there are likely trade-offs between those protections and the interoperability that some want. Proponents of stronger interoperability want this provision amended to cover all “core” services, not just “ancillary” ones, which would constitute precisely the kind of radical interoperability that cannot be safely mandated today.

The other two provisions do not mandate full two-way interoperability, where a third party could both read data from a service like Facebook and modify content on that service. Instead, they provide for one-way “continuous and real-time” access to data—read-only.

The second provision (Art 6(1)(h)) mandates that gatekeepers give users effective “continuous and real-time” access to data “generated through” their activity. It’s not entirely clear whether this provision would be satisfied by, e.g., Facebook’s Graph API, but it likely would not be satisfied simply by being able to download one’s Facebook data, as that is not “continuous and real-time.”

Importantly, the proposed provision explicitly references the General Data Protection Regulation (GDPR), which suggests that—at least as regards personal data—the scope of this portability mandate is not meant to be broader than that from Article 20 GDPR. Given the GDPR reference and the qualification that it applies to data “generated through” the user’s activity, this mandate would not include data generated by other users—which is welcome, but likely will not satisfy the proponents of stronger interoperability.

The third provision from Art 6(1)(i) mandates only “continuous and real-time” data access and only as regards data “provided for or generated in the context of the use of the relevant core platform services” by business users and by “the end users engaging with the products or services provided by those business users.” This provision is also explicitly qualified with respect to personal data, which are to be shared after GDPR-like user consent and “only where directly connected with the use effectuated by the end user in respect of” the business user’s service. The provision should thus not be a tool for a new Cambridge Analytica to siphon data on users who interact with some Facebook page or app and their unwitting contacts. However, for the same reasons, it will also not be sufficient for the kinds of uses that proponents of stronger interoperability envisage.

Why can’t stronger interoperability be safely mandated today?

Let’s imagine that Art 6(1)(f) is amended to cover all “core” services, so gatekeepers like Facebook end up with a legal duty to allow third parties to read data from and write data to Facebook via APIs. This would go beyond what is currently possible using Facebook’s Graph API, and would lack the current safety valve of Facebook cutting off access because of the legal duty to deal created by the interoperability mandate. As Cory Doctorow and Bennett Cyphers note, there are at least three categories of privacy and security risks in this situation:

1. Data sharing and mining via new APIs;

2. New opportunities for phishing and sock puppetry in a federated ecosystem; and

3. More friction for platforms trying to maintain a secure system.

Unlike some other proponents of strong interoperability, Doctorow and Cyphers are open about the scale of the risk: “[w]ithout new legal safeguards to protect the privacy of user data, this kind of interoperable ecosystem could make Cambridge Analytica-style attacks more common.”

There are bound to be attempts to misuse interoperability through clearly criminal activity. But there also are likely to be more legally ambiguous attempts that are harder to proscribe ex ante. Proposals for strong interoperability mandates need to address this kind of problem.

So, what could be done to make strong interoperability reasonably safe? Doctorow and Cyphers argue that there is a “need for better privacy law,” but don’t say whether they think the GDPR’s rules fit the bill. This may be a matter of reasonable disagreement.

What isn’t up for serious debate is that the current framework and practice of privacy enforcement offers little confidence that misuses of strong interoperability would be detected and prosecuted, much less that they would be prevented (see here and here on GDPR enforcement). This is especially true for smaller and “judgment-proof” rule-breakers, including those from outside the European Union. Addressing the problems of privacy law enforcement is a herculean task, in and of itself.

The day may come when radical interoperability will, thanks to advances in technology and/or privacy enforcement, become acceptably safe. But it would be utterly irresponsible to mandate radical interoperability in the DMA and/or DSA, and simply hope the obvious privacy and security problems will somehow be solved before the law takes force. Instituting such a mandate would likely discredit the very idea of interoperability.

The European Commission this week published its proposed Artificial Intelligence Regulation, setting out new rules for  “artificial intelligence systems” used within the European Union. The regulation—the commission’s attempt to limit pernicious uses of AI without discouraging its adoption in beneficial cases—casts a wide net in defining AI to include essentially any software developed using machine learning. As a result, a host of software may fall under the regulation’s purview.

The regulation categorizes AIs by the kind and extent of risk they may pose to health, safety, and fundamental rights, with the overarching goal to:

  • Prohibit “unacceptable risk” AIs outright;
  • Place strict restrictions on “high-risk” AIs;
  • Place minor restrictions on “limited-risk” AIs;
  • Create voluntary “codes of conduct” for “minimal-risk” AIs;
  • Establish a regulatory sandbox regime for AI systems; 
  • Set up a European Artificial Intelligence Board to oversee regulatory implementation; and
  • Set fines for noncompliance at up to 30 million euros, or 6% of worldwide turnover, whichever is greater.

AIs That Are Prohibited Outright

The regulation prohibits AI that are used to exploit people’s vulnerabilities or that use subliminal techniques to distort behavior in a way likely to cause physical or psychological harm. Also prohibited are AIs used by public authorities to give people a trustworthiness score, if that score would then be used to treat a person unfavorably in a separate context or in a way that is disproportionate. The regulation also bans the use of “real-time” remote biometric identification (such as facial-recognition technology) in public spaces by law enforcement, with exceptions for specific and limited uses, such as searching for a missing child.

The first prohibition raises some interesting questions. The regulation says that an “exploited vulnerability” must relate to age or disability. In its announcement, the commission says this is targeted toward AIs such as toys that might induce a child to engage in dangerous behavior.

The ban on AIs using “subliminal techniques” is more opaque. The regulation doesn’t give a clear definition of what constitutes a “subliminal technique,” other than that it must be something “beyond a person’s consciousness.” Would this include TikTok’s algorithm, which imperceptibly adjusts the videos shown to the user to keep them engaged on the platform? The notion that this might cause harm is not fanciful, but it’s unclear whether the provision would be interpreted to be that expansive, whatever the commission’s intent might be. There is at least a risk that this provision would discourage innovative new uses of AI, causing businesses to err on the side of caution to avoid the huge penalties that breaking the rules would incur.

The prohibition on AIs used for social scoring is limited to public authorities. That leaves space for socially useful expansions of scoring systems, such as consumers using their Uber rating to show a record of previous good behavior to a potential Airbnb host. The ban is clearly oriented toward more expansive and dystopian uses of social credit systems, which some fear may be used to arbitrarily lock people out of society.

The ban on remote biometric identification AI is similarly limited to its use by law enforcement in public spaces. The limited exceptions (preventing an imminent terrorist attack, searching for a missing child, etc.) would be subject to judicial authorization except in cases of emergency, where ex-post authorization can be sought. The prohibition leaves room for private enterprises to innovate, but all non-prohibited uses of remote biometric identification would be subject to the requirements for high-risk AIs.

Restrictions on ‘High-Risk’ AIs

Some AI uses are not prohibited outright, but instead categorized as “high-risk” and subject to strict rules before they can be used or put to market. AI systems considered to be high-risk include those used for:

  • Safety components for certain types of products;
  • Remote biometric identification, except those uses that are banned outright;
  • Safety components in the management and operation of critical infrastructure, such as gas and electricity networks;
  • Dispatching emergency services;
  • Educational admissions and assessments;
  • Employment, workers management, and access to self-employment;
  • Evaluating credit-worthiness;
  • Assessing eligibility to receive social security benefits or services;
  • A range of law-enforcement purposes (e.g., detecting deepfakes or predicting the occurrence of criminal offenses);
  • Migration, asylum, and border-control management; and
  • Administration of justice.

While the commission considers these AIs to be those most likely to cause individual or social harm, it may not have appropriately balanced those perceived harms with the onerous regulatory burdens placed upon their use.

As Mikołaj Barczentewicz at the Surrey Law and Technology Hub has pointed out, the regulation would discourage even simple uses of logic or machine-learning systems in such settings as education or workplaces. This would mean that any workplace that develops machine-learning tools to enhance productivity—through, for example, monitoring or task allocation—would be subject to stringent requirements. These include requirements to have risk-management systems in place, to use only “high quality” datasets, and to allow human oversight of the AI, as well as other requirements around transparency and documentation.

The obligations would apply to any companies or government agencies that develop an AI (or for whom an AI is developed) with a view toward marketing it or putting it into service under their own name. The obligations could even attach to distributors, importers, users, or other third parties if they make a “substantial modification” to the high-risk AI, market it under their own name, or change its intended purpose—all of which could potentially discourage adaptive use.

Without going into unnecessary detail regarding each requirement, some are likely to have competition- and innovation-distorting effects that are worth discussing.

The rule that data used to train, validate, or test a high-risk AI has to be high quality (“relevant, representative, and free of errors”) assumes that perfect, error-free data sets exist, or can easily be detected. Not only is this not necessarily the case, but the requirement could impose an impossible standard on some activities. Given this high bar, high-risk AIs that use data of merely “good” quality could be precluded. It also would cut against the frontiers of research in artificial intelligence, where sometimes only small and lower-quality datasets are available to train AI. A predictable effect is that the rule would benefit large companies that are more likely to have access to large, high-quality datasets, while rules like the GDPR make it difficult for smaller companies to acquire that data.

High-risk AIs also must submit technical and user documentation that detail voluminous information about the AI system, including descriptions of the AI’s elements, its development, monitoring, functioning, and control. These must demonstrate the AI complies with all the requirements for high-risk AIs, in addition to documenting its characteristics, capabilities, and limitations. The requirement to produce vast amounts of information represents another potentially significant compliance cost that will be particularly felt by startups and other small and medium-sized enterprises (SMEs). This could further discourage AI adoption within the EU, as European enterprises already consider liability for potential damages and regulatory obstacles as impediments to AI adoption.

The requirement that the AI be subject to human oversight entails that the AI can be overseen and understood by a human being and that the AI can never override a human user. While it may be important that an AI used in, say, the criminal justice system must be understood by humans, this requirement could inhibit sophisticated uses beyond the reasoning of a human brain, such as how to safely operate a national electricity grid. Providers of high-risk AI systems also must establish a post-market monitoring system to evaluate continuous compliance with the regulation, representing another potentially significant ongoing cost for the use of high-risk AIs.

The regulation also places certain restrictions on “limited-risk” AIs, notably deepfakes and chatbots. Such AIs must be labeled to make a user aware they are looking at or listening to manipulated images, video, or audio. AIs must also be labeled to ensure humans are aware when they are speaking to an artificial intelligence, where this is not already obvious.

Taken together, these regulatory burdens may be greater than the benefits they generate, and could chill innovation and competition. The impact on smaller EU firms, which already are likely to struggle to compete with the American and Chinese tech giants, could prompt them to move outside the European jurisdiction altogether.

Regulatory Support for Innovation and Competition

To reduce the costs of these rules, the regulation also includes a new regulatory “sandbox” scheme. The sandboxes would putatively offer environments to develop and test AIs under the supervision of competent authorities, although exposure to liability would remain for harms caused to third parties and AIs would still have to comply with the requirements of the regulation.

SMEs and startups would have priority access to the regulatory sandboxes, although they must meet the same eligibility conditions as larger competitors. There would also be awareness-raising activities to help SMEs and startups to understand the rules; a “support channel” for SMEs within the national regulator; and adjusted fees for SMEs and startups to establish that their AIs conform with requirements.

These measures are intended to prevent the sort of chilling effect that was seen as a result of the GDPR, which led to a 17% increase in market concentration after it was introduced. But it’s unclear that they would accomplish this goal. (Notably, the GDPR contained similar provisions offering awareness-raising activities and derogations from specific duties for SMEs.) Firms operating in the “sandboxes” would still be exposed to liability, and the only significant difference to market conditions appears to be the “supervision” of competent authorities. It remains to be seen how this arrangement would sufficiently promote innovation as to overcome the burdens placed on AI by the significant new regulatory and compliance costs.

Governance and Enforcement

Each EU member state would be expected to appoint a “national competent authority” to implement and apply the regulation, as well as bodies to ensure high-risk systems conform with rules that require third party-assessments, such as remote biometric identification AIs.

The regulation establishes the European Artificial Intelligence Board to act as the union-wide regulatory body for AI. The board would be responsible for sharing best practices with member states, harmonizing practices among them, and issuing opinions on matters related to implementation.

As mentioned earlier, maximum penalties for marketing or using a prohibited AI (as well as for failing to use high-quality datasets) would be a steep 30 million euros or 6% of worldwide turnover, whichever is greater. Breaking other requirements for high-risk AIs carries maximum penalties of 20 million euros or 4% of worldwide turnover, while maximums of 10 million euros or 2% of worldwide turnover would be imposed for supplying incorrect, incomplete, or misleading information to the nationally appointed regulator.

Is the Commission Overplaying its Hand?

While the regulation only restricts AIs seen as creating risk to society, it defines that risk so broadly and vaguely that benign applications of AI may be included in its scope, intentionally or unintentionally. Moreover, the commission also proposes voluntary codes of conduct that would apply similar requirements to “minimal” risk AIs. These codes—optional for now—may signal the commission’s intent eventually to further broaden the regulation’s scope and application.

The commission clearly hopes it can rely on the “Brussels Effect” to steer the rest of the world toward tighter AI regulation, but it is also possible that other countries will seek to attract AI startups and investment by introducing less stringent regimes.

For the EU itself, more regulation must be balanced against the need to foster AI innovation. Without European tech giants of its own, the commission must be careful not to stifle the SMEs that form the backbone of the European market, particularly if global competitors are able to innovate more freely in the American or Chinese markets. If the commission has got the balance wrong, it may find that AI development simply goes elsewhere, with the EU fighting the battle for the future of AI with one hand tied behind its back.

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). 

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.

Pinterest provides a fitting example; despite relying heavily on Google for traffic, its ad-funded service has witnessed significant growth. The same is true of other vertical search engines like Airbnb, Booking.com, and Zillow. While we cannot know the counterfactual, the vertical search industry has certainly not been decimated by Google’s “monopoly”; quite the opposite. Unsurprisingly, this has coincided with a significant decrease in the cost of online advertising, and the growth of online advertising relative to other forms.

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 and Facebook privately complained to the FTC about Google’s conduct, saying their business suffered because of the company’s search bias, scraping of content from rival sites and restrictions on advertisers’ use of competing search engines. 

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 order to understand the lack of apparent basis for the European Commission’s claims that AstraZeneca is in breach of its contractual obligations to supply it with vaccine doses, it is necessary to understand the difference between stock and flow.

If I have 1,000 widgets in my warehouse, and agree to sell 700 of them to Ursula, and 600 of them to Boris, I will be unable to perform both contracts. They’re inconsistent with one another, and if I choose to perform my contract with Boris, Ursula will be understandably aggrieved. Is this what AstraZeneca have done? No.

At the time of the contracts AstraZenca entered into with the Commission and the United Kingdom no vaccine doses existed. What AstraZeneca promised was to use best reasonable efforts to acquire approval for and production of vaccines, and to deliver what it succeeded in making.

The United Kingdom was involved from an early stage (January/February) in the roll out of what was to become the Oxford/AstraZeneca vaccine. It was a third party beneficiary of the original licensing agreement of 17 May between Oxford and AstraZeneca, and provided the initial funding of £65 million (quickly greatly increased). Approval for use was given on 30 December, with the first dose given outside a trial on 4 January.

The Commission was slower to act. It entered into a contract with AstraZeneca on 17 August and granted authorisation for use on 29 January.

What each counterparty is entitled to is the doses that AstraZeneca succeeds, using best reasonable efforts, in producing under its contract. A metaphor is that each is buying a place in a production queue [Flow]. Neither was buying doses current in existence [Stock].

The metaphor of the queue is however somewhat misleading. It implies that the Commission is having to wait behind the United Kingdom. This is wrong. In fact, the Commission (and other parties) are benefitting from the earlier development and ramp up of production that occurred because of the United Kingdom’s contractual arrangements. Far from being prejudiced by the United Kingdom’s actions, the Commission and others have benefitted from it.

The Commission’s argument is not, and never has been, as some have supposed, that AstraZeneca has failed in its best reasonable efforts obligation to manufacture doses. Such an argument does the Commission no good. It would leave it with a claim for damages before a Belgian court in several years’ time. It is also seems unlikely that a claim that AstraZeneca have been dilatory in rolling out a vaccine in a fraction of the time anyone had achieved before this year, and which other suppliers failed altogether to do, has much prospect for success.

What it (and the Member States) want are doses today.

So, the argument instead is that AstraZeneca has succeeded and that there are doses in existence that the Commission is entitled to. This is based in part upon the frustration in seeing deliveries of vaccine doses to the United Kingdom from factories that the Commission’s contract says that AstraZeneca can deliver doses to it from.

Their position appears untenable. The Commission is entitled to those doses that its supplier succeeds, using best reasonable efforts, in producing under its contract with it. It is not entitled to doses that are only in existence because of earlier contractual arrangements with an entirely different counterparty.

In practice, which doses are being produced under which contract will be obvious from the fact that most production is being done by subcontractors (AstraZeneca is a relatively small producer). The shortfall in production under the Commission’s contract appears to have been caused by a failure of a sub-contractor in Belgium.

It is because the Commission’s arguments under its contract are so obviously weak that we are now seeing calls for export bans. If there really were any contractual entitlement to what has been produced, and AstraZeneca were in breach of contract in failing to deliver, then the usual civil recourse would be the obvious and easy path for the Commission. The nuclear option is being relied upon because of the lack of any such contractual right.

Conversely there is no equivalence between the United Kingdom requiring that doses that it is contractually entitled to are delivered to it, and the Commission’s proposed export ban.

Red Herrings

Two common objections to the above have been put forward that it is helpful to rule out. First the Commission’s contract is governed by Belgian law. However, there is no rule specific to any jurisdiction in play here. All that needs to be known is pacta sunt servanda, a principle applicable across Europe.

Second is that the UK’s supply contract was only actually formalised in August. The earlier agreement was however months before, as was the funding that has resulted in the doses that there are for anybody.

The author is an expert in English and European contract law.

Critics of big tech companies like Google and Amazon are increasingly focused on the supposed evils of “self-preferencing.” This refers to when digital platforms like Amazon Marketplace or Google Search, which connect competing services with potential customers or users, also offer (and sometimes prioritize) their own in-house products and services. 

The objection, raised by several members and witnesses during a Feb. 25 hearing of the House Judiciary Committee’s antitrust subcommittee, is that it is unfair to third parties that use those sites to allow the site’s owner special competitive advantages. Is it fair, for example, for Amazon to use the data it gathers from its service to design new products if third-party merchants can’t access the same data? This seemingly intuitive complaint was the basis for the European Commission’s landmark case against Google

But we cannot assume that something is bad for competition just because it is bad for certain competitors. A lot of unambiguously procompetitive behavior, like cutting prices, also tends to make life difficult for competitors. The same is true when a digital platform provides a service that is better than alternatives provided by the site’s third-party sellers. 

It’s probably true that Amazon’s access to customer search and purchase data can help it spot products it can undercut with its own versions, driving down prices. But that’s not unusual; most retailers do this, many to a much greater extent than Amazon. For example, you can buy AmazonBasics batteries for less than half the price of branded alternatives, and they’re pretty good.

There’s no doubt this is unpleasant for merchants that have to compete with these offerings. But it is also no different from having to compete with more efficient rivals who have lower costs or better insight into consumer demand. Copying products and seeking ways to offer them with better features or at a lower price, which critics of self-preferencing highlight as a particular concern, has always been a fundamental part of market competition—indeed, it is the primary way competition occurs in most markets. 

Store-branded versions of iPhone cables and Nespresso pods are certainly inconvenient for those companies, but they offer consumers cheaper alternatives. Where such copying may be problematic (say, by deterring investments in product innovations), the law awards and enforces patents and copyrights to reward novel discoveries and creative works, and trademarks to protect brand identity. But in the absence of those cases where a company has intellectual property, this is simply how competition works. 

The fundamental question is “what benefits consumers?” Services like Yelp object that they cannot compete with Google when Google embeds its Google Maps box in Google Search results, while Yelp cannot do the same. But for users, the Maps box adds valuable information to the results page, making it easier to get what they want. Google is not making Yelp worse by making its own product better. Should it have to refrain from offering services that benefit its users because doing so might make competing products comparatively less attractive?

Self-preferencing also enables platforms to promote their offerings in other markets, which is often how large tech companies compete with each other. Amazon has a photo-hosting app that competes with Google Photos and Apple’s iCloud. It recently emailed its customers to promote it. That is undoubtedly self-preferencing, since other services cannot market themselves to Amazon’s customers like this, but if it makes customers aware of an alternative they might not have otherwise considered, that is good for competition. 

This kind of behavior also allows companies to invest in offering services inexpensively, or for free, that they intend to monetize by preferencing their other, more profitable products. For example, Google invests in Android’s operating system and gives much of it away for free precisely because it can encourage Android customers to use the profitable Google Search service. Despite claims to the contrary, it is difficult to see this sort of cross-subsidy as harmful to consumers.

Self-preferencing can even be good for competing services, including third-party merchants. In many cases, it expands the size of their potential customer base. For example, blockbuster video games released by Sony and Microsoft increase demand for games by other publishers because they increase the total number of people who buy Playstations and Xboxes. This effect is clear on Amazon’s Marketplace, which has grown enormously for third-party merchants even as Amazon has increased the number of its own store-brand products on the site. By making the Amazon Marketplace more attractive, third-party sellers also benefit.

All platforms are open or closed to varying degrees. Retail “platforms,” for example, exist on a spectrum on which Craigslist is more open and neutral than eBay, which is more so than Amazon, which is itself relatively more so than, say, Walmart.com. Each position on this spectrum offers its own benefits and trade-offs for consumers. Indeed, some customers’ biggest complaint against Amazon is that it is too open, filled with third parties who leave fake reviews, offer counterfeit products, or have shoddy returns policies. Part of the role of the site is to try to correct those problems by making better rules, excluding certain sellers, or just by offering similar options directly. 

Regulators and legislators often act as if the more open and neutral, the better, but customers have repeatedly shown that they often prefer less open, less neutral options. And critics of self-preferencing frequently find themselves arguing against behavior that improves consumer outcomes, because it hurts competitors. But that is the nature of competition: what’s good for consumers is frequently bad for competitors. If we have to choose, it’s consumers who should always come first.

[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.]

It is my endeavor to scrutinize the questionable assessment articulated against default settings in the U.S. Justice Department’s lawsuit against Google. Default, I will argue, is no antitrust fault. Default in the Google case drastically differs from default referred to in the Microsoft case. In Part I, I argue the comparison is odious. Furthermore, in Part II, it will be argued that the implicit prohibition of default settings echoes, as per listings, the explicit prohibition of self-preferencing in search results. Both aspects – default’s implicit prohibition and self-preferencing’s explicit prohibition – are the two legs of a novel and integrated theory of sanctioning corporate favoritism. The coming to the fore of such theory goes against the very essence of the capitalist grain. In Part III, I note the attempt to instill some corporate selflessness is at odds with competition on the merits and the spirit of fundamental economic freedoms.

When Default is No-Fault

The recent complaint filed by the DOJ and 11 state attorneys general claims that Google has abused its dominant position on the search-engine market through several ways, notably making Google the default search engine both in Google Chrome web browser for Android OS and in Apple’s Safari web browser for iOS. Undoubtedly, default setting confers a noticeable advantage for users’ attraction – it is sought and enforced on purpose. Nevertheless, the default setting confers an unassailable position unless the product remains competitive. Furthermore, the default setting can hardly be proven to be anticompetitive in the Google case. Indeed, the DOJ puts considerable effort in the complaint to make the Google case resemble the 20-year-old Microsoft case. Former Federal Trade Commission Chairman William Kovacic commented: “I suppose the Justice Department is telling the court, ‘You do not have to be scared of this case. You’ve done it before […] This is Microsoft part 2.”[1]

However, irrespective of the merits of the Microsoft case two decades ago, the Google default setting case bears minimal resemblance to the Microsoft default setting of Internet Explorer. First, as opposed to the Microsoft case, where default by Microsoft meant pre-installed software (i.e., Internet Explorer)[2], the Google case does not relate to the pre-installment of the Google search engine (since it is just a webpage) but a simple setting. This technical difference is significant: although “sticky”[3], the default setting, can be outwitted with just one click[4]. It is dissimilar to the default setting, which can only be circumvented by uninstalling software[5], searching and installing a new one[6]. Moreover, with no certainty that consumers will effectively use Google search engine, default settings come with advertising revenue sharing agreements between Google and device manufacturers, mobile phone carriers, competing browsers and Apple[7]. These mutually beneficial deals represent a significant cost with no technical exclusivity [8]. In other words, the antitrust treatment of a tie-in between software and hardware in the Microsoft case cannot be convincingly extrapolated to the default setting of a “webware”[9] as relevant in the Google case.

Second, the Google case cannot legitimately resort to extrapolating the Microsoft case for another technical (and commercial) aspect: the Microsoft case was a classic tie-in case where the tied product (Internet Explorer) was tied into the main product (Windows). As a traditional tie-in scenario, the tied product (Internet Explorer) was “consistently offered, promoted, and distributed […] as a stand-alone product separate from, and not as a component of, Windows […]”[10]. In contrast, Google has never sold Google Chrome or Android OS. It offered both Google Chrome and Android OS for free, necessarily conditional to Google search engine as default setting. The very fact that Google Chrome or Android OS have never been “stand-alone” products, to use the Microsoft case’s language, together with the absence of software installation, dramatically differentiates the features pertaining to the Google case from those of the Microsoft case. The Google case is not a traditional tie-in case: it is a case against default setting when both products (the primary and related products) are given for free, are not saleable, are neither tangible nor intangible goods but only popular digital services due to significant innovativeness and ease of usage. The Microsoft “complaint challenge[d] only Microsoft’s concerted attempts to maintain its monopoly in operating systems and to achieve dominance in other markets, not by innovation and other competition on the merits, but by tie-ins.” Quite noticeably, the Google case does not mention tie-in ,as per Google Chrome or Android OS.

The complaint only refers to tie-ins concerning Google’s app being pre-installed on Android OS. Therefore, concerning Google’s dominance on the search engine market, it cannot be said that the default setting of Google search in Android OS entails tie-in. Google search engine has no distribution channel (since it is only a website) other than through downstream partnerships (i.e., vertical deals with Android device manufacturers). To sanction default setting on downstream trading partners is tantamount to refusing legitimate means to secure distribution channels of proprietary and zero-priced services. To further this detrimental logic, it would mean that Apple may no longer offer its own apps in its own iPhones or, in offline markets, that a retailer may no longer offer its own (default) bags at the till since it excludes rivals’ sale bags. Products and services naked of any adjacent products and markets (i.e., an iPhone or Android OS with no app or a shopkeeper with no bundled services) would dramatically increase consumers’ search costs while destroying innovators’ essential distribution channels for innovative business models and providing few departures from the status quo as long as consumers will continue to value default products[11].

Default should not be an antitrust fault: the Google case makes default settings a new line of antitrust injury absent tie-ins. In conclusion, as a free webware, Google search’s default setting cannot be compared to default installation in the Microsoft case since minimal consumer stickiness entails (almost) no switching costs. As free software, Google’s default apps cannot be compared to Microsoft case either since pre-installation is the sine qua non condition of the highly valued services (Android OS) voluntarily chosen by device manufacturers. Default settings on downstream products can only be reasonably considered as antitrust injury when the dominant company is erroneously treated as a de facto essential facility – something evidenced by the similar prohibition of self-preferencing.

When Self-Preference is No Defense

Self-preferencing is to listings what the default setting is to operating systems. They both are ways to market one’s own products (i.e., alternative to marketing toward end-consumers). While default setting may come with both free products and financial payments (Android OS and advertising revenue sharing), self-preferencing may come with foregone advertising revenues in order to promote one’s own products. Both sides can be apprehended as the two sides of the same coin:[12] generating the ad-funded main product’s distribution channels – Google’s search engine. Both are complex advertising channels since both venues favor one’s own products regarding consumers’ attention. Absent both channels, the payments made for default agreements and the foregone advertising revenues in self-preferencing one’s own products would morph into marketing and advertising expenses of Google search engine toward end-consumers.

The DOJ complaint lambasts that “Google’s monopoly in general search services also has given the company extraordinary power as the gateway to the internet, which uses to promote its own web content and increase its profits.” This blame was at the core of the European Commission’s Google Shopping decision in 2017[13]: it essentially holds Google accountable for having, because of its ad-funded business model, promoted its own advertising products and demoted organic links in search results. According to which Google’s search results are no longer relevant and listed on the sole motivation of advertising revenue

But this argument is circular: should these search results become irrelevant, Google’s core business would become less attractive, thereby generating less advertising revenue. This self-inflicted inefficiency would deprive Google of valuable advertising streams and incentivize end-consumers to switch to search engine rivals such as Bing, DuckDuckGo, Amazon (product search), etc. Therefore, an ad-funded company such as Google needs to reasonably arbitrage between advertising objectives and the efficiency of its core activities (here, zero-priced organic search services). To downplay (the ad-funded) self-referencing in order to foster (the zero-priced) organic search quality would disregard the two-sidedness of the Google platform: it would harm advertisers and the viability of the ad-funded business model without providing consumers and innovation protection it aims at providing. The problematic and undesirable concept of “search neutrality” would mean algorithmic micro-management for the sake of an “objective” listing considered acceptable only to the eyes of the regulator.

Furthermore, self-preferencing entails a sort of positive discrimination toward one’s own products[14]. If discrimination has traditionally been antitrust lines of injuries, self-preferencing is an “epithet”[15] outside antitrust remits for good reasons[16]. Indeed, should self-interested (i.e., rationally minded) companies and individuals are legally complied to self-demote their own products and services? If only big (how big?) companies are legally complied to self-demote their products and services, to what extent will exempted companies involved in self-preferencing become liable to do so?

Indeed, many uncertainties, legal and economic ones, may spawn from the emerging prohibition of self-preferencing. More fundamentally, antitrust liability may clash with basic corporate governance principles where self-interestedness allows self-preferencing and command such self-promotion. The limits of antitrust have been reached when two sets of legal regimes, both applicable to companies, suggest contradictory commercial conducts. To what extent may Amazon no longer promote its own series on Amazon Video in a similar manner Netflix does? To what extent can Microsoft no longer promote Bing’s search engine to compete with Google’s search engine effectively? To what extent Uber may no longer promote UberEATS in order to compete with delivery services effectively? Not only the business of business is doing business[17], but also it is its duty for which shareholders may hold managers to account.

The self is moral; there is a corporate morality of business self-interest. In other words, corporate selflessness runs counter to business ethics since corporate self-interest yields the self’s rivalrous positioning within a competitive order. Absent a corporate self-interest, self-sacrifice may generate value destruction for the sake of some unjustified and ungrounded claims. The emerging prohibition of self-preferencing, similar to the established ban on the default setting on one’s own products into other proprietary products, materializes the corporate self’s losing. Both directions coalesce to instill the legally embedded duty of self-sacrifice for the competitor’s welfare instead of the traditional consumer welfare and the dynamics of innovation, which never unleash absent appropriabilities. In conclusion, to expect firms, however big or small, to act irrespective of their identities (i.e., corporate selflessness) would constitute an antitrust error and would be at odds with capitalism.

Toward an Integrated Theory of Disintegrating Favoritism

The Google lawsuit primarily blames Google for default settings enforced via several deals. The lawsuit also makes self-preferencing anticompetitive conduct under antitrust rules. These two charges are novel and dubious in their remits. They nevertheless represent a fundamental catalyst for the development of a new and problematic unified antitrust theory prohibiting favoritism:  companies may no longer favor their products and services, both vertically and horizontally, irrespective of consumer benefits, irrespective of superior efficiency arguments, and irrespective of dynamic capabilities enhancement. Indeed, via an unreasonably expanded vision of leveraging, antitrust enforcement is furtively banning a company to favor its own products and services based on greater consumer choice as a substitute to consumer welfare, based on the protection of the opportunities of rivals to innovate and compete as a substitute to the essence of competition and innovation, and based on limiting the outreach and size of companies as a substitute to the capabilities and efficiencies of these companies. Leveraging becomes suspicious and corporate self-favoritism under accusation. The Google lawsuit materializes this impractical trend, which further enshrines the precautionary approach to antitrust enforcement[18].


[1] Jessica Guynn, Google Justice Department antitrust lawsuit explained: this is what it means for you. USA Today, October 20, 2020.

[2] The software (Internet Explorer) was tied in the hardware (Windows PC).

[3] U.S. v Google LLC, Case A:20, October 20, 2020, 3 (referring to default settings as “especially sticky” with respect to consumers’ willingness to change).

[4] While the DOJ affirms that “being the preset default general search engine is particularly valuable because consumers rarely change the preset default”, it nevertheless provides no evidence of the breadth of such consumer stickiness. To be sure, search engine’s default status does not necessarily lead to usage as evidenced by the case of South Korea. In this country, despite Google’s preset default settings, the search engine Naver remains dominant in the national search market with over 70% of market shares. The rivalry exerted by Naver on Google demonstrates that limits of consumer stickiness to default settings. See Alesia Krush, Google vs. Naver: Why Can’t Google Dominate Search in Korea? Link-Assistant.Com, available at: https://www.link-assistant.com/blog/google-vs-naver-why-cant-google-dominate-search-in-korea/ . As dominant search engine in Korea, Naver is subject to antitrust investigations with similar leveraging practices as Google in other countries, see Shin Ji-hye, FTC sets up special to probe Naver, Google, The Korea Herald, November 19, 2019, available at :  http://www.koreaherald.com/view.php?ud=20191119000798 ; Kim Byung-wook, Complaint against Google to be filed with FTC, The Investor, December 14, 2020, available at : https://www.theinvestor.co.kr/view.php?ud=20201123000984  (reporting a complaint by Naver and other Korean IT companies against Google’s 30% commission policy on Google Play Store’s apps).

[5] For instance, the then complaint acknowledged that “Microsoft designed Windows 98 so that removal of Internet Explorer by OEMs or end users is operationally more difficult than it was in Windows 95”, in U.S. v Microsoft Corp., Civil Action No 98-1232, May 18, 1998, para.20.

[6] The DOJ complaint itself quotes “one search competitor who is reported to have noted consumer stickiness “despite the simplicity of changing a default setting to enable customer choice […]” (para.47). Therefore, default setting for search engine is remarkably simple to bypass but consumers do not often do so, either due to satisfaction with Google search engine and/or due to search and opportunity costs.

[7] See para.56 of the DOJ complaint.

[8] Competing browsers can always welcome rival search engines and competing search engine apps can always be downloaded despite revenue sharing agreements. See paras.78-87 of the DOJ complaint.

[9] Google search engine is nothing but a “webware” – a complex set of algorithms that work via online access of a webpage with no prior download. For a discussion on the definition of webware, see https://www.techopedia.com/definition/4933/webware .

[10] Id. para.21.

[11] Such outcome would frustrate traditional ways of offering computers and mobile devices as acknowledged by the DOJ itself in the Google complaint: “new computers and new mobile devices generally come with a number of preinstalled apps and out-of-the-box setting. […] Each of these search access points can and almost always does have a preset default general search engine”, at para. 41. Also, it appears that present default general search engine is common commercial practices since, as the DOJ complaint itself notes when discussing Google’s rivals (Microsoft’s Bing and Amazon’s Fire OS), “Amazon preinstalled its own proprietary apps and agreed to make Microsoft’s Bing the preset default general search engine”, in para.130. The complaint fails to identify alternative search engines which are not preset defaults, thus implicitly recognizing this practice as a widespread practice.

[12] To use Vesterdof’s language, see Bo Vesterdorf, Theories of Self-Preferencing and Duty to Deal – Two Sides of the Same Coin, Competition Law & Policy Debate 1(1) 4, (2015). See also Nicolas Petit, Theories of Self-Preferencing under Article 102 TFEU: A Reply to Bo Vesterdorf, 5-7 (2015).

[13] Case 39740 Google Search (Shopping). Here the foreclosure effects of self-preferencing are only speculated: « the Commission is not required to prove that the Conduct has the actual effect of decreasing traffic to competing comparison shopping services and increasing traffic to Google’s comparison-shopping service. Rather, it is sufficient for the Commission to demonstrate that the Conduct is capable of having, or likely to have, such effects.” (para.601 of the Decision). See P. Ibáñez Colomo, Indispensability and Abuse of Dominance: From Commercial Solvents to Slovak Telekom and Google Shopping, 10 Journal of European Competition Law & Practice 532 (2019); Aurelien Portuese, When Demotion is Competition: Algorithmic Antitrust Illustrated, Concurrences, no 2, May 2018, 25-37; Aurelien Portuese, Fine is Only One Click Away, Symposium on the Google Shopping Decision, Case Note, 3 Competition and Regulatory Law Review, (2017).

[14] For a general discussion on law and economics of self-preferencing, see Michael A. Salinger, Self-Preferencing, Global Antitrust Institute Report, 329-368 (2020).

[15]Pablo Ibanez Colomo, Self-Preferencing: Yet Another Epithet in Need of Limiting Principles, 43 World Competition (2020) (concluding that self-preferencing is « misleading as a legal category »).

[16] See, for instances, Pedro Caro de Sousa, What Shall We Do About Self-Preferencing? Competition Policy International, June 2020.

[17] Milton Friedman, The Social Responsibility of Business is to Increase Its Profits, New York Times, September 13, 1970. This echoes Adam Smith’s famous statement that « It is not from the benevolence of the butcher, the brewer, or the baker, that we expect our dinner, but from their regard for their own self-interest » from the 1776 Wealth of Nations. In Ayn Rand’s philosophy, the only alternative to rational self-interest is to sacrifice one’s own interests either for fellowmen (altruism) or for supernatural forces (mysticism). See Ayn Rand, The Objectivist Ethics, in The Virtue of Selfishness, Signet, (1964).

[18] Aurelien Portuese, European Competition Enforcement and the Digital Economy : The Birthplace of Precautionary Antitrust, Global Antitrust Institute’s Report on the Digital Economy, 597-651.

The European Court of Justice issued its long-awaited ruling Dec. 9 in the Groupe Canal+ case. The case centered on licensing agreements in which Paramount Pictures granted absolute territorial exclusivity to several European broadcasters, including Canal+.

Back in 2015, the European Commission charged six U.S. film studios, including Paramount,  as well as British broadcaster Sky UK Ltd., with illegally limiting access to content. The crux of the EC’s complaint was that the contractual agreements to limit cross-border competition for content distribution ran afoul of European Union competition law. Paramount ultimately settled its case with the commission and agreed to remove the problematic clauses from its contracts. This affected third parties like Canal+, who lost valuable contractual protections. 

While the ECJ ultimately upheld the agreements on what amounts to procedural grounds (Canal+ was unduly affected by a decision to which it was not a party), the case provides yet another example of the European Commission’s misguided stance on absolute territorial licensing, sometimes referred to as “geo-blocking.”

The EC’s long-running efforts to restrict geo-blocking emerge from its attempts to harmonize trade across the EU. Notably, in its Digital Single Market initiative, the Commission envisioned

[A] Digital Single Market is one in which the free movement of goods, persons, services and capital is ensured and where individuals and businesses can s​eamlessly access and exercise online activities under conditions of f​air competition,​ and a high level of consumer and personal data protection, irrespective of their nationality or place of residence.

This policy stance has been endorsed consistently by the European Court of Justice. In the 2011 Murphy decision, for example, the court held that agreements between rights holders and broadcasters infringe European competition when they categorically prevent the latter from supplying “decoding devices” to consumers located in other member states. More precisely, while rights holders can license their content on a territorial basis, they cannot restrict so-called “passive sales”; broadcasters can be prevented from actively chasing consumers in other member states, but not from serving them altogether. If this sounds Kafkaesque, it’s because it is.

The problem with the ECJ’s vision is that it elides the complex factors that underlie a healthy free-trade zone. Geo-blocking frequently is misunderstood or derided by consumers as an unwarranted restriction on their consumption preferences. It doesn’t feel “fair” or “seamless” when a rights holder can decide who can access their content and on what terms. But that doesn’t mean geo-blocking is a nefarious or socially harmful practice. Quite the contrary: allowing creators to create different sets of distribution options offers both a return to the creators as well as more choice in general to consumers. 

In economic terms, geo-blocking allows rights holders to engage in third-degree price discrimination; that is, they have the ability to charge different prices for different sets of consumers. This type of pricing will increase total welfare so long as it increases output. As Hal Varian puts it:

If a new market is opened up because of price discrimination—a market that was not previously being served under the ordinary monopoly—then we will typically have a Pareto improving welfare enhancement.

Another benefit of third-degree price discrimination is that, by shifting some economic surplus from consumers to firms, it can stimulate investment in much the same way copyright and patents do. Put simply, the prospect of greater economic rents increases the maximum investment firms will be willing to make in content creation and distribution.

For these reasons, respecting parties’ freedom to license content as they see fit is likely to produce much more efficient outcomes than annulling those agreements through government-imposed “seamless access” and “fair competition” rules. Part of the value of copyright law is in creating space to contract by protecting creators’ property rights. Without geo-blocking, the enforcement of licensing agreements would become much more difficult. Laws restricting copyright owners’ ability to contract freely reduce allocational efficiency, as well as the incentives to create in the first place. Further, when individual creators have commercial and creative autonomy, they gain a degree of predictability that can ensure they will continue to produce content in the future. 

The European Union would do well to adopt a more nuanced understanding of the contractual relationships between producers and distributors. 

This is the fourth, and last, in a series of TOTM blog posts discussing the Commission’s recently published Google Android decision (the first post can be found here, and the second here, and the third here). It draws on research from a soon-to-be published ICLE white paper.

The previous parts of this series have mostly focused on the Commission’s factual and legal conclusions. However, as this blog post points out, the case’s economic underpinnings also suffer from important weaknesses.

Two problems are particularly salient: First, the economic models cited by the Commission (discussed in an official paper, but not directly in the decision) poorly match the underlying facts. Second, the Commission’s conclusions on innovation harms are out of touch with the abundant economic literature regarding the potential link between market structure and innovation.

The wrong economic models

The Commission’s Chief Economist team outlined its economic reasoning in an article published shortly after the Android decision was published. The article reveals that the Commission relied upon three economic papers to support its conclusion that Google’s tying harmed consumer welfare.

Each of these three papers attempts to address the same basic problem. Ever since the rise of the Chicago-School, it is widely accepted that a monopolist cannot automatically raise its profits by entering an adjacent market (i.e. leveraging its monopoly position), for instance through tying. This has sometimes been called the single-monopoly-profit theory. In more recent years, various scholars have refined this Chicago-School intuition, and identified instances where the theory fails.

While the single monopoly profit theory has been criticized in academic circles, it is important to note that the three papers cited by the Commission accept its basic premise. They thus attempt to show why the theory fails in the context of the Google Android case. 

Unfortunately, the assumptions upon which they rely to reach this conclusion markedly differ from the case’s fact pattern. These papers thus offer little support to the Commission’s economic conclusions.

For a start, the authors of the first paper cited by the Commission concede that their own model does not apply to the Google case:

Actual antitrust cases are fact-intensive and our model does not perfectly fit with the current Google case in one important aspect.

The authors thus rely on important modifications, lifted from a paper by Frederico Etro and Cristina Caffara (the second paper cited by the Commission), to support their conclusion that Google’s tying was anticompetitive. 

The second paper cited by the Commission, however, is equally problematic

The authors’ underlying intuition is relatively straightforward: because Google bundles its suite of Google Apps (including Search) with the Play Store, a rival search engine would have to pay a premium in order to be pre-installed and placed on the home screen, because OEMs would have to entirely forgo Google’s suite of applications. The key assumption here is that OEMs cannot obtain the Google Play app and pre-install and place favorably a rival search app

But this is simply not true of Google’s contractual terms. The best evidence is that rivals search apps have indeed concluded deals with OEMs to pre-install their search apps, without these OEMs losing access to Google’s suite of proprietary apps. Google’s contractual terms simply do not force OEMs to choose between the Google Play app and the pre-installation of a rival search app. Etro and Caffara’s model thus falls flat.

More fundamentally, even if Google’s contractual terms did prevent OEMs from pre-loading rival apps, the paper’s conclusions would still be deeply flawed. The authors essentially assume that the only way for consumers to obtain a rival app is through pre-installation. But this is a severe misreading of the prevailing market conditions. 

Users remain free to independently download rival search apps. If Google did indeed purchase exclusive pre-installation, users would not have to choose between a “full Android” device and one with a rival search app but none of Google’s apps. Instead, they could download the rival app and place it alongside Google’s applications. 

A more efficient rival could even provide side payments, of some sort, to encourage consumers to download its app. Exclusive pre-installation thus generates a much smaller advantage than Etro and Caffara assume, and their model fails to reflect this.

Finally, the third paper by Alexandre de Cornière and Greg Taylor, suffers from the exact same problem. The authors clearly acknowledge that their findings only hold if OEMs (and consumers) are effectively prevented from (pre-)installing applications that compete with Google’s apps. In their own words:

Upstream firms offer contracts to the downstream firm, who chooses which component(s) to use and then sells to consumers. For our theory to apply, the following three conditions need to hold: (i) substitutability between the two versions of B leads the downstream firm to install at most one version.

The upshot is that all three of the economic models cited by the Commission cease to be relevant in the specific context of the Google Android decision. The Commission is thus left with little to no economic evidence to support its finding of anticompetitive effects.

Critics might argue that direct downloads by consumers are but a theoretical possibility. Yet nothing could be further from the truth. Take the web browser market: The Samsung Internet Browser has more than 1 Billion downloads on Google’s Play Store. The Opera, Opera Mini and Firefox browsers each have over a 100 million downloads. The Brave browser has more than 10 million downloads, but is growing rapidly.

In short the economic papers on which the Commission relies are based on a world that does not exist. They thus fail to support the Commission’s economic findings.

An incorrect view of innovation

In its decision, the Commission repeatedly claimed that Google’s behavior stifled innovation because it prevented rivals from entering the market. However, the Commission offered no evidence to support its assumption that reduced market entry on would lead to a decrease in innovation:

(858) For the reasons set out in this Section, the Commission concludes that the tying of the Play Store and the Google Search app helps Google to maintain and strengthen its dominant position in each national market for general search services, increases barriers to entry, deters innovation and tends to harm, directly or indirectly, consumers.

(859) First, Google’s conduct makes it harder for competing general search services to gain search queries and the respective revenues and data needed to improve their services.

(861) Second, Google’s conduct increases barriers to entry by shielding Google from competition from general search services that could challenge its dominant position in the national markets for general search services:

(862) Third, by making it harder for competing general search services to gain search queries including the respective revenues and data needed to improve their services, Google’s conduct reduces the incentives of competing general search services to invest in developing innovative features, such as innovation in algorithm and user experience design.

In a nutshell, the Commission’s findings rest on the assumption that barriers to entry and more concentrated market structures necessarily reduce innovation. But this assertion is not supported by the empirical economic literature on the topic.

For example, a 2006 paper published by Richard Gilbert surveys 24 empirical studies on the topic. These studies examine the link between market structure (or firm size) and innovation. Though earlier studies tended to identify a positive relationship between concentration, as well as firm size, and innovation, more recent empirical techniques found no significant relationship. Gilbert thus suggests that:

These econometric studies suggest that whatever relationship exists at a general economy-wide level between industry structure and R&D is masked by differences across industries in technological opportunities, demand, and the appropriability of inventions.

This intuition is confirmed by another high-profile empirical paper by Aghion, Bloom, Blundell, Griffith, and Howitt. The authors identify an inverted-U relationship between competition and innovation. Perhaps more importantly, they point out that this relationship is affected by a number of sector-specific factors.

Finally, reviewing fifty years of research on innovation and market structure, Wesley Cohen concludes that:

Even before one controls for industry effects, the variance in R&D intensity explained by market concentration is small. Moreover, whatever relationship that exists in cross sections becomes imperceptible with the inclusion of controls for industry characteristics, whether expressed as industry fixed effects or in the form of survey-based and other measures of industry characteristics such as technological opportunity, appropriability conditions, and demand. In parallel to a decades-long accumulation of mixed results, theorists have also spawned an almost equally voluminous and equivocal literature on the link between market structure and innovation.[16]

The Commission’s stance is further weakened by the fact that investments in the Android operating system are likely affected by a weak appropriability regime. In other words, because of its open source nature, it is hard for Google to earn a return on investments in the Android OS (anyone can copy, modify and offer their own version of the OS). 

Loosely tying Google’s proprietary applications to the OS is arguably one way to solve this appropriability problem. Unfortunately, the Commission brushed these considerations aside. It argued that Google could earn some revenue from the Google Play app, as well as other potential venues. However, the Commission did not question whether these sources of income were even comparable to the sums invested by Google in the Android OS. It is thus possible that the Commission’s decision will prevent Google from earning a positive return on some future investments in the Android OS, ultimately causing it to cut back its investments and slowing innovation.

The upshot is that the Commission was simply wrong to assume that barriers to entry and more concentrated market structures would necessarily reduce innovation. This is especially true, given that Google may struggle to earn a return on its investments, absent the contractual provisions challenged by the Commission.

Conclusion

In short, the Commission’s economic analysis was severely lacking. It relied on economic models that had little to say about the market it which Google and its rivals operated. Its decisions thus reveals the inherent risk of basing antitrust decisions upon overfitted economic models. 

As if that were not enough, the Android decision also misrepresents the economic literature concerning the link (or absence thereof) between market structure and innovation. As a result, there is no reason to believe that Google’s behavior reduced innovation.

This is the third in a series of TOTM blog posts discussing the Commission’s recently published Google Android decision (the first post can be found here, and the second here). It draws on research from a soon-to-be published ICLE white paper.

(Comparison of Google and Apple’s smartphone business models. Red $ symbols represent money invested; Green $ symbols represent sources of revenue; Black lines show the extent of Google and Apple’s control over their respective platforms)

For the third in my series of posts about the Google Android decision, I will delve into the theories of harm identified by the Commission. 

The big picture is that the Commission’s analysis was particularly one-sided. The Commission failed to adequately account for the complex business challenges that Google faced – such as monetizing the Android platform and shielding it from fragmentation. To make matters worse, its decision rests on dubious factual conclusions and extrapolations. The result is a highly unbalanced assessment that could ultimately hamstring Google and prevent it from effectively competing with its smartphone rivals, Apple in particular.

1. Tying without foreclosure

The first theory of harm identified by the Commission concerned the tying of Google’s Search app with the Google Play app, and of Google’s Chrome app with both the Google Play and Google Search apps.

Oversimplifying, Google required its OEMs to choose between either pre-installing a bundle of Google applications, or forgoing some of the most important ones (notably Google Play). The Commission argued that this gave Google a competitive advantage that rivals could not emulate (even though Google’s terms did not preclude OEMs from simultaneously pre-installing rival web browsers and search apps). 

To support this conclusion, the Commission notably asserted that no alternative distribution channel would enable rivals to offset the competitive advantage that Google obtained from tying. This finding is, at best, dubious. 

For a start, the Commission claimed that user downloads were not a viable alternative distribution channel, even though roughly 250 million apps are downloaded on Google’s Play store every day.

The Commission sought to overcome this inconvenient statistic by arguing that Android users were unlikely to download apps that duplicated the functionalities of a pre-installed app – why download a new browser if there is already one on the user’s phone?

But this reasoning is far from watertight. For instance, the 17th most-downloaded Android app, the “Super-Bright Led Flashlight” (with more than 587million downloads), mostly replicates a feature that is pre-installed on all Android devices. Moreover, the five most downloaded Android apps (Facebook, Facebook Messenger, Whatsapp, Instagram and Skype) provide functionalities that are, to some extent at least, offered by apps that have, at some point or another, been preinstalled on many Android devices (notably Google Hangouts, Google Photos and Google+).

The Commission countered that communications apps were not appropriate counterexamples, because they benefit from network effects. But this overlooks the fact that the most successful communications and social media apps benefited from very limited network effects when they were launched, and that they succeeded despite the presence of competing pre-installed apps. Direct user downloads are thus a far more powerful vector of competition than the Commission cared to admit.

Similarly concerning is the Commission’s contention that paying OEMs or Mobile Network Operators (“MNOs”) to pre-install their search apps was not a viable alternative for Google’s rivals. Some of the reasons cited by the Commission to support this finding are particularly troubling.

For instance, the Commission claimed that high transaction costs prevented parties from concluding these pre installation deals. 

But pre-installation agreements are common in the smartphone industry. In recent years, Microsoft struck a deal with Samsung to pre-install some of its office apps on the Galaxy Note 10. It also paid Verizon to pre-install the Bing search app on a number of Samsung phones, in 2010. Likewise, a number of Russian internet companies have been in talks with Huawei to pre-install their apps on its devices. And Yahoo reached an agreement with Mozilla to make it the default search engine for its web browser. Transaction costs do not appear to  have been an obstacle in any of these cases.

The Commission also claimed that duplicating too many apps would cause storage space issues on devices. 

And yet, a back-of-the-envelope calculation suggests that storage space is unlikely to be a major issue. For instance, the Bing Search app has a download size of 24MB, whereas typical entry-level smartphones generally have an internal memory of at least 64GB (that can often be extended to more than 1TB with the addition of an SD card). The Bing Search app thus takes up less than one-thousandth of these devices’ internal storage. Granted, the Yahoo search app is slightly larger than Microsoft’s, weighing almost 100MB. But this is still insignificant compared to a modern device’s storage space.

Finally, the Commission claimed that rivals were contractually prevented from concluding exclusive pre-installation deals because Google’s own apps would also be pre-installed on devices.

However, while it is true that Google’s apps would still be present on a device, rivals could still pay for their applications to be set as default. Even Yandex – a plaintiff – recognized that this would be a valuable solution. In its own words (taken from the Commission’s decision):

Pre-installation alongside Google would be of some benefit to an alternative general search provider such as Yandex […] given the importance of default status and pre-installation on home screen, a level playing field will not be established unless there is a meaningful competition for default status instead of Google.

In short, the Commission failed to convincingly establish that Google’s contractual terms prevented as-efficient rivals from effectively distributing their applications on Android smartphones. The evidence it adduced was simply too thin to support anything close to that conclusion.

2. The threat of fragmentation

The Commission’s second theory of harm concerned the so-called “antifragmentation” agreements concluded between Google and OEMs. In a nutshell, Google only agreed to license the Google Search and Google Play apps to OEMs that sold “Android Compatible” devices (i.e. devices sold with a version of Android did not stray too far from Google’s most recent version).

According to Google, this requirement was necessary to limit the number of Android forks that were present on the market (as well as older versions of the standard Android). This, in turn, reduced development costs and prevented the Android platform from unraveling.

The Commission disagreed, arguing that Google’s anti-fragmentation provisions thwarted competition from potential Android forks (i.e. modified versions of the Android OS).

This conclusion raises at least two critical questions: The first is whether these agreements were necessary to ensure the survival and competitiveness of the Android platform, and the second is why “open” platforms should be precluded from partly replicating a feature that is essential to rival “closed” platforms, such as Apple’s iOS.

Let us start with the necessity, or not, of Google’s contractual terms. If fragmentation did indeed pose an existential threat to the Android ecosystem, and anti-fragmentation agreements averted this threat, then it is hard to make a case that they thwarted competition. The Android platform would simply not have been as viable without them.

The Commission dismissed this possibility, relying largely on statements made by Google’s rivals (many of whom likely stood to benefit from the suppression of these agreements). For instance, the Commission cited comments that it received from Yandex – one of the plaintiffs in the case:

(1166) The fact that fragmentation can bring significant benefits is also confirmed by third-party respondents to requests for information:

[…]

(2) Yandex, which stated: “Whilst the development of Android forks certainly has an impact on the fragmentation of the Android ecosystem in terms of additional development being required to adapt applications for various versions of the OS, the benefits of fragmentation outweigh the downsides…”

Ironically, the Commission relied on Yandex’s statements while, at the same time, it dismissed arguments made by Android app developers, on account that they were conflicted. In its own words:

Google attached to its Response to the Statement of Objections 36 letters from OEMs and app developers supporting Google’s views about the dangers of fragmentation […] It appears likely that the authors of the 36 letters were influenced by Google when drafting or signing those letters.

More fundamentally, the Commission’s claim that fragmentation was not a significant threat is at odds with an almost unanimous agreement among industry insiders.

For example, while it is not dispositive, a rapid search for the terms “Google Android fragmentation”, using the DuckDuckGo search engine, leads to results that cut strongly against the Commission’s conclusions. Of the ten first results, only one could remotely be construed as claiming that fragmentation was not an issue. The others paint a very different picture (below are some of the most salient excerpts):

“There’s a fairly universal perception that Android fragmentation is a barrier to a consistent user experience, a security risk, and a challenge for app developers.” (here)

“Android fragmentation, a problem with the operating system from its inception, has only become more acute an issue over time, as more users clamor for the latest and greatest software to arrive on their phones.” (here)

“Android Fragmentation a Huge Problem: Study.” (here)

“Google’s Android fragmentation fix still isn’t working at all.” (here)

“Does Google care about Android fragmentation? Not now—but it should.” (here).

“This is very frustrating to users and a major headache for Google… and a challenge for corporate IT,” Gold said, explaining that there are a large number of older, not fully compatible devices running various versions of Android.” (here)

Perhaps more importantly, one might question why Google should be treated differently than rivals that operate closed platforms, such as Apple, Microsoft and Blackberry (before the last two mostly exited the Mobile OS market). By definition, these platforms limit all potential forks (because they are based on proprietary software).

The Commission argued that Apple, Microsoft and Blackberry had opted to run “closed” platforms, which gave them the right to prevent rivals from copying their software.

While this answer has some superficial appeal, it is incomplete. Android may be an open source project, but this is not true of Google’s proprietary apps. Why should it be forced to offer them to rivals who would use them to undermine its platform? The Commission did not meaningfully consider this question.

And yet, industry insiders routinely compare the fragmentation of Apple’s iOS and Google’s Android OS, in order to gage the state of competition between both firms. For instance, one commentator noted:

[T]he gap between iOS and Android users running the latest major versions of their operating systems has never looked worse for Google.

Likewise, an article published in Forbes concluded that Google’s OEMs were slow at providing users with updates, and that this might drive users and developers away from the Android platform:

For many users the Android experience isn’t as up-to-date as Apple’s iOS. Users could buy the latest Android phone now and they may see one major OS update and nothing else. […] Apple users can be pretty sure that they’ll get at least two years of updates, although the company never states how long it intends to support devices.

However this problem, in general, makes it harder for developers and will almost certainly have some inherent security problems. Developers, for example, will need to keep pushing updates – particularly for security issues – to many different versions. This is likely a time-consuming and expensive process.

To recap, the Commission’s decision paints a world that is either black or white: either firms operate closed platforms, and they are then free to limit fragmentation as they see fit, or they create open platforms, in which case they are deemed to have accepted much higher levels of fragmentation.

This stands in stark contrast to industry coverage, which suggests that users and developers of both closed and open platforms care a great deal about fragmentation, and demand that measures be put in place to address it. If this is true, then the relative fragmentation of open and closed platforms has an important impact on their competitive performance, and the Commission was wrong to reject comparisons between Google and its closed ecosystem rivals. 

3. Google’s revenue sharing agreements

The last part of the Commission’s case centered on revenue sharing agreements between Google and its OEMs/MNOs. Google paid these parties to exclusively place its search app on the homescreen of their devices. According to the Commission, these payments reduced OEMs and MNOs’ incentives to pre-install competing general search apps.

However, to reach this conclusion, the Commission had to make the critical (and highly dubious) assumption that rivals could not match Google’s payments.

To get to that point, it notably assumed that rival search engines would be unable to increase their share of mobile search results beyond their share of desktop search results. The underlying intuition appears to be that users who freely chose Google Search on desktop (Google Search & Chrome are not set as default on desktop PCs) could not be convinced to opt for a rival search engine on mobile.

But this ignores the possibility that rivals might offer an innovative app that swayed users away from their preferred desktop search engine. 

More importantly, this reasoning cuts against the Commission’s own claim that pre-installation and default placement were critical. If most users, dismiss their device’s default search app and search engine in favor of their preferred ones, then pre-installation and default placement are largely immaterial, and Google’s revenue sharing agreements could not possibly have thwarted competition (because they did not prevent users from independently installing their preferred search app). On the other hand, if users are easily swayed by default placement, then there is no reason to believe that rivals could not exceed their desktop market share on mobile phones.

The Commission was also wrong when it claimed that rival search engines were at a disadvantage because of the structure of Google’s revenue sharing payments. OEMs and MNOs allegedly lost all of their payments from Google if they exclusively placed a rival’s search app on the home screen of a single line of handsets.

The key question is the following: could Google automatically tilt the scales to its advantage by structuring the revenue sharing payments in this way? The answer appears to be no. 

For instance, it has been argued that exclusivity may intensify competition for distribution. Conversely, other scholars have claimed that exclusivity may deter entry in network industries. Unfortunately, the Commission did not examine whether Google’s revenue sharing agreements fell within this category. 

It thus provided insufficient evidence to support its conclusion that the revenue sharing agreements reduced OEMs’ (and MNOs’) incentives to pre-install competing general search apps, rather than merely increasing competition “for the market”.

4. Conclusion

To summarize, the Commission overestimated the effect that Google’s behavior might have on its rivals. It almost entirely ignored the justifications that Google put forward and relied heavily on statements made by its rivals. The result is a one-sided decision that puts undue strain on the Android Business model, while providing few, if any, benefits in return.