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[TOTM: The following is part of a symposium by TOTM guests and authors marking the release of Nicolas Petit’s “Big Tech and the Digital Economy: The Moligopoly Scenario.” The entire series of posts is available here.

This post is authored by Shane Greenstein (Professor of Business Administration, Harvard Business School).
]

In his book, Nicolas Petit approaches antitrust issues by analyzing their economic foundations, and he aspires to bridge gaps between those foundations and the common points of view. In light of the divisiveness of today’s debates, I appreciate Petit’s calm and deliberate view of antitrust, and I respect his clear and engaging prose.

I spent a lot of time with this topic when writing a book (How the Internet Became Commercial, 2015, Princeton Press). If I have something unique to add to a review of Petit’s book, it comes from the role Microsoft played in the events in my book.

Many commentators have speculated on what precise charges could be brought against Facebook, Google/Alphabet, Apple, and Amazon. For the sake of simplicity, let’s call these the “big four.” While I have no special insight to bring to such speculation, for this post I can do something different, and look forward by looking back. For the time being, Microsoft has been spared scrutiny by contemporary political actors. (It seems safe to presume Microsoft’s managers prefer to be left out.) While it is tempting to focus on why this has happened, let’s focus on a related issue: What shadow did Microsoft’s trials cast on the antitrust issues facing the big four?

Two types of lessons emerged from Microsoft’s trials, and both tend to be less appreciated by economists. One set of lessons emerged from the media flood of the flotsam and jetsam of sensationalistic factoids and sound bites, drawn from Congressional and courtroom testimony. That yielded lessons about managing sound and fury – i.e., mostly about reducing the cringe-worthy quotes from CEOs and trial witnesses.

Another set of lessons pertained to the role and limits of economic reasoning. Many decision makers reasoned by analogy and metaphor. That is especially so for lawyers and executives. These metaphors do not make economic reasoning wrong, but they do tend to shape how an antitrust question takes center stage with a judge, as well as in the court of public opinion. These metaphors also influence the stories a CEO tells to employees.

If you asked me to forecast how things will go for the big four, based on what I learned from studying Microsoft’s trials, I forecast that the outcome depends on which metaphor and analogy gets the upper hand.

In that sense, I want to argue that Microsoft’s experience depended on “the fox and shepherd problem.” When is a platform leader better thought of as a shepherd, helping partners achieve a healthy outcome, or as a fox in charge of a henhouse, ready to sacrifice a partner for self-serving purposes? I forecast the same metaphors will shape experience of the big four.

Gaps and analysis

The fox-shepherd problem never shows up when a platform leader is young and its platform is small. As the platform reaches bigger scale, however, the problem becomes more salient. Conflicts of interests emerge and focus attention on platform leadership.

Petit frames these issues within a Schumpeterian vision. In this view, firms compete for dominant positions over time, potentially with one dominant firm replacing another. Potential competition has a salutary effect if established firms perceive a threat from the future shadow of such competitors, motivating innovation. In this view, antitrust’s role might be characterized as “keeping markets open so there is pressure on the dominant firm from potential competition.”

In the Microsoft trial economists framed the Schumpeterian tradeoff in the vocabulary of economics. Firms who supply complements at one point could become suppliers of substitutes at a later point if they are allowed to. In other words, platform leaders today support complements that enhance the value of the platform, while also having the motive and ability to discourage those same business partners from developing services that substitute for the platform’s services, which could reduce the platform’s value. Seen through this lens, platform leaders inherently face a conflict of interest, and antitrust law should intervene if platform leaders could place excessive limitations on existing business partners.

This economic framing is not wrong. Rather, it is necessary, but not sufficient. If I take a sober view of events in the Microsoft trial, I am not convinced the economics alone persuaded the judge in Microsoft’s case, or, for that matter, the public.

As judges sort through the endless detail of contracting provisions, they need a broad perspective, one that sharpens their focus on a key question. One central question in particular inhabits a lot of a judge’s mindshare: how did the platform leader use its discretion, and for what purposes? In case it is not obvious, shepherds deserve a lot of discretion, while only a fool gives a fox much license.

Before the trial, when it initially faced this question from reporters and Congress, Microsoft tried to dismiss the discussion altogether. Their representatives argued that high technology differs from every other market in its speed and productivity, and, therefore, ought to be thought of as incomparable to other antitrust examples. This reflected the high tech elite’s view of their own exceptionalism.

Reporters dutifully restated this argument, and, long story short, it did not get far with the public once the sensationalism started making headlines, and it especially did not get far with the trial judge. To be fair, if you watched recent congressional testimony, it appears as if the lawyers for the big four instructed their CEOs not to try it this approach this time around.

Origins

Well before lawyers and advocates exaggerate claims, the perspective of both sides usually have some merit, and usually the twain do not meet. Most executives tend to remember every detail behind growth, and know the risks confronted and overcome, and usually are reluctant to give up something that works for their interests, and sometimes these interests can be narrowly defined. In contrast, many partners will know examples of a rule that hindered them, and point to complaints that executives ignored, and aspire to have rules changed, and, again, their interests tend to be narrow.

Consider the quality-control process today for iPhone apps as an example. The merits and absurdity of some of Apples conduct get a lot of attention in online forums, especially the 30% take for Apple. Apple can reasonably claim the present set of rules work well overall, and only emerged after considerable experimentation, and today they seek to protect all who benefit from the entire system, like a shepherd. It is no surprise however, that some partners accuse Apple of tweaking rules to their own benefit, and using the process to further Apple’s ambitions at the expense of the partner’s, like a fox in a henhouse. So it goes.

More generally, based on publically available information, all of the big four already face this debate. Self-serving behavior shows up in different guise in different parts of the big four’s business, but it is always there. As noted, Apple’s apps compete with the apps of others, so it has incentives to shape distribution of other apps. Amazon’s products compete with some products coming from its third—party sellers, and it too faces mixed incentives. Google’s services compete with online services who also advertise on their search engine, and they too face issues over their charges for listing on the Play store. Facebook faces an additional issues, because it has bought firms that were trying to grow their own platforms to compete with Facebook.

Look, those four each contain rather different businesses in their details, which merits some caution in making a sweeping characterization. My only point: the question about self-serving behavior arises in each instance. That frames a fox-shepherd problem for prosecutors in each case.

Lessons from prior experience

Circling back to lessons of the past for antitrust today, the Shepherd-Fox problem was one of the deeper sources of miscommunication leading up to the Microsoft trial. In the late 1990s Microsoft could reasonably claim to be a shepherd for all its platform’s partners, and it could reasonably claim to have improved the platform in ways that benefited partners. Moreover, for years some of the industry gossip about their behavior stressed misinformed nonsense. Accordingly, Microsoft’s executives had learned to trust their own judgment and to mistrust the complaints of outsiders. Right in line with that mistrust, many employees and executives took umbrage to being characterized as a fox in a henhouse, dismissing the accusations out of hand.

Those habits-of-mind poorly positioned the firm for a court case. As any observer of the trial knowns, When prosecutors came looking, they found lots of examples that looked like fox-like behavior. Onerous contract restrictions and cumbersome processes for business partners produced plenty of bad optics in court, and fueled the prosecution’s case that the platform had become too self-serving at the expense of competitive processes. Prosecutors had plenty to work with when it came time to prove motive, intent, and ability to misuse discretion. 

What is the lesson for the big four? Ask an executive in technology today, and sometimes you will hear the following: As long as a platform’s actions can be construed as friendly to customers, the platform leader will be off the hook. That is not wrong lessons, but it is an incomplete one. Looking with hindsight and foresight, that perspective seems too sanguine about the prospects for the big four. Microsoft had done plenty for its customers, but so what? There was plenty of evidence of acting like a fox in a hen-house. The bigger lesson is this: all it took were a few bad examples to paint a picture of a pattern, and every firm has such examples.

Do not get me wrong. I am not saying a fox and hen-house analogy is fair or unfair to platform leaders. Rather, I am saying that economists like to think the economic trade-off between the interests of platform leaders, platform partners, and platform customers emerge from some grand policy compromise. That is not how prosecutors think, nor how judges decide. In the Microsoft case there was no such grand consideration. The economic framing of the case only went so far. As it was, the decision was vulnerable to metaphor, shrewdly applied and convincingly argued. Done persuasively, with enough examples of selfish behavior, excuses about “helping customers” came across as empty.

Policy

Some advocates argue, somewhat philosophically, that platforms deserve discretion, and governments are bound to err once they intervene. I have sympathy with that point of view, but only up to a point. Below are two examples from outside antitrust where government routinely do not give the big four a blank check.

First, when it started selling ads, Google banned ads for cigarettes, porn and alcohol, and it downgraded in its quality score for websites that used deceptive means to attract users. That helped the service foster trust with new users, enabling it to grow. After it became bigger should Google have continued to have unqualified discretion to shepherd the entire ad system? Nobody thinks so. A while ago the Federal Trade Commission decided to investigate deceptive online advertising, just as it investigates deceptive advertising in other media. It is not a big philosophical step to next ask whether Google should have unfettered discretion to structure the ad business, search process, and related e-commerce to its own benefit.

Here is another example, this one about Facebook. Over the years Facebook cycled through a number of rules for sharing information with business partners, generally taking a “relaxed” attitude enforcing those policies. Few observers cared when Facebook was small, but many governments started to care after Facebook grew to billions of users. Facebook’s lax monitoring did not line up with the preferences of many governments. It should not come as a surprise now that many governments want to regulate Facebook’s handling of data. Like it or not, this question lies squarely within the domain of government privacy policy. Again, the next step is small. Why should other parts of its business remain solely in Facebook’s discretion, like its ability to buy other businesses?

This gets us to the other legacy of the Microsoft case: As we think about future policy dilemmas, are there a general set of criteria for the antitrust issues facing all four firms? Veterans of court cases will point out that every court case is its own circus. Just because Microsoft failed to be persuasive in its day does not imply any of the big four will be unpersuasive.

Looking back on the Microsoft trial, it did not articulate a general set of principles about acceptable or excusable self-serving behavior from a platform leader. It did not settle what criteria best determine when a court should consider a platform leader’s behavior closer to that of a shepherd or a fox. The appropriate general criteria remains unclear.

The DOJ and 20 state AGs sued Microsoft on May 18, 1998 for unlawful maintenance of its monopoly position in the PC market. The government accused the desktop giant of tying its operating system (Windows) and its web browser (Internet Explorer). Microsoft had indeed become dominant in the PC market by the late 1980s:

Source: Asymco

But after the introduction of smartphones in the mid-2000s, Microsoft’s market share of personal computing units (including PCs, smartphones, and tablets) collapsed:

Source: Benedict Evans

Steven Sinofsy pointed out why this was a classic case of disruptive innovation rather than sustaining innovation: “Google and Microsoft were competitors but only by virtue of being tech companies hiring engineers. After that, almost nothing about what was being made or sold was similar even if things could ultimately be viewed as substitutes. That is literally the definition of innovation.”

Browsers

Microsoft grew to dominance during the PC era by bundling its desktop operating system (Windows) with its productivity software (Office) and modularizing the hardware providers. By 1995, Bill Gates had realized that the internet was the next big thing, calling it “The Internet Tidal Wave” in a famous internal memo. Gates feared that the browser would function as “middleware” and disintermediate Microsoft from its relationship with the end-user. At the time, Netscape Navigator was gaining market share from the first browser to popularize the internet, Mosaic (so-named because it supported a multitude of protocols).

Later that same year, Microsoft released its own browser, Internet Explorer, which would be bundled with its Windows operating system. Internet Explorer soon grew to dominate the market:

Source: Browser Wars

Steven Sinofsky described how the the browser threatened to undermine the Windows platform (emphasis added):

Microsoft saw browsers as a platform threat to Windows. Famously. Browsers though were an app — running everywhere, distributed everywhere. Microsoft chose to compete as though browsing was on par with Windows (i.e., substitutes).

That meant doing things like IBM did — finding holes in distribution where browsers could “sneak” in (e.g., OEM deals) and seeing how to make Microsoft browser work best and only with Windows. Sound familiar? It does to me.

Imagine (some of us did) a world instead where Microsoft would have built a browser that was an app distributed everywhere, running everywhere. That would have been a very different strategy. One that some imagined, but not when Windows was central.

Showing how much your own gravity as a big company can make even obvious steps strategically weak: Microsoft knew browsers had to be cross-platform so it built Internet Explorer for Mac and Unix. Neat. But wait, the main strategic differentiator for Internet Explorer was ActiveX which was clearly Windows only.

So even when trying to compete in a new market the strategy was not going to work technically and customers would immediately know. Either they would ignore the key part of Windows or the key part of x-platform. This is what a big company “master plan” looks like … Active Desktop.

Regulators claimed victory but the loss already happened. But for none of the reasons the writers of history say at least [in my humble opinion]. As a reminder, Microsoft stopped working on Internet Explorer 7 years before Chrome even existed — literally didn’t release a new version for 5+ years.

One of the most important pieces of context for this case is that other browsers were also free for personal use (even if they weren’t bundled with an operating system). At the time, Netscape was free for individuals. Mosaic was free for non-commercial use. Today, Chrome and Firefox are free for all users. Chrome makes money for Google by increasing the value of its ecosystem and serving as a complement for its other products (particularly search). Firefox is able to more than cover its costs by charging Google (and others) to be the default option in its browser. 

By bundling Internet Explorer with Windows for free, Microsoft was arguably charging the market rate. In highly competitive markets, economic theory tells us the price should approach marginal cost — which in software is roughly zero. As James Pethokoukis argued, there are many more reasons to be skeptical about the popular narrative surrounding the Microsoft case. The reasons for doubt range across features, products, and markets, including server operating systems, mobile devices, and search engines. Let’s examine a few of them.

Operating Systems

In a 2007 article for Wired titled “I Blew It on Microsoft,” Lawrence Lessig, a Harvard law professor, admits that his predictions about the future of competition in computer operating systems failed to account for the potential of open-source solutions:

We pro-regulators were making an assumption that history has shown to be completely false: That something as complex as an OS has to be built by a commercial entity. Only crazies imagined that volunteers outside the control of a corporation could successfully create a system over which no one had exclusive command. We knew those crazies. They worked on something called Linux.

According to Web Technology Surveys, as of April 2019, about 70 percent of servers use a Linux-based operating system while the remaining 30 percent use Windows.

Mobile

In 2007, Steve Ballmer believed that Microsoft would be the dominant company in smartphones, saying in an interview with USA Today (emphasis added):

There’s no chance that the iPhone is going to get any significant market share. No chance. It’s a $500 subsidized item. They may make a lot of money. But if you actually take a look at the 1.3 billion phones that get sold, I’d prefer to have our software in 60% or 70% or 80% of them, than I would to have 2% or 3%, which is what Apple might get.

But as Ballmer himself noted in 2013, Microsoft was too committed to the Windows platform to fully pivot its focus to mobile:

If there’s one thing I regret, there was a period in the early 2000s when we were so focused on what we had to do around Windows that we weren’t able to redeploy talent to the new device form factor called the phone.

This is another classic example of the innovator’s dilemma. Microsoft enjoyed high profit margins in its Windows business, which caused the company to underrate the significance of the shift from PCs to smartphones.

Search

To further drive home how dependent Microsoft was on its legacy products, this 2009 WSJ piece notes that the company had a search engine ad service in 2000 and shut it down to avoid cannibalizing its core business:

Nearly a decade ago, early in Mr. Ballmer’s tenure as CEO, Microsoft had its own inner Google and killed it. In 2000, before Google married Web search with advertising, Microsoft had a rudimentary system that did the same, called Keywords, running on the Web. Advertisers began signing up. But Microsoft executives, in part fearing the company would cannibalize other revenue streams, shut it down after two months.

Ben Thompson says we should wonder if the case against Microsoft was a complete waste of everyone’s time (and money): 

In short, to cite Microsoft as a reason for antitrust action against Google in particular is to get history completely wrong: Google would have emerged with or without antitrust action against Microsoft; if anything the real question is whether or not Google’s emergence shows that the Microsoft lawsuit was a waste of time and money.

The most obvious implications of the Microsoft case were negative: (1) PCs became bloated with “crapware” (2) competition in the browser market failed to materialize for many years (3) PCs were less safe because Microsoft couldn’t bundle security software, and (4) some PC users missed out on using first-party software from Microsoft because it couldn’t be bundled with Windows. When weighed against these large costs, the supposed benefits pale in comparison.

Conclusion

In all three cases I’ve discussed in this series — AT&T, IBM, and Microsoft — the real story was not that antitrust enforcers divined the perfect time to break up — or regulate — the dominant tech company. The real story was that slow and then sudden technological change outpaced the organizational inertia of incumbents, permanently displacing the former tech giants from their dominant position in the tech ecosystem. 

The next paradigm shift will be near-impossible to predict. Those who know which technology — and when — it will be would make a lot more money implementing their ideas than they would by playing pundit in the media. Regardless of whether the future winner will be Google, Facebook, Amazon, Apple, Microsoft, or some unknown startup company, antitrust enforcers should remember that the proper goal of public policy in this domain is to maximize total innovation — from firms both large and small. Fetishizing innovation by small companies — and using law enforcement to harass big companies in the hopes for an indirect benefit to competition — will make us all worse off in the long run.

The case against AT&T began in 1974. The government alleged that AT&T had monopolized the market for local and long-distance telephone service as well as telephone equipment. In 1982, the company entered into a consent decree to be broken up into eight pieces (the “Baby Bells” plus the parent company), which was completed in 1984. As a remedy, the government required the company to divest its local operating companies and guarantee equal access to all long-distance and information service providers (ISPs).

Source: Mohanram & Nanda

As the chart above shows, the divestiture broke up AT&T’s national monopoly into seven regional monopolies. In general, modern antitrust analysis focuses on the local product market (because that’s the relevant level for consumer decisions). In hindsight, how did breaking up a national monopoly into seven regional monopolies increase consumer choice? It’s also important to note that, prior to its structural breakup, AT&T was a government-granted monopoly regulated by the FCC. Any antitrust remedy should be analyzed in light of the company’s unique relationship with regulators.

Breaking up one national monopoly into seven regional monopolies is not an effective way to boost innovation. And there are economies of scale and network effects to be gained by owning a national network to serve a national market. In the case of AT&T, those economic incentives are why the Baby Bells forged themselves back together in the decades following the breakup.

Source: WSJ

As Clifford Winston and Robert Crandall noted

Appearing to put Ma Bell back together again may embarrass the trustbusters, but it should not concern American consumers who, in two decades since the breakup, are overwhelmed with competitive options to provide whatever communications services they desire.

Moreover, according to Crandall & Winston (2003), the lower prices following the breakup of AT&T weren’t due to the structural remedy at all (emphasis added):

But on closer examination, the rise in competition and lower long-distance prices are attributable to just one aspect of the 1982 decree; specifically, a requirement that the Bell companies modify their switching facilities to provide equal access to all long-distance carriers. The Federal Communications Commission (FCC) could have promulgated such a requirement without the intervention of the antitrust authorities. For example, the Canadian regulatory commission imposed equal access on its vertically integrated carriers, including Bell Canada, in 1993. As a result, long-distance competition developed much more rapidly in Canada than it had in the United States (Crandall and Hazlett, 2001). The FCC, however, was trying to block MCI from competing in ordinary long-distance services when the AT&T case was filed by the Department of Justice in 1974. In contrast to Canadian and more recent European experience, a lengthy antitrust battle and a disruptive vertical dissolution were required in the U.S. market to offset the FCC’s anti-competitive policies. Thus, antitrust policy did not triumph in this case over restrictive practices by a monopolist to block competition, but instead it overcame anticompetitive policies by a federal regulatory agency.

A quick look at the data on telephone service in the US, EU, and Canada show that the latter two were able to achieve similar reductions in price without breaking up their national providers.

Source: Crandall & Jackson (2011)

The paradigm shift from wireline to wireless

The technological revolution spurred by the transition from wireline telephone service to wireless telephone service shook up the telecommunications industry in the 1990s. The rapid change caught even some of the smartest players by surprise. In 1980, the management consulting firm McKinsey and Co. produced a report for AT&T predicting how large the cellular market might become by the year 2000. Their forecast said that 900,000 cell phones would be in use. The actual number was more than 109 million.

Along with the rise of broadband, the transition to wireless technology led to an explosion in investment. In contrast, the breakup of AT&T in 1984 had no discernible effect on the trend in industry investment:

The lesson for antitrust enforcers is clear: breaking up national monopolies into regional monopolies is no remedy. In certain cases, mandating equal access to critical networks may be warranted. Most of all, technology shocks will upend industries in ways that regulators — and dominant incumbents — fail to predict.

The Department of Justice began its antitrust case against IBM on January 17, 1969. The DOJ sued under the Sherman Antitrust Act, claiming IBM tried to monopolize the market for “general-purpose digital computers.” The case lasted almost thirteen years, ending on January 8, 1982 when Assistant Attorney General William Baxter declared the case to be “without merit” and dropped the charges. 

The case lasted so long, and expanded in scope so much, that by the time the trial began, “more than half of the practices the government raised as antitrust violations were related to products that did not exist in 1969.” Baltimore law professor Robert Lande said it was “the largest legal case of any kind ever filed.” Yale law professor Robert Bork called it “the antitrust division’s Vietnam.”

As the case dragged on, IBM was faced with increasingly perverse incentives. As NYU law professor Richard Epstein pointed out (emphasis added), 

Oddly, enough IBM was able to strengthen its antitrust-related legal position by reducing its market share, which it achieved through raising prices. When the suit was discontinued that share had fallen dramatically since 1969 from about 50 percent of the market to 37 percent in 1982. Only after the government suit ended did IBM lower its prices in order to increase market share.

Source: Levy & Welzer

In an interview with Vox, Tim Wu claimed that without the IBM case, Apple wouldn’t exist and we might still be using mainframe computers (emphasis added):

Vox: You said that Apple wouldn’t exist without the IBM case.

Wu: Yeah, I did say that. The case against IBM took 13 years and we didn’t get a verdict but in that time, there was the “policeman at the elbow” effect. IBM was once an all-powerful company. It’s not clear that we would have had an independent software industry, or that it would have developed that quickly, the idea of software as a product, [without this case]. That was one of the immediate benefits of that excavation.

And then the other big one is that it gave a lot of room for the personal computer to get started, and the software that surrounds the personal computer — two companies came in, Apple and Microsoft. They were sort of born in the wake of the IBM lawsuit. You know they were smart guys, but people did need the pressure off their backs.

Nobody is going to start in the shadow of Facebook and get anywhere. Snap’s been the best, but how are they doing? They’ve been halted. I think it’s a lot harder to imagine this revolutionary stuff that happened in the ’80s. If IBM had been completely unwatched by regulators, by enforcement, doing whatever they wanted, I think IBM would have held on and maybe we’d still be using mainframes, or something — a very different situation.

Steven Sinofsky, a former Microsoft executive and current Andreessen Horowitz board partner, had a different take on the matter, attributing IBM’s (belated) success in PCs to its utter failure in minicomputers (emphasis added):

IBM chose to prevent third parties from interoperating with mainframes sometimes at crazy levels (punch card formats). And then chose to defend until the end their business model of leasing … The minicomputer was a direct threat not because of technology but because of those attributes. I’ve heard people say IBM went into PCs because the antitrust loss caused them to look for growth or something. Ha. PCs were spun up because IBM was losing Minis. But everything about the PC was almost a fluke organizationally and strategically. The story of IBM regulation is told as though PCs exist because of the case.

The more likely story is that IBM got swamped by the paradigm shift from mainframes to PCs. IBM was dominant in mainframe computers which were sold to the government and large enterprises. Microsoft, Intel, and other leaders in the PC market sold to small businesses and consumers, which required an entirely different business model than IBM was structured to implement.

ABB – Always Be Bundling (Or Unbundling)

“There’s only two ways I know of to make money: bundling and unbundling.” – Jim Barksdale

In 1969, IBM unbundled its software and services from hardware sales. As many industry observers note, this action precipitated the rise of the independent software development industry. But would this have happened regardless of whether there was an ongoing antitrust case? Given that bundling and unbundling is ubiquitous in the history of the computer industry, the answer is likely yes.

As the following charts show, IBM first created an integrated solution in the mainframe market, controlling everything from raw materials and equipment to distribution and service. When PCs disrupted mainframes, the entire value chain was unbundled. Later, Microsoft bundled its operating system with applications software. 

Source: Clayton Christensen

The first smartphone to disrupt the PC market was the Apple iPhone — an integrated solution. And once the technology became “good enough” to meet the average consumer’s needs, Google modularized everything except the operating system (Android) and the app store (Google Play).

Source: SlashData
Source: Jake Nielson

Another key prong in Tim Wu’s argument that the government served as an effective “policeman at the elbow” in the IBM case is that the company adopted an open model when it entered the PC market and did not require an exclusive license from Microsoft to use its operating system. But exclusivity is only one term in a contract negotiation. In an interview with Playboy magazine in 1994, Bill Gates explained how he was able to secure favorable terms from IBM (emphasis added):

Our restricting IBM’s ability to compete with us in licensing MS-DOS to other computer makers was the key point of the negotiation. We wanted to make sure only we could license it. We did the deal with them at a fairly low price, hoping that would help popularize it. Then we could make our move because we insisted that all other business stay with us. We knew that good IBM products are usually cloned, so it didn’t take a rocket scientist to figure out that eventually we could license DOS to others. We knew that if we were ever going to make a lot of money on DOS it was going to come from the compatible guys, not from IBM. They paid us a fixed fee for DOS. We didn’t get a royalty, even though we did make some money on the deal. Other people paid a royalty. So it was always advantageous to us, the market grew and other hardware guys were able to sell units.

In this version of the story, IBM refrained from demanding an exclusive license from Microsoft not because it was fearful of antitrust enforcers but because Microsoft made significant concessions on price and capped its upside by agreeing to a fixed fee rather than a royalty. These economic and technical explanations for why IBM wasn’t able to leverage its dominant position in mainframes into the PC market are more consistent with the evidence than Wu’s “policeman at the elbow” theory.

In my next post, I will discuss the other major antitrust case that came to an end in 1982: AT&T.

Source: Benedict Evans

[N]ew combinations are, as a rule, embodied, as it were, in new firms which generally do not arise out of the old ones but start producing beside them; … in general it is not the owner of stagecoaches who builds railways. – Joseph Schumpeter, January 1934

Elizabeth Warren wants to break up the tech giants — Facebook, Google, Amazon, and Apple — claiming they have too much power and represent a danger to our democracy. As part of our response to her proposal, we shared a couple of headlines from 2007 claiming that MySpace had an unassailable monopoly in the social media market.

Tommaso Valletti, the chief economist of the Directorate-General for Competition (DG COMP) of the European Commission, said, in what we assume was a reference to our posts, “they go on and on with that single example to claim that [Facebook] and [Google] are not a problem 15 years later … That’s not what I would call an empirical regularity.”

We appreciate the invitation to show that prematurely dubbing companies “unassailable monopolies” is indeed an empirical regularity.

It’s Tough to Make Predictions, Especially About the Future of Competition in Tech

No one is immune to this phenomenon. Antitrust regulators often take a static view of competition, failing to anticipate dynamic technological forces that will upend market structure and competition.

Scientists and academics make a different kind of error. They are driven by the need to satisfy their curiosity rather than shareholders. Upon inventing a new technology or discovering a new scientific truth, academics often fail to see the commercial implications of their findings.

Maybe the titans of industry don’t make these kinds of mistakes because they have skin in the game? The profit and loss statement is certainly a merciless master. But it does not give CEOs the power of premonition. Corporate executives hailed as visionaries in one era often become blinded by their success, failing to see impending threats to their company’s core value propositions.

Furthermore, it’s often hard as outside observers to tell after the fact whether business leaders just didn’t see a tidal wave of disruption coming or, worse, they did see it coming and were unable to steer their bureaucratic, slow-moving ships to safety. Either way, the outcome is the same.

Here’s the pattern we observe over and over: extreme success in one context makes it difficult to predict how and when the next paradigm shift will occur in the market. Incumbents become less innovative as they get lulled into stagnation by high profit margins in established lines of business. (This is essentially the thesis of Clay Christensen’s The Innovator’s Dilemma).

Even if the anti-tech populists are powerless to make predictions, history does offer us some guidance about the future. We have seen time and again that apparently unassailable monopolists are quite effectively assailed by technological forces beyond their control.

PCs

Source: Horace Dediu

Jan 1977: Commodore PET released

Jun 1977: Apple II released

Aug 1977: TRS-80 released

Feb 1978: “I.B.M. Says F.T.C. Has Ended Its Typewriter Monopoly Study” (NYT)

Mobile

Source: Comscore

Mar 2000: Palm Pilot IPO’s at $53 billion

Sep 2006: “Everyone’s always asking me when Apple will come out with a cellphone. My answer is, ‘Probably never.’” – David Pogue (NYT)

Apr 2007: “There’s no chance that the iPhone is going to get any significant market share.” Ballmer (USA TODAY)

Jun 2007: iPhone released

Nov 2007: “Nokia: One Billion Customers—Can Anyone Catch the Cell Phone King?” (Forbes)

Sep 2013: “Microsoft CEO Ballmer Bids Emotional Farewell to Wall Street” (Reuters)

If there’s one thing I regret, there was a period in the early 2000s when we were so focused on what we had to do around Windows that we weren’t able to redeploy talent to the new device form factor called the phone.

Search

Source: Distilled

Mar 1998: “How Yahoo! Won the Search Wars” (Fortune)

Once upon a time, Yahoo! was an Internet search site with mediocre technology. Now it has a market cap of $2.8 billion. Some people say it’s the next America Online.

Sep 1998: Google founded

Instant Messaging

Sep 2000: “AOL Quietly Linking AIM, ICQ” (ZDNet)

AOL’s dominance of instant messaging technology, the kind of real-time e-mail that also lets users know when others are online, has emerged as a major concern of regulators scrutinizing the company’s planned merger with Time Warner Inc. (twx). Competitors to Instant Messenger, such as Microsoft Corp. (msft) and Yahoo! Inc. (yhoo), have been pressing the Federal Communications Commission to force AOL to make its services compatible with competitors’.

Dec 2000: “AOL’s Instant Messaging Monopoly?” (Wired)

Dec 2015: Report for the European Parliament

There have been isolated examples, as in the case of obligations of the merged AOL / Time Warner to make AOL Instant Messenger interoperable with competing messaging services. These obligations on AOL are widely viewed as having been a dismal failure.

Oct 2017: AOL shuts down AIM

Jan 2019: “Zuckerberg Plans to Integrate WhatsApp, Instagram and Facebook Messenger” (NYT)

Retail

Source: Seeking Alpha

May 1997: Amazon IPO

Mar 1998: American Booksellers Association files antitrust suit against Borders, B&N

Feb 2005: Amazon Prime launches

Jul 2006: “Breaking the Chain: The Antitrust Case Against Wal-Mart” (Harper’s)

Feb 2011: “Borders Files for Bankruptcy” (NYT)

Social

Feb 2004: Facebook founded

Jan 2007: “MySpace Is a Natural Monopoly” (TechNewsWorld)

Seventy percent of Yahoo 360 users, for example, also use other social networking sites — MySpace in particular. Ditto for Facebook, Windows Live Spaces and Friendster … This presents an obvious, long-term business challenge to the competitors. If they cannot build up a large base of unique users, they will always be on MySpace’s periphery.

Feb 2007: “Will Myspace Ever Lose Its Monopoly?” (Guardian)

Jun 2011: “Myspace Sold for $35m in Spectacular Fall from $12bn Heyday” (Guardian)

Music

Source: RIAA

Dec 2003: “The subscription model of buying music is bankrupt. I think you could make available the Second Coming in a subscription model, and it might not be successful.” – Steve Jobs (Rolling Stone)

Apr 2006: Spotify founded

Jul 2009: “Apple’s iPhone and iPod Monopolies Must Go” (PC World)

Jun 2015: Apple Music announced

Video

Source: OnlineMBAPrograms

Apr 2003: Netflix reaches one million subscribers for its DVD-by-mail service

Mar 2005: FTC blocks Blockbuster/Hollywood Video merger

Sep 2006: Amazon launches Prime Video

Jan 2007: Netflix streaming launches

Oct 2007: Hulu launches

May 2010: Hollywood Video’s parent company files for bankruptcy

Sep 2010: Blockbuster files for bankruptcy

The Only Winning Move Is Not to Play

Predicting the future of competition in the tech industry is such a fraught endeavor that even articles about how hard it is to make predictions include incorrect predictions. The authors just cannot help themselves. A March 2012 BBC article “The Future of Technology… Who Knows?” derided the naysayers who predicted doom for Apple’s retail store strategy. Its kicker?

And that is why when you read that the Blackberry is doomed, or that Microsoft will never make an impression on mobile phones, or that Apple will soon dominate the connected TV market, you need to take it all with a pinch of salt.

But Blackberry was doomed and Microsoft never made an impression on mobile phones. (Half credit for Apple TV, which currently has a 15% market share).

Nobel Prize-winning economist Paul Krugman wrote a piece for Red Herring magazine (seriously) in June 1998 with the title “Why most economists’ predictions are wrong.” Headline-be-damned, near the end of the article he made the following prediction:

The growth of the Internet will slow drastically, as the flaw in “Metcalfe’s law”—which states that the number of potential connections in a network is proportional to the square of the number of participants—becomes apparent: most people have nothing to say to each other! By 2005 or so, it will become clear that the Internet’s impact on the economy has been no greater than the fax machine’s.

Robert Metcalfe himself predicted in a 1995 column that the Internet would “go spectacularly supernova and in 1996 catastrophically collapse.” After pledging to “eat his words” if the prediction did not come true, “in front of an audience, he put that particular column into a blender, poured in some water, and proceeded to eat the resulting frappe with a spoon.”

A Change Is Gonna Come

Benedict Evans, a venture capitalist at Andreessen Horowitz, has the best summary of why competition in tech is especially difficult to predict:

IBM, Microsoft and Nokia were not beaten by companies doing what they did, but better. They were beaten by companies that moved the playing field and made their core competitive assets irrelevant. The same will apply to Facebook (and Google, Amazon and Apple).

Elsewhere, Evans tried to reassure his audience that we will not be stuck with the current crop of tech giants forever:

With each cycle in tech, companies find ways to build a moat and make a monopoly. Then people look at the moat and think it’s invulnerable. They’re generally right. IBM still dominates mainframes and Microsoft still dominates PC operating systems and productivity software. But… It’s not that someone works out how to cross the moat. It’s that the castle becomes irrelevant. IBM didn’t lose mainframes and Microsoft didn’t lose PC operating systems. Instead, those stopped being ways to dominate tech. PCs made IBM just another big tech company. Mobile and the web made Microsoft just another big tech company. This will happen to Google or Amazon as well. Unless you think tech progress is over and there’ll be no more cycles … It is deeply counter-intuitive to say ‘something we cannot predict is certain to happen’. But this is nonetheless what’s happened to overturn pretty much every tech monopoly so far.

If this time is different — or if there are more false negatives than false positives in the monopoly prediction game — then the advocates for breaking up Big Tech should try to make that argument instead of falling back on “big is bad” rhetoric. As for us, we’ll bet that we have not yet reached the end of history — tech progress is far from over.

 

Near the end of her new proposal to break up Facebook, Google, Amazon, and Apple, Senator Warren asks, “So what would the Internet look like after all these reforms?”

It’s a good question, because, as she herself notes, “Twenty-five years ago, Facebook, Google, and Amazon didn’t exist. Now they are among the most valuable and well-known companies in the world.”

To Warren, our most dynamic and innovative companies constitute a problem that needs solving.

She described the details of that solution in a blog post:

First, [my administration would restore competition to the tech sector] by passing legislation that requires large tech platforms to be designated as “Platform Utilities” and broken apart from any participant on that platform.

* * *

For smaller companies…, their platform utilities would be required to meet the same standard of fair, reasonable, and nondiscriminatory dealing with users, but would not be required to structurally separate….

* * *
Second, my administration would appoint regulators committed to reversing illegal and anti-competitive tech mergers….
I will appoint regulators who are committed to… unwind[ing] anti-competitive mergers, including:

– Amazon: Whole Foods; Zappos;
– Facebook: WhatsApp; Instagram;
– Google: Waze; Nest; DoubleClick

Elizabeth Warren’s brave new world

Let’s consider for a moment what this brave new world will look like — not the nirvana imagined by regulators and legislators who believe that decimating a company’s business model will deter only the “bad” aspects of the model while preserving the “good,” as if by magic, but the inevitable reality of antitrust populism.  

Utilities? Are you kidding? For an overview of what the future of tech would look like under Warren’s “Platform Utility” policy, take a look at your water, electricity, and sewage service. Have you noticed any improvement (or reduction in cost) in those services over the past 10 or 15 years? How about the roads? Amtrak? Platform businesses operating under a similar regulatory regime would also similarly stagnate. Enforcing platform “neutrality” necessarily requires meddling in the most minute of business decisions, inevitably creating unintended and costly consequences along the way.

Network companies, like all businesses, differentiate themselves by offering unique bundles of services to customers. By definition, this means vertically integrating with some product markets and not others. Why are digital assistants like Siri bundled into mobile operating systems? Why aren’t the vast majority of third-party apps also bundled into the OS? If you want utilities regulators instead of Google or Apple engineers and designers making these decisions on the margin, then Warren’s “Platform Utility” policy is the way to go.

Grocery Stores. To take one specific case cited by Warren, how much innovation was there in the grocery store industry before Amazon bought Whole Foods? Since the acquisition, large grocery retailers, like Walmart and Kroger, have increased their investment in online services to better compete with the e-commerce champion. Many industry analysts expect grocery stores to use computer vision technology and artificial intelligence to improve the efficiency of check-out in the near future.

Smartphones. Imagine how forced neutrality would play out in the context of iPhones. If Apple can’t sell its own apps, it also can’t pre-install its own apps. A brand new iPhone with no apps — and even more importantly, no App Store — would be, well, just a phone, out of the box. How would users even access a site or app store from which to download independent apps? Would Apple be allowed to pre-install someone else’s apps? That’s discriminatory, too. Maybe it will be forced to offer a menu of all available apps in all categories (like the famously useless browser ballot screen demanded by the European Commission in its Microsoft antitrust case)? It’s hard to see how that benefits consumers — or even app developers.

Source: Free Software Magazine

Internet Search. Or take search. Calls for “search neutrality” have been bandied about for years. But most proponents of search neutrality fail to recognize that all Google’s search results entail bias in favor of its own offerings. As Geoff Manne and Josh Wright noted in 2011 at the height of the search neutrality debate:

[S]earch engines offer up results in the form not only of typical text results, but also maps, travel information, product pages, books, social media and more. To the extent that alleged bias turns on a search engine favoring its own maps, for example, over another firm’s, the allegation fails to appreciate that text results and maps are variants of the same thing, and efforts to restrain a search engine from offering its own maps is no different than preventing it from offering its own search results.

Nevermind that Google with forced non-discrimination likely means Google offering only the antiquated “ten blue links” search results page it started with in 1998 instead of the far more useful “rich” results it offers today; logically it would also mean Google somehow offering the set of links produced by any and all other search engines’ algorithms, in lieu of its own. If you think Google will continue to invest in and maintain the wealth of services it offers today on the strength of the profits derived from those search results, well, Elizabeth Warren is probably already your favorite politician.

Source: Web Design Museum  

And regulatory oversight of algorithmic content won’t just result in an impoverished digital experience; it will inevitably lead to an authoritarian one, as well:

Any agency granted a mandate to undertake such algorithmic oversight, and override or reconfigure the product of online services, thereby controls the content consumers may access…. This sort of control is deeply problematic… [because it saddles users] with a pervasive set of speech controls promulgated by the government. The history of such state censorship is one which has demonstrated strong harms to both social welfare and rule of law, and should not be emulated.

Digital Assistants. Consider also the veritable cage match among the tech giants to offer “digital assistants” and “smart home” devices with ever-more features at ever-lower prices. Today the allegedly non-existent competition among these companies is played out most visibly in this multi-featured market, comprising advanced devices tightly integrated with artificial intelligence, voice recognition, advanced algorithms, and a host of services. Under Warren’s nondiscrimination principle this market disappears. Each device can offer only a connectivity platform (if such a service is even permitted to be bundled with a physical device…) — and nothing more.

But such a world entails not only the end of an entire, promising avenue of consumer-benefiting innovation, it also entails the end of a promising avenue of consumer-benefiting competition. It beggars belief that anyone thinks consumers would benefit by forcing technology companies into their own silos, ensuring that the most powerful sources of competition for each other are confined to their own fiefdoms by order of law.

Breaking business models

Beyond the product-feature dimension, Sen. Warren’s proposal would be devastating for innovative business models. Why is Amazon Prime Video bundled with free shipping? Because the marginal cost of distribution for video is close to zero and bundling it with Amazon Prime increases the value proposition for customers. Why is almost every Google service free to users? Because Google’s business model is supported by ads, not monthly subscription fees. Each of the tech giants has carefully constructed an ecosystem in which every component reinforces the others. Sen. Warren’s plan would not only break up the companies, it would prohibit their business models — the ones that both created and continue to sustain these products. Such an outcome would manifestly harm consumers.

Both of Warren’s policy “solutions” are misguided and will lead to higher prices and less innovation. Her cause for alarm is built on a multitude of mistaken assumptions, but let’s address just a few (Warren in bold):

  • “Nearly half of all e-commerce goes through Amazon.” Yes, but it has only 5% of total retail in the United States. As my colleague Kristian Stout says, “the Internet is not a market; it’s a distribution channel.”
  • “Amazon has used its immense market power to force smaller competitors like Diapers.com to sell at a discounted rate.” The real story, as the founders of Diapers.com freely admitted, is that they sold diapers as what they hoped would be a loss leader, intending to build out sales of other products once they had a base of loyal customers:

And so we started with selling the loss leader product to basically build a relationship with mom. And once they had the passion for the brand and they were shopping with us on a weekly or a monthly basis that they’d start to fall in love with that brand. We were losing money on every box of diapers that we sold. We weren’t able to buy direct from the manufacturers.

Like all entrepreneurs, Diapers.com’s founders took a calculated risk that didn’t pay off as hoped. Amazon subsequently acquired the company (after it had declined a similar buyout offer from Walmart). (Antitrust laws protect consumers, not inefficient competitors). And no, this was not a case of predatory pricing. After many years of trying to make the business profitable as a subsidiary, Amazon shut it down in 2017.

  • “In the 1990s, Microsoft — the tech giant of its time — was trying to parlay its dominance in computer operating systems into dominance in the new area of web browsing. The federal government sued Microsoft for violating anti-monopoly laws and eventually reached a settlement. The government’s antitrust case against Microsoft helped clear a path for Internet companies like Google and Facebook to emerge.” The government’s settlement with Microsoft is not the reason Google and Facebook were able to emerge. Neither company entered the browser market at launch. Instead, they leapfrogged the browser entirely and created new platforms for the web (only later did Google create Chrome).

    Furthermore, if the Microsoft case is responsible for “clearing a path” for Google is it not also responsible for clearing a path for Google’s alleged depredations? If the answer is that antitrust enforcement should be consistently more aggressive in order to rein in Google, too, when it gets out of line, then how can we be sure that that same more-aggressive enforcement standard wouldn’t have curtailed the extent of the Microsoft ecosystem in which it was profitable for Google to become Google? Warren implicitly assumes that only the enforcement decision in Microsoft was relevant to Google’s rise. But Microsoft doesn’t exist in a vacuum. If Microsoft cleared a path for Google, so did every decision not to intervene, which, all combined, created the legal, business, and economic environment in which Google operates.

Warren characterizes Big Tech as a weight on the American economy. In fact, nothing could be further from the truth. These superstar companies are the drivers of productivity growth, all ranking at or near the top for most spending on research and development. And while data may not be the new oil, extracting value from it may require similar levels of capital expenditure. Last year, Big Tech spent as much or more on capex as the world’s largest oil companies:

Source: WSJ

Warren also faults Big Tech for a decline in startups, saying,

The number of tech startups has slumped, there are fewer high-growth young firms typical of the tech industry, and first financing rounds for tech startups have declined 22% since 2012.

But this trend predates the existence of the companies she criticizes, as this chart from Quartz shows:

The exact causes of the decline in business dynamism are still uncertain, but recent research points to a much more mundane explanation: demographics. Labor force growth has been declining, which has led to an increase in average firm age, nudging fewer workers to start their own businesses.

Furthermore, it’s not at all clear whether this is actually a decline in business dynamism, or merely a change in business model. We would expect to see the same pattern, for example, if would-be startup founders were designing their software for acquisition and further development within larger, better-funded enterprises.

Will Rinehart recently looked at the literature to determine whether there is indeed a “kill zone” for startups around Big Tech incumbents. One paper finds that “an increase in fixed costs explains most of the decline in the aggregate entrepreneurship rate.” Another shows an inverse correlation across 50 countries between GDP and entrepreneurship rates. Robert Lucas predicted these trends back in 1978, pointing out that productivity increases would lead to wage increases, pushing marginal entrepreneurs out of startups and into big companies.

It’s notable that many in the venture capital community would rather not have Sen. Warren’s “help”:

Arguably, it is also simply getting harder to innovate. As economists Nick Bloom, Chad Jones, John Van Reenen and Michael Webb argue,

just to sustain constant growth in GDP per person, the U.S. must double the amount of research effort searching for new ideas every 13 years to offset the increased difficulty of finding new ideas.

If this assessment is correct, it may well be that coming up with productive and profitable innovations is simply becoming more expensive, and thus, at the margin, each dollar of venture capital can fund less of it. Ironically, this also implies that larger firms, which can better afford the additional resources required to sustain exponential growth, are a crucial part of the solution, not the problem.

Warren believes that Big Tech is the cause of our social ills. But Americans have more trust in Amazon, Facebook, and Google than in the political institutions that would break them up. It would be wise for her to reflect on why that might be the case. By punishing our most valuable companies for past successes, Warren would chill competition and decrease returns to innovation.

Finally, in what can only be described as tragic irony, the most prominent political figure who shares Warren’s feelings on Big Tech is President Trump. Confirming the horseshoe theory of politics, far-left populism and far-right populism seem less distinguishable by the day. As our colleague Gus Hurwitz put it, with this proposal Warren is explicitly endorsing the unitary executive theory and implicitly endorsing Trump’s authority to direct his DOJ to “investigate specific cases and reach specific outcomes.” Which cases will he want to have investigated and what outcomes will he be seeking? More good questions that Senator Warren should be asking. The notion that competition, consumer welfare, and growth are likely to increase in such an environment is farcical.

Last year, Microsoft’s new CEO, Satya Nadella, seemed to break with the company’s longstanding “complain instead of compete” strategy to acknowledge that:

We’re going to innovate with a challenger mindset…. We’re not coming at this as some incumbent.

Among the first items on his agenda? Treating competing platforms like opportunities for innovation and expansion rather than obstacles to be torn down by any means possible:

We are absolutely committed to making our applications run what most people describe as cross platform…. There is no holding back of anything.

Earlier this week, at its Build Developer Conference, Microsoft announced its most significant initiative yet to bring about this reality: code built into its Windows 10 OS that will enable Android and iOS developers to port apps into the Windows ecosystem more easily.

To make this possible… Windows phones “will include an Android subsystem” meant to play nice with the Java and C++ code developers have already crafted to run on a rival’s operating system…. iOS developers can compile their Objective C code right from Microsoft’s Visual Studio, and turn it into a full-fledged Windows 10 app.

Microsoft also announced that its new browser, rebranded as “Edge,” will run Chrome and Firefox extensions, and that its Office suite would enable a range of third-party services to integrate with Office on Windows, iOS, Android and Mac.

Consumers, developers and Microsoft itself should all benefit from the increased competition that these moves are certain to facilitate.

Most obviously, more consumers may be willing to switch to phones and tablets with the Windows 10 operating system if they can continue to enjoy the apps and extensions they’ve come to rely on when using Google and Apple products. As one commenter said of the move:

I left Windows phone due to the lack of apps. I love the OS though, so if this means all my favorite apps will be on the platform I’ll jump back onto the WP bandwagon in a heartbeat.

And developers should invest more in development when they can expect additional revenue from yet another platform running their apps and extensions, with minimal additional development required.

It’s win-win-win. Except perhaps for Microsoft’s lingering regulatory strategy to hobble Google.

That strategy is built primarily on antitrust claims, most recently rooted in arguments that consumers, developers and competitors alike are harmed by Google’s conduct around Android which, it is alleged, makes it difficult for OS makers (like Cyanogen) and app developers (like Microsoft Bing) to compete.

But Microsoft’s interoperability announcements (along with a host of other rapidly evolving market characteristics) actually serve to undermine the antitrust arguments that Microsoft, through groups like FairSearch and ICOMP, has largely been responsible for pushing in the EU against Google/Android.

The reality is that, with innovations like the one Microsoft announced this week, Microsoft, Google and Apple (and Samsung, Nokia, Tizen, Cyanogen…) are competing more vigorously on several fronts. Such competition is evidence of a vibrant marketplace that is simply not in need of antitrust intervention.

The supreme irony in this is that such a move represents a (further) nail in the coffin of the supposed “applications barrier to entry” that was central to the US DOJ’s antitrust suit against Microsoft and that factors into the contemporary Android antitrust arguments against Google.

Frankly, the argument was never very convincing. Absent unjustified and anticompetitive efforts to prop up such a barrier, the “applications barrier to entry” is just a synonym for “big.” Admittedly, the DC Court of Appeals in Microsoft was careful — far more careful than the district court — to locate specific, narrow conduct beyond the mere existence of the alleged barrier that it believed amounted to anticompetitive monopoly maintenance. But central to the imposition of liability was the finding that some of Microsoft’s conduct deterred application developers from effectively accessing other platforms, without procompetitive justification.

With the implementation of initiatives like the one Microsoft has now undertaken in Windows 10, however, it appears that such concerns regarding Google and mobile app developers are unsupportable.

Of greatest significance to the current Android-related accusations against Google, the appeals court in Microsoft also reversed the district court’s finding of liability based on tying, noting in particular that:

If OS vendors without market power also sell their software bundled with a browser, the natural inference is that sale of the items as a bundle serves consumer demand and that unbundled sale would not.

Of course this is exactly what Microsoft Windows Phone (which decidedly does not have market power) does, suggesting that the bundling of mobile OS’s with proprietary apps is procompetitive.

Similarly, in reviewing the eventual consent decree in Microsoft, the appeals court upheld the conditions that allowed the integration of OS and browser code, and rejected the plaintiff’s assertion that a prohibition on such technological commingling was required by law.

The appeals court praised the district court’s recognition that an appropriate remedy “must place paramount significance upon addressing the exclusionary effect of the commingling, rather than the mere conduct which gives rise to the effect,” as well as the district court’s acknowledgement that “it is not a proper task for the Court to undertake to redesign products.”  Said the appeals court, “addressing the applications barrier to entry in a manner likely to harm consumers is not self-evidently an appropriate way to remedy an antitrust violation.”

Today, claims that the integration of Google Mobile Services (GMS) into Google’s version of the Android OS is anticompetitive are misplaced for the same reason:

But making Android competitive with its tightly controlled competitors [e.g., Apple iOS and Windows Phone] requires special efforts from Google to maintain a uniform and consistent experience for users. Google has tried to achieve this uniformity by increasingly disentangling its apps from the operating system (the opposite of tying) and giving OEMs the option (but not the requirement) of licensing GMS — a “suite” of technically integrated Google applications (integrated with each other, not the OS).  Devices with these proprietary apps thus ensure that both consumers and developers know what they’re getting.

In fact, some commenters have even suggested that, by effectively making the OS more “open,” Microsoft’s new Windows 10 initiative might undermine the Windows experience in exactly this fashion:

As a Windows Phone developer, I think this could easily turn into a horrible idea…. [I]t might break the whole Windows user experience Microsoft has been building in the past few years. Modern UI design is a different approach from both Android and iOS. We risk having a very unhomogenic [sic] store with lots of apps using different design patterns, and Modern UI is in my opinion, one of the strongest points of Windows Phone.

But just because Microsoft may be willing to take this risk doesn’t mean that any sensible conception of competition law and economics should require Google (or anyone else) to do so, as well.

Most significantly, Microsoft’s recent announcement is further evidence that both technological and contractual innovations can (potentially — the initiative is too new to know its effect) transform competition, undermine static market definitions and weaken theories of anticompetitive harm.

When apps and their functionality are routinely built into some OS’s or set as defaults; when mobile apps are also available for the desktop and are seamlessly integrated to permit identical functions to be performed on multiple platforms; and when new form factors like Apple MacBook Air and Microsoft Surface blur the lines between mobile and desktop, traditional, static anticompetitive theories are out the window (no pun intended).

Of course, it’s always been possible for new entrants to overcome network effects and scale impediments by a range of means. Microsoft itself has in the past offered to pay app developers to write for its mobile platform. Similarly, it offers inducements to attract users to its Bing search engine and it has devised several creative mechanisms to overcome its claimed scale inferiority in search.

A further irony (and market complication) is that now some of these apps — the ones with network effects of their own — threaten in turn to challenge the reigning mobile operating systems, exactly as Netscape was purported to threaten Microsoft’s OS (and lead to its anticompetitive conduct) back in the day. Facebook, for example, now offers not only its core social media function, but also search, messaging, video calls, mobile payments, photo editing and sharing, and other functionality that compete with many of the core functions built into mobile OS’s.

But the desire by apps like Facebook to expand their networks by being on multiple platforms, and the desire by these platforms to offer popular apps in order to attract users, ensure that Facebook is ubiquitous, even without any antitrust intervention. As Timothy Bresnahan, Joe Orsini and Pai-Ling Yin demonstrate:

(1) The distribution of app attractiveness to consumers is skewed, with a small minority of apps drawing the vast majority of consumer demand. (2) Apps which are highly demanded on one platform tend also to be highly demanded on the other platform. (3) These highly demanded apps have a strong tendency to multihome, writing for both platforms. As a result, the presence or absence of apps offers little reason for consumers to choose a platform. A consumer can choose either platform and have access to the most attractive apps.

Of course, even before Microsoft’s announcement, cross-platform app development was common, and third-party platforms like Xamarin facilitated cross-platform development. As Daniel O’Connor noted last year:

Even if one ecosystem has a majority of the market share, software developers will release versions for different operating systems if it is cheap/easy enough to do so…. As [Torsten] Körber documents [here], building mobile applications is much easier and cheaper than building PC software. Therefore, it is more common for programmers to write programs for multiple OSes…. 73 percent of apps developers design apps for at least two different mobiles OSes, while 62 percent support 3 or more.

Whether Microsoft’s interoperability efforts prove to be “perfect” or not (and some commenters are skeptical), they seem destined to at least further decrease the cost of cross-platform development, thus reducing any “application barrier to entry” that might impede Microsoft’s ability to compete with its much larger rivals.

Moreover, one of the most interesting things about the announcement is that it will enable Android and iOS apps to run not only on Windows phones, but also on Windows computers. Some 1.3 billion PCs run Windows. Forget Windows’ tiny share of mobile phone OS’s; that massive potential PC market (of which Microsoft still has 91 percent) presents an enormous ready-made market for mobile app developers that won’t be ignored.

It also points up the increasing absurdity of compartmentalizing these markets for antitrust purposes. As the relevant distinctions between mobile and desktop markets break down, the idea of Google (or any other company) “leveraging its dominance” in one market to monopolize a “neighboring” or “related” market is increasingly unsustainable. As I wrote earlier this week:

Mobile and social media have transformed search, too…. This revolution has migrated to the computer, which has itself become “app-ified.” Now there are desktop apps and browser extensions that take users directly to Google competitors such as Kayak, eBay and Amazon, or that pull and present information from these sites.

In the end, intentionally or not, Microsoft is (again) undermining its own case. And it is doing so by innovating and competing — those Schumpeterian concepts that were always destined to undermine antitrust cases in the high-tech sector.

If we’re lucky, Microsoft’s new initiatives are the leading edge of a sea change for Microsoft — a different and welcome mindset built on competing in the marketplace rather than at regulators’ doors.

Microsoft and its allies (the Microsoft-funded trade organization FairSearch and the prolific Google critic Ben Edelman) have been highly critical of Google’s use of “secret” contracts to license its proprietary suite of mobile apps, Google Mobile Services, to device manufacturers.

I’ve written about this at length before. As I said previously,

In order to argue that Google has an iron grip on Android, Edelman’s analysis relies heavily on ”secret” Google licensing agreements — “MADAs” (Mobile Application Distribution Agreements) — trotted out with such fanfare one might think it was the first time two companies ever had a written contract (or tried to keep it confidential).

For Edelman, these agreements “suppress competition” with “no plausible pro-consumer benefits.”

Microsoft (via another of its front groups, ICOMP) responded in predictable fashion.

While the hysteria over private, mutually beneficial contracts negotiated between sophisticated corporations was always patently absurd (who ever heard of sensitive commercial contracts that weren’t confidential?), Edelman’s claim that the Google MADAs operate to “suppress competition” with “no plausible pro-consumer benefits” was the subject of my previous post.

I won’t rehash all of those arguments here, but rather point to another indication that such contract terms are not anticompetitive: The recent revelation that they are used by others in the same industry — including, we’ve learned (to no one’s surprise), Microsoft.

Much like the release of Google’s MADAs in an unrelated lawsuit, the ongoing patent licensing contract dispute between Microsoft and Samsung has obliged the companies to release their own agreements. As it happens, they are at least as restrictive as the Google agreements criticized by Edelman — and, in at least one way, even more so.

Some quick background: As I said in my previous post, it is no secret that equipment manufacturers have the option to license a free set of Google apps (Google Mobile Services) and set Google as the default search engine. However, Google allows OEMs to preinstall other competing search engines as they see fit. Indeed, no matter which applications come pre-installed, the user can easily download Yahoo!, Microsoft’s Bing, Yandex, Naver, DuckDuckGo and other search engines for free from the Google Play Store.

But Microsoft has sought to impose even-more stringent constraints on its device partners. One of the agreements disclosed in the Microsoft-Samsung contract litigation, the “Microsoft-Samsung Business Collaboration Agreement,” requires Samsung to set Bing as the search default for all Windows phones and precludes Samsung from pre-installing any other search applications on Windows-based phones. Samsung must configure all of its Windows Phones to use Microsoft Search Services as the

default Web Search  . . . in all instances on such properties where Web Search can be launched or a Query submitted directly by a user (including by voice command) or automatically (including based on location or context).

Interestingly, the agreement also requires Samsung to install Microsoft Search Services as a non-default search option on all of Samsung’s non-Microsoft Android devices (to the extent doing so does not conflict with other contracts).

Of course, the Microsoft-Samsung contract is expressly intended to remain secret: Its terms are declared to be “Confidential Information,” prohibiting Samsung from making “any public statement regarding the specific terms of [the] Agreement” without Microsoft’s consent.

Meanwhile, the accompanying Patent License Agreement provides that

all terms and conditions in this Agreement, including the payment amount [and the] specific terms and conditions in this Agreement (including, without limitation, the amount of any fees and any other amounts payable to Microsoft under this Agreement) are confidential and shall not be disclosed by either Party.

In addition to the confidentiality terms spelled out in these two documents, there is a separate Non-Disclosure Agreement—to further dispel any modicum of doubt on that score. Perhaps this is why Edelman was unaware of the ubiquity of such terms (and their confidentiality) when he issued his indictment of the Google agreements but neglected to mention Microsoft’s own.

In light of these revelations, Edelman’s scathing contempt for the “secrecy” of Google’s MADAs seems especially disingenuous:

MADA secrecy advances Google’s strategic objectives. By keeping MADA restrictions confidential and little-known, Google can suppress the competitive response…Relatedly, MADA secrecy helps prevent standard market forces from disciplining Google’s restriction. Suppose consumers understood that Google uses tying and full-line-forcing to prevent manufacturers from offering phones with alternative apps, which could drive down phone prices. Then consumers would be angry and would likely make their complaints known both to regulators and to phone manufacturers. Instead, Google makes the ubiquitous presence of Google apps and the virtual absence of competitors look like a market outcome, falsely suggesting that no one actually wants to have or distribute competing apps.

If, as Edelman claims, Google’s objectionable contract terms “serve both to help Google expand into areas where competition could otherwise occur, and to prevent competitors from gaining traction,” then what are the very same sorts of terms doing in Microsoft’s contracts with Samsung? The revelation that Microsoft employs contracts similar to — and similarly confidential to — Google’s highlights the hypocrisy of claims that such contracts serve anticompetitive aims.

In fact, as I discussed in my previous post, there are several pro-competitive justifications for such agreements, whether undertaken by a market leader or a newer entrant intent on catching up. Most obviously, such contracts help to ensure that consumers receive the user experience they demand on devices manufactured by third parties. But more to the point, the fact that such arrangements permeate the market and are adopted by both large and small competitors is strong indication that such terms are pro-competitive.

At the very least, they absolutely demonstrate that such practices do not constitute prima facie evidence of the abuse of market power.

[Reminder: See the “Disclosures” page above. ICLE has received financial support from Google in the past, and I formerly worked at Microsoft. Of course, the views here are my own, although I encourage everyone to agree with them.]

Microsoft wants you to believe that Google’s business practices stifle competition and harm consumers. Again.

The latest volley in its tiresome and ironic campaign to bludgeon Google with the same regulatory club once used against Microsoft itself is the company’s effort to foment an Android-related antitrust case in Europe.

In a recent polemicMicrosoft consultant (and business school professor) Ben Edelman denounces Google for requiring that, if device manufacturers want to pre-install key Google apps on Android devices, they “must install all the apps Google specifies, with the prominence Google requires, including setting these apps as defaults where Google instructs.” Edelman trots out gasp-worthy “secret” licensing agreements that he claims support his allegation (more on this later).

Similarly, a recent Wall Street Journal article, “Android’s ‘Open’ System Has Limits,” cites Edelman’s claim that limits on the licensing of Google’s proprietary apps mean that the Android operating system isn’t truly open source and comes with “strings attached.”

In fact, along with the Microsoft-funded trade organization FairSearch, Edelman has gone so far as to charge that this “tying” constitutes an antitrust violation. It is this claim that Microsoft and a network of proxies brought to the Commission when their efforts to manufacture a search-neutrality-based competition case against Google failed.

But before getting too caught up in the latest round of anti-Google hysteria, it’s worth noting that the Federal Trade Commission has already reviewed these claims. After a thorough, two-year inquiry, the FTC found the antitrust arguments against Google to be without merit. The South Korea Fair Trade Commission conducted its own two year investigation into Google’s Android business practices and dismissed the claims before it as meritless, as well.

Taking on Edelman and FairSearch with an exhaustive scholarly analysis, German law professor Torsten Koerber recently assessed the nature of competition among mobile operating systems and concluded that:

(T)he (EU) Fairsearch complaint ultimately does not aim to protect competition or consumers, as it pretends to. It rather strives to shelter Microsoft from competition by abusing competition law to attack Google’s business model and subvert competition.

It’s time to take a step back and consider the real issues at play.

In order to argue that Google has an iron grip on Android, Edelman’s analysis relies heavily on ”secret” Google licensing agreements — “MADAs” (Mobile Application Distribution Agreements) — trotted out with such fanfare one might think it was the first time two companies ever had a written contract (or tried to keep it confidential).

For Edelman, these agreements “suppress competition” with “no plausible pro-consumer benefits.” He writes, “I see no way to reconcile the MADA restrictions with [Android openness].”

Conveniently, however, Edelman neglects to cite to Section 2.6 of the MADA:

The parties will create an open environment for the Devices by making all Android Products and Android Application Programming Interfaces available and open on the Devices and will take no action to limit or restrict the Android platform.

Professor Korber’s analysis provides a straight-forward explanation of the relationship between Android and its OEM licensees:

Google offers Android to OEMs on a royalty-free basis. The licensees are free to download, distribute and even modify the Android code as they like. OEMs can create mobile devices that run “pure” Android…or they can apply their own user interfaces (IO) and thereby hide most of the underlying Android system (e.g. Samsung’s “TouchWiz” or HTC’s “Sense”). OEMs make ample use of this option.

The truth is that the Android operating system remains, as ever, definitively open source — but Android’s openness isn’t really what the fuss is about. In this case, the confusion (or obfuscation) stems from the casual confounding of Google Apps with the Android Operating System. As we’ll see, they aren’t the same thing.

Consider Amazon, which pre-loads no Google applications at all on its Kindle Fire and Fire Phone. Amazon’s version of Android uses Microsoft’s Bing as the default search engineNokia provides mapping services, and the app store is Amazon’s own.

Still, Microsoft’s apologists continue to claim that Android licensees can’t choose to opt out of Google’s applications suite — even though, according to a new report from ABI Research, 20 percent of smartphones shipped between May and July 2014 were based on a “Google-less” version of the Android OS. And that number is consistently increasing: Analysts predict that by 2015, 30 percent of Android phones won’t access Google Services.

It’s true that equipment manufacturers who choose the Android operating system have the option to include the suite of integrated, proprietary Google apps and services licensed (royalty-free) under the name Google Mobile Services (GMS). GMS includes Google Search, Maps, Calendar, YouTube and other apps that together define the “Google Android experience” that users know and love.

But Google Android is far from the only Android experience.

Even if a manufacturer chooses to license Google’s apps suite, Google’s terms are not exclusive. Handset makers are free to install competing applications, including other search engines, map applications or app stores.

Although Google requires that Google Search be made easily accessible (hardly a bad thing for consumers, as it is Google Search that finances the development and maintenance of all of the other (free) apps from which Google otherwise earns little to no revenue), OEMs and users alike can (and do) easily install and access other search engines in numerous ways. As Professor Korber notes:

The standard MADA does not entail any exclusivity for Google Search nor does it mandate a search default for the web browser.

Regardless, integrating key Google apps (like Google Search and YouTube) with other apps the company offers (like Gmail and Google+) is an antitrust problem only if it significantly forecloses competitors from these apps’ markets compared to a world without integrated Google apps, and without pro-competitive justification. Neither is true, despite the unsubstantiated claims to the contrary from Edelman, FairSearch and others.

Consumers and developers expect and demand consistency across devices so they know what they’re getting and don’t have to re-learn basic functions or program multiple versions of the same application. Indeed, Apple’s devices are popular in part because Apple’s closed iOS provides a predictable, seamless experience for users and developers.

But making Android competitive with its tightly controlled competitors requires special efforts from Google to maintain a uniform and consistent experience for users. Google has tried to achieve this uniformity by increasingly disentangling its apps from the operating system (the opposite of tying) and giving OEMs the option (but not the requirement) of licensing GMS — a “suite” of technically integrated Google applications (integrated with each other, not the OS).  Devices with these proprietary apps thus ensure that both consumers and developers know what they’re getting.

Unlike Android, Apple prohibits modifications of its operating system by downstream partners and users, and completely controls the pre-installation of apps on iOS devices. It deeply integrates applications into iOS, including Apple Maps, iTunes, Siri, Safari, its App Store and others. Microsoft has copied Apple’s model to a large degree, hard-coding its own applications (including Bing, Windows Store, Skype, Internet Explorer, Bing Maps and Office) into the Windows Phone operating system.

In the service of creating and maintaining a competitive platform, each of these closed OS’s bakes into its operating system significant limitations on which third-party apps can be installed and what they can (and can’t) do. For example, neither platform permits installation of a third-party app store, and neither can be significantly customized. Apple’s iOS also prohibits users from changing default applications — although the soon-to-be released iOS 8 appears to be somewhat more flexible than previous versions.

In addition to pre-installing a raft of their own apps and limiting installation of other apps, both Apple and Microsoft enable greater functionality for their own apps than they do the third-party apps they allow.

For example, Apple doesn’t make available for other browsers (like Google’s Chrome) all the JavaScript functionality that it does for Safari, and it requires other browsers to use iOS Webkit instead of their own web engines. As a result there are things that Chrome can’t do on iOS that Safari and only Safari can do, and Chrome itself is hamstrung in implementing its own software on iOS. This approach has led Mozilla to refuse to offer its popular Firefox browser for iOS devices (while it has no such reluctance about offering it on Android).

On Windows Phone, meanwhile, Bing is integrated into the OS and can’t be removed. Only in markets where Bing is not supported (and with Microsoft’s prior approval) can OEMs change the default search app from Bing. While it was once possible to change the default search engine that opens in Internet Explorer (although never from the hardware search button), the Windows 8.1 Hardware Development Notes, updated July 22, 2014, state:

By default, the only search provider included on the phone is Bing. The search provider used in the browser is always the same as the one launched by the hardware search button.

Both Apple iOS and Windows Phone tightly control the ability to use non-default apps to open intents sent from other apps and, in Windows especially, often these linkages can’t be changed.

As a result of these sorts of policies, maintaining the integrity — and thus the brand — of the platform is (relatively) easy for closed systems. While plenty of browsers are perfectly capable of answering an intent to open a web page, Windows Phone can better ensure a consistent and reliable experience by forcing Internet Explorer to handle the operation.

By comparison, Android, with or without Google Mobile Services, is dramatically more open, more flexible and customizable, and more amenable to third-party competition. Even the APIs that it uses to integrate its apps are open to all developers, ensuring that there is nothing that Google apps are able to do that non-Google apps with the same functionality are prevented from doing.

In other words, not just Gmail, but any email app is permitted to handle requests from any other app to send emails; not just Google Calendar but any calendar app is permitted to handle requests from any other app to accept invitations.

In no small part because of this openness and flexibility, current reports indicate that Android OS runs 85 percent of mobile devices worldwide. But it is OEM giant Samsung, not Google, that dominates the market, with a 65 percent share of all Android devices. Competition is rife, however, especially in emerging markets. In fact, according to one report, “Chinese and Indian vendors accounted for the majority of smartphone shipments for the first time with a 51% share” in 2Q 2014.

As he has not been in the past, Edelman is at least nominally circumspect in his unsubstantiated legal conclusions about Android’s anticompetitive effect:

Applicable antitrust law can be complicated: Some ties yield useful efficiencies, and not all ties reduce welfare.

Given Edelman’s connections to Microsoft and the realities of the market he is discussing, it could hardly be otherwise. If every integration were an antitrust violation, every element of every operating system — including Apple’s iOS as well as every variant of Microsoft’s Windows — should arguably be the subject of a government investigation.

In truth, Google has done nothing more than ensure that its own suite of apps functions on top of Android to maintain what Google sees as seamless interconnectivity, a high-quality experience for users, and consistency for application developers — while still allowing handset manufacturers room to innovate in a way that is impossible on other platforms. This is the very definition of pro-competitive, and ultimately this is what allows the platform as a whole to compete against its far more vertically integrated alternatives.

Which brings us back to Microsoft. On the conclusion of the FTC investigation in January 2013, a GigaOm exposé on the case had this to say:

Critics who say Google is too powerful have nagged the government for years to regulate the company’s search listings. But today the critics came up dry….

The biggest loser is Microsoft, which funded a long-running cloak-and-dagger lobbying campaign to convince the public and government that its arch-enemy had to be regulated….

The FTC is also a loser because it ran a high profile two-year investigation but came up dry.

EU regulators, take note.

I have been a critic of the Federal Trade Commission’s investigation into Google since it was a gleam in its competitors’ eyes—skeptical that there was any basis for a case, and concerned about the effect on consumers, innovation and investment if a case were brought.

While it took the Commission more than a year and a half to finally come to the same conclusion, ultimately the FTC had no choice but to close the case that was a “square peg, round hole” problem from the start.

Now that the FTC’s investigation has concluded, an examination of the nature of the markets in which Google operates illustrates why this crusade was ill-conceived from the start. In short, the “realities on the ground” strongly challenged the logic and relevance of many of the claims put forth by Google’s critics. Nevertheless, the politics are such that their nonsensical claims continue, in different forums, with competitors continuing to hope that they can wrangle a regulatory solution to their competitive problem.

The case against Google rested on certain assumptions about the functioning of the markets in which Google operates. Because these are tech markets, constantly evolving and complex, most assumptions about the scope of these markets and competitive effects within them are imperfect at best. But there are some attributes of Google’s markets—conveniently left out of the critics’ complaints— that, properly understood, painted a picture for the FTC that undermined the basic, essential elements of an antitrust case against the company.

That case was seriously undermined by the nature and extent of competition in the markets the FTC was investigating. Most importantly, casual references to a “search market” and “search advertising market” aside, Google actually competes in the market for targeted eyeballs: a market aimed to offer up targeted ads to interested users. Search offers a valuable opportunity for targeting an advertiser’s message, but it is by no means alone: there are myriad (and growing) other mechanisms to access consumers online.

Consumers use Google because they are looking for information — but there are lots of ways to do that. There are plenty of apps that circumvent Google, and consumers are increasingly going to specialized sites to find what they are looking for. The search market, if a distinct one ever existed, has evolved into an online information market that includes far more players than those who just operate traditional search engines.

We live in a world where what prevails today won’t prevail tomorrow. The tech industry is constantly changing, and it is the height of folly (and a serious threat to innovation and consumer welfare) to constrain the activities of firms competing in such an environment by pigeonholing the market. In other words, in a proper market, Google looks significantly less dominant. More important, perhaps, as search itself evolves, and as Facebook, Amazon and others get into the search advertising game, Google’s strong position even in the overly narrow “search market” is far from unassailable.

This is progress — creative destruction — not regress, and such changes should not be penalized.

Another common refrain from Google’s critics was that Google’s access to immense amounts of data used to increase the quality of its targeting presented a barrier to competition that no one else could match, thus protecting Google’s unassailable monopoly. But scale comes in lots of ways.

Even if scale doesn’t come cheaply, the fact that challenging firms might have to spend the same (or, in this case, almost certainly less) Google did in order to replicate its success is not a “barrier to entry” that requires an antitrust remedy. Data about consumer interests is widely available (despite efforts to reduce the availability of such data in the name of protecting “privacy”—which might actually create barriers to entry). It’s never been the case that a firm has to generate its own inputs for every product it produces — and there’s no reason to suggest search or advertising is any different.

Additionally, to defend a claim of monopolization, it is generally required to show that the alleged monopolist enjoys protection from competition through barriers to entry. In Google’s case, the barriers alleged were illusory. Bing and other recent entrants in the general search business have enjoyed success precisely because they were able to obtain the inputs (in this case, data) necessary to develop competitive offerings.

Meanwhile unanticipated competitors like Facebook, Amazon, Twitter and others continue to knock at Google’s metaphorical door, all of them entering into competition with Google using data sourced from creative sources, and all of them potentially besting Google in the process. Consider, for example, Amazon’s recent move into the targeted advertising market, competing with Google to place ads on websites across the Internet, but with the considerable advantage of being able to target ads based on searches, or purchases, a user has made on Amazon—the world’s largest product search engine.

Now that the investigation has concluded, we come away with two major findings. First, the online information market is dynamic, and it is a fool’s errand to identify the power or significance of any player in these markets based on data available today — data that is already out of date between the time it is collected and the time it is analyzed.

Second, each development in the market – whether offered by Google or its competitors and whether facilitated by technological change or shifting consumer preferences – has presented different, novel and shifting opportunities and challenges for companies interested in attracting eyeballs, selling ad space and data, earning revenue and obtaining market share. To say that Google dominates “search” or “online advertising” missed the mark precisely because there was simply nothing especially antitrust-relevant about either search or online advertising. Because of their own unique products, innovations, data sources, business models, entrepreneurship and organizations, all of these companies have challenged and will continue to challenge the dominant company — and the dominant paradigm — in a shifting and evolving range of markets.

It would be churlish not to give credit where credit is due—and credit is due the FTC. I continue to think the investigation should have ended before it began, of course, but the FTC is to be commended for reaching this result amidst an overwhelming barrage of pressure to “do something.”

But there are others in this sadly politicized mess for whom neither the facts nor the FTC’s extensive investigation process (nor the finer points of antitrust law) are enough. Like my four-year-old daughter, they just “want what they want,” and they will stamp their feet until they get it.

While competitors will be competitors—using the regulatory system to accomplish what they can’t in the market—they do a great disservice to the very customers they purport to be protecting in doing so. As Milton Friedman famously said, in decrying “The Business Community’s Suicidal Impulse“:

As a believer in the pursuit of self-interest in a competitive capitalist system, I can’t blame a businessman who goes to Washington and tries to get special privileges for his company.… Blame the rest of us for being so foolish as to let him get away with it.

I do blame businessmen when, in their political activities, individual businessmen and their organizations take positions that are not in their own self-interest and that have the effect of undermining support for free private enterprise. In that respect, businessmen tend to be schizophrenic. When it comes to their own businesses, they look a long time ahead, thinking of what the business is going to be like 5 to 10 years from now. But when they get into the public sphere and start going into the problems of politics, they tend to be very shortsighted.

Ironically, Friedman was writing about the antitrust persecution of Microsoft by its rivals back in 1999:

Is it really in the self-interest of Silicon Valley to set the government on Microsoft? Your industry, the computer industry, moves so much more rapidly than the legal process, that by the time this suit is over, who knows what the shape of the industry will be.… [Y]ou will rue the day when you called in the government.

Among Microsoft’s chief tormentors was Gary Reback. He’s spent the last few years beating the drum against Google—but singing from the same song book. Reback recently told the Washington Post, “if a settlement were to be proposed that didn’t include search, the institutional integrity of the FTC would be at issue.” Actually, no it wouldn’t. As a matter of fact, the opposite is true. It’s hard to imagine an agency under more pressure, from more quarters (including the Hill), to bring a case around search. Doing so would at least raise the possibility that it were doing so because of pressure and not the merits of the case. But not doing so in the face of such pressure? That can almost only be a function of institutional integrity.

As another of Google’s most-outspoken critics, Tom Barnett, noted:

[The FTC has] really put [itself] in the position where they are better positioned now than any other agency in the U.S. is likely to be in the immediate future to address these issues. I would encourage them to take the issues as seriously as they can. To the extent that they concur that Google has violated the law, there are very good reasons to try to address the concerns as quickly as possible.

As Barnett acknowledges, there is no question that the FTC investigated these issues more fully than anyone. The agency’s institutional culture and its committed personnel, together with political pressure, media publicity and endless competitor entreaties, virtually ensured that the FTC took the issues “as seriously as they [could]” – in fact, as seriously as anyone else in the world. There is simply no reasonable way to criticize the FTC for being insufficiently thorough in its investigation and conclusions.

Nor is there a basis for claiming that the FTC is “standing in the way” of the courts’ ability to review the issue, as Scott Cleland contends in an op-ed in the Hill. Frankly, this is absurd. Google’s competitors have spent millions pressuring the FTC to bring a case. But the FTC isn’t remotely the only path to the courts. As Commissioner Rosch admonished,

They 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.

Competitors have already beaten a path to the DOJ’s door, and investigations are still pending in the EU, Argentina, several US states, and elsewhere. That the agency that has leveled the fullest and best-informed investigation has concluded that there is no “there” there should give these authorities pause, but, sadly for consumers who would benefit from an end to competitors’ rent seeking, nothing the FTC has done actually prevents courts or other regulators from having a crack at Google.

The case against Google has received more attention from the FTC than the merits of the case ever warranted. It is time for Google’s critics and competitors to move on.

[Crossposted at Forbes.com]

As the Google antitrust discussion heats up on its way toward some culmination at the FTC, I thought it would be helpful to address some of the major issues raised in the case by taking a look at what’s going on in the market(s) in which Google operates. To this end, I have penned a lengthy document — The Market Realities that Undermine the Antitrust Case Against Google — highlighting some of the most salient aspects of current market conditions and explaining how they fit into the putative antitrust case against Google.

While not dispositive, these “realities on the ground” do strongly challenge the logic and thus the relevance of many of the claims put forth by Google’s critics. The case against Google rests on certain assumptions about how the markets in which it operates function. But these are tech markets, constantly evolving and complex; most assumptions (and even “conclusions” based on data) are imperfect at best. In this case, the conventional wisdom with respect to Google’s alleged exclusionary conduct, the market in which it operates (and allegedly monopolizes), and the claimed market characteristics that operate to protect its position (among other things) should be questioned.

The reality is far more complex, and, properly understood, paints a picture that undermines the basic, essential elements of an antitrust case against the company.

The document first assesses the implications for Market Definition and Monopoly Power of these competitive realities. Of note:

  • Users use Google because they are looking for information — but there are lots of ways to do that, and “search” is not so distinct that a “search market” instead of, say, an “online information market” (or something similar) makes sense.
  • Google competes in the market for targeted eyeballs: a market aimed to offer up targeted ads to interested users. Search is important in this, but it is by no means alone, and there are myriad (and growing) other mechanisms to access consumers online.
  • To define the relevant market in terms of the particular mechanism that prevails to accomplish the matching of consumers and advertisers does not reflect the substitutability of other mechanisms that do the same thing but simply aren’t called “search.”
  • In a world where what prevails today won’t — not “might not,” but won’t — prevail tomorrow, it is the height of folly (and a serious threat to innovation and consumer welfare) to constrain the activities of firms competing in such an environment by pigeonholing the market.
  • In other words, in a proper market, Google looks significantly less dominant. More important, perhaps, as search itself evolves, and as Facebook, Amazon and others get into the search advertising game, Google’s strong position even in the overly narrow “search” market looks far from unassailable.

Next I address Anticompetitive Harm — how the legal standard for antitrust harm is undermined by a proper understanding of market conditions:

  • Antitrust law doesn’t require that Google or any other large firm make life easier for competitors or others seeking to access resources owned by these firms.
  • Advertisers are increasingly targeting not paid search but rather social media to reach their target audiences.
  • But even for those firms that get much or most of their traffic from “organic” search, this fact isn’t an inevitable relic of a natural condition over which only the alleged monopolist has control; it’s a business decision, and neither sensible policy nor antitrust law is set up to protect the failed or faulty competitor from himself.
  • Although it often goes unremarked, paid search’s biggest competitor is almost certainly organic search (and vice versa). Nextag may complain about spending money on paid ads when it prefers organic, but the real lesson here is that the two are substitutes — along with social sites and good old-fashioned email, too.
  • It is incumbent upon critics to accurately assess the “but for” world without the access point in question. Here, Nextag can and does use paid ads to reach its audience (and, it is important to note, did so even before it claims it was foreclosed from Google’s users). But there are innumerable other avenues of access, as well. Some may be “better” than others; some that may be “better” now won’t be next year (think how links by friends on Facebook to price comparisons on Nextag pages could come to dominate its readership).
  • This is progress — creative destruction — not regress, and such changes should not be penalized.

Next I take on the perennial issue of Error Costs and the Risks of Erroneous Enforcement arising from an incomplete and inaccurate understanding of Google’s market:

  • Microsoft’s market position was unassailable . . . until it wasn’t — and even at the time, many could have told you that its perceived dominance was fleeting (and many did).
  • Apple’s success (and the consumer value it has created), while built in no small part on its direct competition with Microsoft and the desktop PCs which run it, was primarily built on a business model that deviated from its once-dominant rival’s — and not on a business model that the DOJ’s antitrust case against the company either facilitated or anticipated.
  • Microsoft and Google’s other critic-competitors have more avenues to access users than ever before. Who cares if users get to these Google-alternatives through their devices instead of a URL? Access is access.
  • It isn’t just monopolists who prefer not to innovate: their competitors do, too. To the extent that Nextag’s difficulties arise from Google innovating, it is Nextag, not Google, that’s working to thwart innovation and fighting against dynamism.
  • Recall the furor around Google’s purchase of ITA, a powerful cautionary tale. As of September 2012, Google ranks 7th in visits among metasearch travel sites, with a paltry 1.4% of such visits. Residing at number one? FairSearch founding member, Kayak, with a whopping 61%. And how about FairSearch member Expedia? Currently, it’s the largest travel company in the world, and it has only grown in recent years.

The next section addresses the essential issue of Barriers to Entry and their absence:

  • One common refrain from Google’s critics is that Google’s access to immense amounts of data used to increase the quality of its targeting presents a barrier to competition that no one else can match, thus protecting Google’s unassailable monopoly. But scale comes in lots of ways.
  • It’s never been the case that a firm has to generate its own inputs into every product it produces — and there is no reason to suggest search/advertising is any different.
  • Meanwhile, Google’s chief competitor, Microsoft, is hardly hurting for data (even, quite creatively, culling data directly from Google itself), despite its claims to the contrary. And while regulators and critics may be looking narrowly and statically at search data, Microsoft is meanwhile sitting on top of copious data from unorthodox — and possibly even more valuable — sources.
  • To defend a claim of monopolization, it is generally required to show that the alleged monopolist enjoys protection from competition through barriers to entry. In Google’s case, the barriers alleged are illusory.

The next section takes on recent claims revolving around The Mobile Market and Google’s position (and conduct) there:

  • If obtaining or preserving dominance is simply a function of cash, Microsoft is sitting on some $58 billion of it that it can devote to that end. And JP Morgan Chase would be happy to help out if it could be guaranteed monopoly returns just by throwing its money at Bing. Like data, capital is widely available, and, also like data, it doesn’t matter if a company gets it from selling search advertising or from selling cars.
  • Advertisers don’t care whether the right (targeted) user sees their ads while playing Angry Birds or while surfing the web on their phone, and users can (and do) seek information online (and thus reveal their preferences) just as well (or perhaps better) through Wikipedia’s app as via a Google search in a mobile browser.
  • Moreover, mobile is already (and increasingly) a substitute for the desktop. Distinguishing mobile search from desktop search is meaningless when users use their tablets at home, perform activities that they would have performed at home away from home on mobile devices simply because they can, and where users sometimes search for places to go (for example) on mobile devices while out and sometimes on their computers before they leave.
  • Whatever gains Google may have made in search from its spread into the mobile world is likely to be undermined by the massive growth in social connectivity it has also wrought.
  • Mobile is part of the competitive landscape. All of the innovations in mobile present opportunities for Google and its competitors to best each other, and all present avenues of access for Google and its competitors to reach consumers.

The final section Concludes.

The lessons from all of this? There are two. First, these are dynamic markets, and it is a fool’s errand to identify the power or significance of any player in these markets based on data available today — data that is already out of date between the time it is collected and the time it is analyzed.

Second, each of these developments has presented different, novel and shifting opportunities and challenges for firms interested in attracting eyeballs, selling ad space and data, earning revenue and obtaining market share. To say that Google dominates “search” or “online advertising” misses the mark precisely because there is simply nothing especially antitrust-relevant about either search or online advertising. Because of their own unique products, innovations, data sources, business models, entrepreneurship and organizations, all of these companies have challenged and will continue to challenge the dominant company — and the dominant paradigm — in a shifting and evolving range of markets.

Perhaps most important is this:

Competition with Google may not and need not look exactly like Google itself, and some of this competition will usher in innovations that Google itself won’t be able to replicate. But this doesn’t make it any less competitive.  

Competition need not look identical to be competitive — that’s what innovation is all about. Just ask those famous buggy whip manufacturers.

On Tuesday the European Commission opened formal proceedings against Motorola Mobility based on its patent licensing practices surrounding some of its core cellular telephony, Internet video and Wi-fi technology. The Commission’s concerns, echoing those raised by Microsoft and Apple, center on Motorola’s allegedly high royalty rates and its efforts to use injunctions to enforce the “standards-essential patents” at issue.

As it happens, this development is just the latest, like so many in the tech world these days, in Microsoft’s ongoing regulatory, policy and legal war against Google, which announced in August it was planning to buy Motorola.

Microsoft’s claim and the Commission’s concern that Motorola’s royalty offer was, in Microsoft’s colorful phrase, “so over-reaching that no rational company could ever have accepted it or even viewed it as a legitimate offer,” is misplaced. Motorola is seeking a royalty rate for its patents that is seemingly in line with customary rates.

In fact, Microsoft’s claim that Motorola’s royalty ask is extraordinary is refuted by its own conduct. As one commentator notes:

Microsoft complained that it might have to pay a tribute of up to $22.50 for every $1,000 laptop sold, and suggested that it might be fairer to pay just a few cents. This is the firm that is thought to make $10 to $15 from every $500 Android device that is sold, and for a raft of trivial software patents, not standard essential ones.

Seemingly forgetting this, Microsoft criticizes Motorola’s royalty ask on its 50 H.264 video codec patents by comparing it to the amount Microsoft pays for more than 2000 other patents in the video codec’s patent pool, claiming that the former would cost it $4 billion while the latter costs it only $6.5 million. But this is comparing apples and oranges. It is not surprising to find some patents worth orders of magnitude more than others and to find that license rates are a complicated function of the contracting parties’ particular negotiating positions and circumstances. It is no more inherently inappropriate for Microsoft to rake in 2-3% of the price of every Nook Barnes and Nobles sells than it is for Motorola to net 2.25% of the price of each Windows-operated computer sold – which is the royalty rate Motorola is seeking and which Microsoft wants declared anticompetitive out of hand.

It’s not clear how much negotiation, if any, has taken place between the companies over the terms of Microsoft’s licensing of Motorola’s patents, but what is clear is that Microsoft’s complaint, echoed by the EC, is based on the size of Motorola’s initial royalty demand and its use of a legal injunction to enforce its patent rights. Unfortunately, neither of these is particularly problematic, especially in an environment where companies like Microsoft and Apple aggressively wield exactly such tools to gain a competitive negotiating edge over their own competitors.

The court adjudicating this dispute in the ongoing litigation in U.S. district court in Washington has thus far agreed. The court denied Microsoft’s request for summary judgment that Motorola’s royalty demand violated its RAND commitment, noting its disagreement with Microsoft’s claim that “it is always facially unreasonable for a proposed royalty rate to result in a larger royalty payment for products that have higher end prices. Indeed, Motorola has previously entered into licensing agreements for its declared-essential patents at royalty rates similar to those offered to Microsoft and with royalty rates based on the price of the end product.”

The staggering aggregate numbers touted by Microsoft in its complaint and repeated by bloggers and journalists the world over are not a function of Motorola seeking an exorbitant royalty but rather a function Microsoft’s selling a lot of operating systems and earning a lot of revenue doing it. While the aggregate number ($4 billion, according to Microsoft) is huge, it is, as the court notes, based on a royalty rate that is in line with similar agreements.

The court also takes issue with Microsoft’s contention that the mere offer of allegedly unreasonable terms constitutes a breach of Motorola’s RAND commitment to license its patents on commercially reasonable terms. Quite sensibly, the court notes:

[T]he court is mindful that at the time of an initial offer, it is difficult for the offeror to know what would in fact constitute RAND terms for the offeree. Thus, what may appear to be RAND terms from the offeror’s perspective may be rejected out-of-pocket as non-RAND terms by the offeree. Indeed, it would appear that at any point in the negotiation process, the parties may have a genuine disagreement as to what terms and conditions of a license constitute RAND under the parties’ unique circumstances.

Resolution of such an impasse may ultimately fall to the courts. Thus the royalty rate issue is in fact closely related to the second issue raised by the EC’s investigation: the use or threat of injunction to enforce standards-essential patents.

While some scholars and many policy advocates claim that injunctions in the standards context raise the specter of costly hold-ups (patent holders extracting not only the market value of their patent, but also a portion of the costs that the infringer would incur if it had to implement its technology without the patent), there is no empirical evidence supporting the claim that patent holdup is a pervasive problem.

And the theory doesn’t comfortably support such a claim, either. Motorola, for example, has no interest in actually enforcing an injunction: Doing so is expensive and, notably, not nearly as good for the bottom line as actually receiving royalties from an agreed-upon contract. Instead, injunctions are, just like the more-attenuated liability suit for patent infringement, a central aspect of our intellectual property system, the means by which innovators and their financiers can reasonably expect a return on their substantial up-front investments in technology development.

Moreover, and apparently unbeknownst to those who claim that injunctions are the antithesis of negotiated solutions to licensing contests, the threat of injunction actually facilitates efficient transacting. Injunctions provide clearer penalties than damage awards for failing to reach consensus and are thus better at getting both parties on to the table with matched expectations. And this is especially true in the standards-setting context where the relevant parties are generally repeat players and where they very often have both patents to license and the need to license patents from the standard—both of which help to induce everyone to come to the table, lest they find themselves closed off from patents essential to their own products.

Antitrust intervention in standard setting negotiations based on an allegedly high initial royalty rate offer or the use of an injunction to enforce a patent is misdirected and costly. One of the clearest statements of the need for antitrust restraint in the standard setting context comes from a June 2011 comment filed with the FTC:

[T]he existence of a RAND commitment to offer patent licenses should not preclude a patent holder from seeking preliminary injunctive relief. . . . Any uniform declaration that such relief would not be available if the patent holder has made a commitment to offer a RAND license for its essential patent claims in connection with a standard may reduce any incentives that implementers might have to engage in good faith negotiations with the patent holder.

Most of the SSOs and their stakeholders that have considered these proposals over the years have determined that there are only a limited number of situations where patent hold-up takes place in the context of standards-setting. The industry has determined that those situations generally are best addressed through bi-lateral negotiation (and, in rare cases, litigation) as opposed to modifying the SSO’s IPR policy [by precluding injunctions or mandating a particular negotiation process].

The statement’s author? Why, Microsoft, of course.

Patents are an important tool for encouraging the development and commercialization of advanced technology, as are standard setting organizations. Antitrust authorities should exercise great restraint before intervening in the complex commercial negotiations over technology patents and standards. In Motorola’s case, the evidence of conduct that might harm competition is absent, and all that remains are, in essence, allegations that Motorola is bargaining hard and enforcing its property rights. The EC should let competition run its course.