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[TOTM: The following is part of a digital symposium by TOTM guests and authors on the law, economics, and policy of the antitrust lawsuits against Google. The entire series of posts is available here.]

The U.S. Department of Justice’s (DOJ) antitrust case against Google, which was filed in October 2020, will be a tough slog.[1] It is an alleged monopolization (Sherman Act, Sec. 2) case; and monopolization cases are always a tough slog.

In this brief essay I will lay out some of the issues in the case and raise an intriguing possibility.

What is the case about?

The case is about exclusivity and exclusion in the distribution of search engine services; that Google paid substantial sums to Apple and to the manufacturers of Android-based mobile phones and tablets and also to wireless carriers and web-browser proprietors—in essence, to distributors—to install the Google search engine as the exclusive pre-set (installed), default search program. The suit alleges that Google thereby made it more difficult for other search-engine providers (e.g., Bing; DuckDuckGo) to obtain distribution for their search-engine services and thus to attract search-engine users and to sell the online advertising that is associated with search-engine use and that provides the revenue to support the search “platform” in this “two-sided market” context.[2]

Exclusion can be seen as a form of “raising rivals’ costs.”[3]  Equivalently, exclusion can be seen as a form of non-price predation. Under either interpretation, the exclusionary action impedes competition.

It’s important to note that these allegations are different from those that motivated an investigation by the Federal Trade Commission (which the FTC dropped in 2013) and the cases by the European Union against Google.[4]  Those cases focused on alleged self-preferencing; that Google was unduly favoring its own products and services (e.g., travel services) in its delivery of search results to users of its search engine. In those cases, the impairment of competition (arguably) happens with respect to those competing products and services, not with respect to search itself.

What is the relevant market?

For a monopolization allegation to have any meaning, there needs to be the exercise of market power (which would have adverse consequences for the buyers of the product). And in turn, that exercise of market power needs to occur in a relevant market: one in which market power can be exercised.

Here is one of the important places where the DOJ’s case is likely to turn into a slog: the delineation of a relevant market for alleged monopolization cases remains as a largely unsolved problem for antitrust economics.[5]  This is in sharp contrast to the issue of delineating relevant markets for the antitrust analysis of proposed mergers.  For this latter category, the paradigm of the “hypothetical monopolist” and the possibility that this hypothetical monopolist could prospectively impose a “small but significant non-transitory increase in price” (SSNIP) has carried the day for the purposes of market delineation.

But no such paradigm exists for monopolization cases, in which the usual allegation is that the defendant already possesses market power and has used the exclusionary actions to buttress that market power. To see the difficulties, it is useful to recall the basic monopoly diagram from Microeconomics 101. A monopolist faces a negatively sloped demand curve for its product (at higher prices, less is bought; at lower prices, more is bought) and sets a profit-maximizing price at the level of output where its marginal revenue (MR) equals its marginal costs (MC). Its price is thereby higher than an otherwise similar competitive industry’s price for that product (to the detriment of buyers) and the monopolist earns higher profits than would the competitive industry.

But unless there are reliable benchmarks as to what the competitive price and profits would otherwise be, any information as to the defendant’s price and profits has little value with respect to whether the defendant already has market power. Also, a claim that a firm does not have market power because it faces rivals and thus isn’t able profitably to raise its price from its current level (because it would lose too many sales to those rivals) similarly has no value. Recall the monopolist from Micro 101. It doesn’t set a higher price than the one where MR=MC, because it would thereby lose too many sales to other sellers of other things.

Thus, any firm—regardless of whether it truly has market power (like the Micro 101 monopolist) or is just another competitor in a sea of competitors—should have already set its price at its profit-maximizing level and should find it unprofitable to raise its price from that level.[6]  And thus the claim, “Look at all of the firms that I compete with!  I don’t have market power!” similarly has no informational value.

Let us now bring this problem back to the Google monopolization allegation:  What is the relevant market?  In the first instance, it has to be “the provision of answers to user search queries.” After all, this is the “space” in which the exclusion occurred. But there are categories of search: e.g., search for products/services, versus more general information searches (“What is the current time in Delaware?” “Who was the 21st President of the United States?”). Do those separate categories themselves constitute relevant markets?

Further, what would the exercise of market power in a (delineated relevant) market look like?  Higher-than-competitive prices for advertising that targets search-results recipients is one obvious answer (but see below). In addition, because this is a two-sided market, the competitive “price” (or prices) might involve payments by the search engine to the search users (in return for their exposure to the lucrative attached advertising).[7]  And product quality might exhibit less variety than a competitive market would provide; and/or the monopolistic average level of quality would be lower than in a competitive market: e.g., more abuse of user data, and/or deterioration of the delivered information itself, via more self-preferencing by the search engine and more advertising-driven preferencing of results.[8]

In addition, a natural focus for a relevant market is the advertising that accompanies the search results. But now we are at the heart of the difficulty of delineating a relevant market in a monopolization context. If the relevant market is “advertising on search engine results pages,” it seems highly likely that Google has market power. If the relevant market instead is all online U.S. advertising (of which Google’s revenue share accounted for 32% in 2019[9]), then the case is weaker; and if the relevant market is all advertising in the United States (which is about twice the size of online advertising[10]), the case is weaker still. Unless there is some competitive benchmark, there is no easy way to delineate the relevant market.[11]

What exactly has Google been paying for, and why?

As many critics of the DOJ’s case have pointed out, it is extremely easy for users to switch their default search engine. If internet search were a normal good or service, this ease of switching would leave little room for the exercise of market power. But in that case, why is Google willing to pay $8-$12 billion annually for the exclusive default setting on Apple devices and large sums to the manufacturers of Android-based devices (and to wireless carriers and browser proprietors)? Why doesn’t Google instead run ads in prominent places that remind users how superior Google’s search results are and how easy it is for users (if they haven’t already done so) to switch to the Google search engine and make Google the user’s default choice?

Suppose that user inertia is important. Further suppose that users generally have difficulty in making comparisons with respect to the quality of delivered search results. If this is true, then being the default search engine on Apple and Android-based devices and on other distribution vehicles would be valuable. In this context, the inertia of their customers is a valuable “asset” of the distributors that the distributors may not be able to take advantage of, but that Google can (by providing search services and selling advertising). The question of whether Google’s taking advantage of this user inertia means that Google exercises market power takes us back to the issue of delineating the relevant market.

There is a further wrinkle to all of this. It is a well-understood concept in antitrust economics that an incumbent monopolist will be willing to pay more for the exclusive use of an essential input than a challenger would pay for access to the input.[12] The basic idea is straightforward. By maintaining exclusive use of the input, the incumbent monopolist preserves its (large) monopoly profits. If the challenger enters, the incumbent will then earn only its share of the (much lower, more competitive) duopoly profits. Similarly, the challenger can expect only the lower duopoly profits. Accordingly, the incumbent should be willing to outbid (and thereby exclude) the challenger and preserve the incumbent’s exclusive use of the input, so as to protect those monopoly profits.

To bring this to the Google monopolization context, if Google does possess market power in some aspect of search—say, because online search-linked advertising is a relevant market—then Google will be willing to outbid Microsoft (which owns Bing) for the “asset” of default access to Apple’s (inertial) device owners. That Microsoft is a large and profitable company and could afford to match (or exceed) Google’s payments to Apple is irrelevant. If the duopoly profits for online search-linked advertising would be substantially lower than Google’s current profits, then Microsoft would not find it worthwhile to try to outbid Google for that default access asset.

Alternatively, this scenario could be wholly consistent with an absence of market power. If search users (who can easily switch) consider Bing to be a lower-quality search service, then large payments by Microsoft to outbid Google for those exclusive default rights would be largely wasted, since the “acquired” default search users would quickly switch to Google (unless Microsoft provided additional incentives for the users not to switch).

But this alternative scenario returns us to the original puzzle:  Why is Google making such large payments to the distributors for those exclusive default rights?

An intriguing possibility

Consider the following possibility. Suppose that Google was paying that $8-$12 billion annually to Apple in return for the understanding that Apple would not develop its own search engine for Apple’s device users.[13] This possibility was not raised in the DOJ’s complaint, nor is it raised in the subsequent suits by the state attorneys general.

But let’s explore the implications by going to an extreme. Suppose that Google and Apple had a formal agreement that—in return for the $8-$12 billion per year—Apple would not develop its own search engine. In this event, this agreement not to compete would likely be seen as a violation of Section 1 of the Sherman Act (which does not require a market delineation exercise) and Apple would join Google as a co-conspirator. The case would take on the flavor of the FTC’s prosecution of “pay-for-delay” agreements between the manufacturers of patented pharmaceuticals and the generic drug manufacturers that challenge those patents and then receive payments from the former in return for dropping the patent challenge and delaying the entry of the generic substitute.[14]

As of this writing, there is no evidence of such an agreement and it seems quite unlikely that there would have been a formal agreement. But the DOJ will be able to engage in discovery and take depositions. It will be interesting to find out what the relevant executives at Google—and at Apple—thought was being achieved by those payments.

What would be a suitable remedy/relief?

The DOJ’s complaint is vague with respect to the remedy that it seeks. This is unsurprising. The DOJ may well want to wait to see how the case develops and then amend its complaint.

However, even if Google’s actions have constituted monopolization, it is difficult to conceive of a suitable and effective remedy. One apparently straightforward remedy would be to require simply that Google not be able to purchase exclusivity with respect to the pre-set default settings. In essence, the device manufacturers and others would always be able to sell parallel default rights to other search engines: on the basis, say, that the default rights for some categories of customers—or even a percentage of general customers (randomly selected)—could be sold to other search-engine providers.

But now the Gilbert-Newbery insight comes back into play. Suppose that a device manufacturer knows (or believes) that Google will pay much more if—even in the absence of any exclusivity agreement—Google ends up being the pre-set search engine for all (or nearly all) of the manufacturer’s device sales, as compared with what the manufacturer would receive if those default rights were sold to multiple search-engine providers (including, but not solely, Google). Can that manufacturer (recall that the distributors are not defendants in the case) be prevented from making this sale to Google and thus (de facto) continuing Google’s exclusivity?[15]

Even a requirement that Google not be allowed to make any payment to the distributors for a default position may not improve the competitive environment. Google may be able to find other ways of making indirect payments to distributors in return for attaining default rights, e.g., by offering them lower rates on their online advertising.

Further, if the ultimate goal is an efficient outcome in search, it is unclear how far restrictions on Google’s bidding behavior should go. If Google were forbidden from purchasing any default installation rights for its search engine, would (inert) consumers be better off? Similarly, if a distributor were to decide independently that its customers were better served by installing the Google search engine as the default, would that not be allowed? But if it is allowed, how could one be sure that Google wasn’t indirectly paying for this “independent” decision (e.g., through favorable advertising rates)?

It’s important to remember that this (alleged) monopolization is different from the Standard Oil case of 1911 or even the (landline) AT&T case of 1984. In those cases, there were physical assets that could be separated and spun off to separate companies. For Google, physical assets aren’t important. Although it is conceivable that some of Google’s intellectual property—such as Gmail, YouTube, or Android—could be spun off to separate companies, doing so would do little to cure the (arguably) fundamental problem of the inert device users.

In addition, if there were an agreement between Google and Apple for the latter not to develop a search engine, then large fines for both parties would surely be warranted. But what next? Apple can’t be forced to develop a search engine.[16] This differentiates such an arrangement from the “pay-for-delay” arrangements for pharmaceuticals, where the generic manufacturers can readily produce a near-identical substitute for the patented drug and are otherwise eager to do so.

At the end of the day, forbidding Google from paying for exclusivity may well be worth trying as a remedy. But as the discussion above indicates, it is unlikely to be a panacea and is likely to require considerable monitoring for effective enforcement.

Conclusion

The DOJ’s case against Google will be a slog. There are unresolved issues—such as how to delineate a relevant market in a monopolization case—that will be central to the case. Even if the DOJ is successful in showing that Google violated Section 2 of the Sherman Act in monopolizing search and/or search-linked advertising, an effective remedy seems problematic. But there also remains the intriguing question of why Google was willing to pay such large sums for those exclusive default installation rights?

The developments in the case will surely be interesting.


[1] The DOJ’s suit was joined by 11 states.  More states subsequently filed two separate antitrust lawsuits against Google in December.

[2] There is also a related argument:  That Google thereby gained greater volume, which allowed it to learn more about its search users and their behavior, and which thereby allowed it to provide better answers to users (and thus a higher-quality offering to its users) and better-targeted (higher-value) advertising to its advertisers.  Conversely, Google’s search-engine rivals were deprived of that volume, with the mirror-image negative consequences for the rivals.  This is just another version of the standard “learning-by-doing” and the related “learning curve” (or “experience curve”) concepts that have been well understood in economics for decades.

[3] See, for example, Steven C. Salop and David T. Scheffman, “Raising Rivals’ Costs: Recent Advances in the Theory of Industrial Structure,” American Economic Review, Vol. 73, No. 2 (May 1983), pp.  267-271; and Thomas G. Krattenmaker and Steven C. Salop, “Anticompetitive Exclusion: Raising Rivals’ Costs To Achieve Power Over Price,” Yale Law Journal, Vol. 96, No. 2 (December 1986), pp. 209-293.

[4] For a discussion, see Richard J. Gilbert, “The U.S. Federal Trade Commission Investigation of Google Search,” in John E. Kwoka, Jr., and Lawrence J. White, eds. The Antitrust Revolution: Economics, Competition, and Policy, 7th edn.  Oxford University Press, 2019, pp. 489-513.

[5] For a more complete version of the argument that follows, see Lawrence J. White, “Market Power and Market Definition in Monopolization Cases: A Paradigm Is Missing,” in Wayne D. Collins, ed., Issues in Competition Law and Policy. American Bar Association, 2008, pp. 913-924.

[6] The forgetting of this important point is often termed “the cellophane fallacy”, since this is what the U.S. Supreme Court did in a 1956 antitrust case in which the DOJ alleged that du Pont had monopolized the cellophane market (and du Pont, in its defense claimed that the relevant market was much wider: all flexible wrapping materials); see U.S. v. du Pont, 351 U.S. 377 (1956).  For an argument that profit data and other indicia argued for cellophane as the relevant market, see George W. Stocking and Willard F. Mueller, “The Cellophane Case and the New Competition,” American Economic Review, Vol. 45, No. 1 (March 1955), pp. 29-63.

[7] In the context of differentiated services, one would expect prices (positive or negative) to vary according to the quality of the service that is offered.  It is worth noting that Bing offers “rewards” to frequent searchers; see https://www.microsoft.com/en-us/bing/defaults-rewards.  It is unclear whether this pricing structure of payment to Bing’s customers represents what a more competitive framework in search might yield, or whether the payment just indicates that search users consider Bing to be a lower-quality service.

[8] As an additional consequence of the impairment of competition in this type of search market, there might be less technological improvement in the search process itself – to the detriment of users.

[9] As estimated by eMarketer: https://www.emarketer.com/newsroom/index.php/google-ad-revenues-to-drop-for-the-first-time/.

[10] See https://www.visualcapitalist.com/us-advertisers-spend-20-years/.

[11] And, again, if we return to the du Pont cellophane case:  Was the relevant market cellophane?  Or all flexible wrapping materials?

[12] This insight is formalized in Richard J. Gilbert and David M.G. Newbery, “Preemptive Patenting and the Persistence of Monopoly,” American Economic Review, Vol. 72, No. 3 (June 1982), pp. 514-526.

[13] To my knowledge, Randal C. Picker was the first to suggest this possibility; see https://www.competitionpolicyinternational.com/a-first-look-at-u-s-v-google/.  Whether Apple would be interested in trying to develop its own search engine – given the fiasco a decade ago when Apple tried to develop its own maps app to replace the Google maps app – is an open question.  In addition, the Gilbert-Newbery insight applies here as well:  Apple would be less inclined to invest the substantial resources that would be needed to develop a search engine when it is thereby in a duopoly market.  But Google might be willing to pay “insurance” to reinforce any doubts that Apple might have.

[14] The U.S. Supreme Court, in FTC v. Actavis, 570 U.S. 136 (2013), decided that such agreements could be anti-competitive and should be judged under the “rule of reason”.  For a discussion of the case and its implications, see, for example, Joseph Farrell and Mark Chicu, “Pharmaceutical Patents and Pay-for-Delay: Actavis (2013),” in John E. Kwoka, Jr., and Lawrence J. White, eds. The Antitrust Revolution: Economics, Competition, and Policy, 7th edn.  Oxford University Press, 2019, pp. 331-353.

[15] This is an example of the insight that vertical arrangements – in this case combined with the Gilbert-Newbery effect – can be a way for dominant firms to raise rivals’ costs.  See, for example, John Asker and Heski Bar-Isaac. 2014. “Raising Retailers’ Profits: On Vertical Practices and the Exclusion of Rivals.” American Economic Review, Vol. 104, No. 2 (February 2014), pp. 672-686.

[16] And, again, for the reasons discussed above, Apple might not be eager to make the effort.

[TOTM: The following is part of a digital symposium by TOTM guests and authors on the law, economics, and policy of the antitrust lawsuits against Google. The entire series of posts is available here.]

U.S. antitrust regulators have a history of narrowly defining relevant markets—often to the point of absurdity—in order to create market power out of thin air. The Federal Trade Commission (FTC) famously declared that Whole Foods and Wild Oats operated in the “premium natural and organic supermarkets market”—a narrowly defined market designed to exclude other supermarkets carrying premium natural and organic foods, such as Walmart and Kroger. Similarly, for the Staples-Office Depot merger, the FTC

narrowly defined the relevant market as “office superstore” chains, which excluded general merchandisers such as Walmart, K-Mart and Target, who at the time accounted for 80% of office supply sales.

Texas Attorney General Ken Paxton’s complaint against Google’s advertising business, joined by the attorneys general of nine other states, continues this tradition of narrowing market definition to shoehorn market dominance where it may not exist.

For example, one recent paper critical of Google’s advertising business narrows the relevant market first from media advertising to digital advertising, then to the “open” supply of display ads and, finally, even further to the intermediation of the open supply of display ads. Once the market has been sufficiently narrowed, the authors conclude Google’s market share is “perhaps sufficient to confer market power.”

While whittling down market definitions may achieve the authors’ purpose of providing a roadmap to prosecute Google, one byproduct is a mishmash of market definitions that generates as many as 16 relevant markets for digital display and video advertising, in many of which Google doesn’t have anything approaching market power (and in some of which, in fact, Facebook, and not Google, is the most dominant player).

The Texas complaint engages in similar relevant-market gerrymandering. It claims that, within digital advertising, there exist several relevant markets and that Google monopolizes four of them:

  1. Publisher ad servers, which manage the inventory of a publisher’s (e.g., a newspaper’s website or a blog) space for ads;
  2. Display ad exchanges, the “marketplace” in which auctions directly match publishers’ selling of ad space with advertisers’ buying of ad space;
  3. Display ad networks, which are similar to exchanges, except a network acts as an intermediary that collects ad inventory from publishers and sells it to advertisers; and
  4. Display ad-buying tools, which include demand-side platforms that collect bids for ad placement with publishers.

The complaint alleges, “For online publishers and advertisers alike, the different online advertising formats are not interchangeable.” But this glosses over a bigger challenge for the attorneys general: Is online advertising a separate relevant market from offline advertising?

Digital advertising, of which display advertising is a small part, is only one of many channels through which companies market their products. About half of today’s advertising spending in the United States goes to digital channels, up from about 10% a decade ago. Approximately 30% of ad spending goes to television, with the remainder going to radio, newspapers, magazines, billboards and other “offline” forms of media.

Physical newspapers now account for less than 10% of total advertising spending. Traditionally, newspapers obtained substantial advertising revenues from classified ads. As internet usage increased, newspaper classifieds have been replaced by less costly and more effective internet classifieds—such as those offered by Craigslist—or targeted ads on Google Maps or Facebook.

The price of advertising has fallen steadily over the past decade, while output has risen. Spending on digital advertising in the United States grew from $26 billion in 2010 to nearly $130 billion in 2019, an average increase of 20% a year. Over the same period, the producer price index (PPI) for internet advertising sales declined by nearly 40%. Rising spending in the face of falling prices indicates the number of ads bought and sold increased by approximately 27% a year.

Since 2000, advertising spending has been falling as a share of gross domestic product, with online advertising growing as a share of that. The combination of increasing quantity, decreasing cost and increasing total revenues are consistent with a growing and increasingly competitive market, rather than one of rising concentration and reduced competition.

There is little or no empirical data evaluating the extent to which online and offline advertising constitute distinct markets or the extent to which digital display is a distinct submarket of online advertising. As a result, analysis of adtech competition has relied on identifying several technical and technological factors—as well as the say-so of participants in the business—that the analysts assert distinguish online from offline and establish digital display (versus digital search) as a distinct submarket. This approach has been used and accepted, especially in cases in which pricing data has not been available.

But the pricing information that is available raises questions about the extent to which online advertising is a distinct market from offline advertising. For example, Avi Goldfarb and Catherine Tucker find that, when local regulations prohibit offline direct advertising, search advertising is more expensive, indicating that search and offline advertising are substitutes. In other research, they report that online display advertising circumvents, in part, local bans on offline billboard advertising for alcoholic beverages. In both studies, Goldfarb and Tucker conclude their results suggest online and offline advertising are substitutes. They also conclude this substitution suggests that online and offline markets should be considered together in the context of antitrust.

While this information is not sufficient to define a broader relevant market, it raises questions regarding solely relying on the technical or technological distinctions and the say-so of market participants.

In the United States, plaintiffs do not get to define the relevant market. That is up to the judge or the jury. Plaintiffs have the burden to convince the court that a proposed narrow market definition is the correct one. With strong evidence that online and offline ads are substitutes, the court should not blindly accept the gerrymandered market definitions posited by the attorneys general.

This week the Senate will hold a hearing into potential anticompetitive conduct by Google in its display advertising business—the “stack” of products that it offers to advertisers seeking to place display ads on third-party websites. It is also widely reported that the Department of Justice is preparing a lawsuit against Google that will likely include allegations of anticompetitive behavior in this market, and is likely to be joined by a number of state attorneys general in that lawsuit. Meanwhile, several papers have been published detailing these allegations

This aspect of digital advertising can be incredibly complex and difficult to understand. Here we explain how display advertising fits in the broader digital advertising market, describe how display advertising works, consider the main allegations against Google, and explain why Google’s critics are misguided to focus on antitrust as a solution to alleged problems in the market (even if those allegations turn out to be correct).

Display advertising in context

Over the past decade, the price of advertising has fallen steadily while output has risen. Spending on digital advertising in the US grew from $26 billion in 2010 to nearly $130 billion in 2019, an average increase of 20% a year. Over the same period the Producer Price Index for Internet advertising sales declined by nearly 40%. The rising spending in the face of falling prices indicates the number of ads bought and sold increased by approximately 27% a year. Since 2000, advertising spending has been falling as a share of GDP, with online advertising growing as a share of that. The combination of increasing quantity, decreasing cost, and increasing total revenues are consistent with a growing and increasingly competitive market.

Display advertising on third-party websites is only a small subsection of the digital advertising market, comprising approximately 15-20% of digital advertising spending in the US. The rest of the digital advertising market is made up of ads on search results pages on sites like Google, Amazon and Kayak, on people’s Instagram and Facebook feeds, listings on sites like Zillow (for houses) or Craigslist, referral fees paid to price comparison websites for things like health insurance, audio and visual ads on services like Spotify and Hulu, and sponsored content from influencers and bloggers who will promote products to their fans. 

And digital advertising itself is only one of many channels through which companies can market their products. About 53% of total advertising spending in the United States goes on digital channels, with 30% going on TV advertising and the rest on things like radio ads, billboards and other more traditional forms of advertising. A few people still even read physical newspapers and the ads they contain, although physical newspapers’ bigger money makers have traditionally been classified ads, which have been replaced by less costly and more effective internet classifieds, such as those offered by Craigslist, or targeted ads on Google Maps or Facebook.

Indeed, it should be noted that advertising itself is only part of the larger marketing market of which non-advertising marketing communication—e.g., events, sales promotion, direct marketing, telemarketing, product placement—is as big a part as is advertising (each is roughly $500bn globally); it just hasn’t been as thoroughly disrupted by the Internet yet. But it is a mistake to assume that digital advertising is not a part of this broader market. And of that $1tr global market, Internet advertising in total occupies only about 18%—and thus display advertising only about 3%.

Ad placement is only one part of the cost of digital advertising. An advertiser trying to persuade people to buy its product must also do market research and analytics to find out who its target market is and what they want. Moreover, there are the costs of designing and managing a marketing campaign and additional costs to analyze and evaluate the effectiveness of the campaign. 

Nevertheless, one of the most straightforward ways to earn money from a website is to show ads to readers alongside the publisher’s content. To satisfy publishers’ demand for advertising revenues, many services have arisen to automate and simplify the placement of and payment for ad space on publishers’ websites. Google plays a large role in providing these services—what is referred to as “open display” advertising. And it is Google’s substantial role in this space that has sparked speculation and concern among antitrust watchdogs and enforcement authorities.

Before delving into the open display advertising market, a quick note about terms. In these discussions, “advertisers” are businesses that are trying to sell people stuff. Advertisers include large firms such as Best Buy and Disney and small businesses like the local plumber or financial adviser. “Publishers” are websites that carry those ads, and publish content that users want to read. Note that the term “publisher” refers to all websites regardless of the things they’re carrying: a blog about the best way to clean stains out of household appliances is a “publisher” just as much as the New York Times is. 

Under this broad definition, Facebook, Instagram, and YouTube are also considered publishers. In their role as publishers, they have a common goal: to provide content that attracts users to their pages who will act on the advertising displayed. “Users” are you and me—the people who want to read publishers’ content, and to whom advertisers want to show ads. Finally, “intermediaries” are the digital businesses, like Google, that sit in between the advertisers and the publishers, allowing them to do business with each other without ever meeting or speaking.

The display advertising market

If you’re an advertiser, display advertising works like this: your company—one that sells shoes, let’s say—wants to reach a certain kind of person and tell her about the company’s shoes. These shoes are comfortable, stylish, and inexpensive. You use a tool like Google Ads (or, if it’s a big company and you want a more expansive campaign over which you have more control, Google Marketing Platform) to design and upload an ad, and tell Google about the people you want to read—their age and location, say, and/or characterizations of their past browsing and searching habits (“interested in sports”). 

Using that information, Google finds ad space on websites whose audiences match the people you want to target. This ad space is auctioned off to the highest bidder among the range of companies vying, with your shoe company, to reach users matching the characteristics of the website’s users. Thanks to tracking data, it doesn’t just have to be sports-relevant websites: as a user browses sports-related sites on the web, her browser picks up files (cookies) that will tag her as someone potentially interested in sports apparel for targeting later.

So a user might look at a sports website and then later go to a recipe blog, and there receive the shoes ad on the basis of her earlier browsing. You, the shoe seller, hope that she will either click through and buy (or at least consider buying) the shoes when she sees those ads, but one of the benefits of display advertising over search advertising is that—as with TV ads or billboard ads—just seeing the ad will make her aware of the product and potentially more likely to buy it later. Advertisers thus sometimes pay on the basis of clicks, sometimes on the basis of views, and sometimes on the basis of conversion (when a consumer takes an action of some sort, such as making a purchase or filling out a form).

That’s the advertiser’s perspective. From the publisher’s perspective—the owner of that recipe blog, let’s say—you want to auction ad space off to advertisers like that shoe company. In that case, you go to an ad server—Google’s product is called AdSense—give them a little bit of information about your site, and add some html code to your website. These ad servers gather information about your content (e.g., by looking at keywords you use) and your readers (e.g., by looking at what websites they’ve used in the past to make guesses about what they’ll be interested in) and places relevant ads next to and among your content. If they click, lucky you—you’ll get paid a few cents or dollars. 

Apart from privacy concerns about the tracking of users, the really tricky and controversial part here concerns the way scarce advertising space is allocated. Most of the time, it’s done through auctions that happen in real time: each time a user loads a website, an auction is held in a fraction of a second to decide which advertiser gets to display an ad. The longer this process takes, the slower pages load and the more likely users are to get frustrated and go somewhere else.

As well as the service hosting the auction, there are lots of little functions that different companies perform that make the auction and placement process smoother. Some fear that by offering a very popular product integrated end to end, Google’s “stack” of advertising products can bias auctions in favour of its own products. There’s also speculation that Google’s product is so tightly integrated and so effective at using data to match users and advertisers that it is not viable for smaller rivals to compete.

We’ll discuss this speculation and fear in more detail below. But it’s worth bearing in mind that this kind of real-time bidding for ad placement was not always the norm, and is not the only way that websites display ads to their users even today. Big advertisers and websites often deal with each other directly. As with, say, TV advertising, large companies advertising often have a good idea about the people they want to reach. And big publishers (like popular news websites) often have a good idea about who their readers are. For example, big brands often want to push a message to a large number of people across different customer types as part of a broader ad campaign. 

Of these kinds of direct sales, sometimes the space is bought outright, in advance, and reserved for those advertisers. In most cases, direct sales are run through limited, intermediated auction services that are not open to the general market. Put together, these kinds of direct ad buys account for close to 70% of total US display advertising spending. The remainder—the stuff that’s left over after these kinds of sales have been done—is typically sold through the real-time, open display auctions described above.

Different adtech products compete on their ability to target customers effectively, to serve ads quickly (since any delay in the auction and ad placement process slows down page load times for users), and to do so inexpensively. All else equal (including the effectiveness of the ad placement), advertisers want to pay the lowest possible price to place an ad. Similarly, publishers want to receive the highest possible price to display an ad. As a result, both advertisers and publishers have a keen interest in reducing the intermediary’s “take” of the ad spending.

This is all a simplification of how the market works. There is not one single auction house for ad space—in practice, many advertisers and publishers end up having to use lots of different auctions to find the best price. As the market evolved to reach this state from the early days of direct ad buys, new functions that added efficiency to the market emerged. 

In the early years of ad display auctions, individual processes in the stack were performed by numerous competing companies. Through a process of “vertical integration” some companies, such as Google, brought these different processes under the same roof, with the expectation that integration would streamline the stack and make the selling and placement of ads more efficient and effective. The process of vertical integration in pursuit of efficiency has led to a more consolidated market in which Google is the largest player, offering simple, integrated ad buying products to advertisers and ad selling products to publishers. 

Google is by no means the only integrated adtech service provider, however: Facebook, Amazon, Verizon, AT&T/Xandr, theTradeDesk, LumenAd, Taboola and others also provide end-to-end adtech services. But, in the market for open auction placement on third-party websites, Google is the biggest.

The cases against Google

The UK’s Competition and Markets Authority (CMA) carried out a formal study into the digital advertising market between 2019 and 2020, issuing its final report in July of this year. Although also encompassing Google’s Search advertising business and Facebook’s display advertising business (both of which relate to ads on those companies “owned and operated” websites and apps), the CMA study involved the most detailed independent review of Google’s open display advertising business to date. 

That study did not lead to any competition enforcement proceedings, but it did conclude that Google’s vertically integrated products led to conflicts of interest that could lead it to behaving in ways that did not benefit the advertisers and publishers that use it. One example was Google’s withholding of certain data from publishers that would make it easier for them to use other ad selling products; another was the practice of setting price floors that allegedly led advertisers to pay more than they would otherwise.

Instead the CMA recommended the setting up of a “Digital Markets Unit” (DMU) that could regulate digital markets in general, and a code of conduct for Google and Facebook (and perhaps other large tech platforms) intended to govern their dealings with smaller customers.

The CMA’s analysis is flawed, however. For instance, it makes big assumptions about the dependency of advertisers on display advertising, largely assuming that they would not switch to other forms of advertising if prices rose, and it is light on economics. But factually it is the most comprehensively researched investigation into digital advertising yet published.

Piggybacking on the CMA’s research, and mounting perhaps the strongest attack on Google’s adtech offerings to date, was a paper released just prior to the CMA’s final report called “Roadmap for a Digital Advertising Monopolization Case Against Google”, by Yale economist Fiona Scott Morton and Omidyar Network lawyer David Dinielli. Dinielli will testify before the Senate committee.

While the Scott Morton and Dinielli paper is extremely broad, it also suffers from a number of problems. 

One, because it was released before the CMA’s final report, it is largely based on the interim report released months earlier by the CMA, halfway through the market study in December 2019. This means that several of its claims are out of date. For example, it makes much of the possibility raised by the CMA in its interim report that Google may take a larger cut of advertising spending than its competitors, and claims made in another report that Google introduces “hidden” fees that increases the overall cut it takes from ad auctions. 

But in the final report, after further investigation, the CMA concludes that this is not the case. In the final report, the CMA describes its analysis of all Google Ad Manager open auctions related to UK web traffic during the period between 8–14 March 2020 (involving billions of auctions). This, according to the CMA, allowed it to observe any possible “hidden” fees as well. The CMA concludes:

Our analysis found that, in transactions where both Google Ads and Ad Manager (AdX) are used, Google’s overall take rate is approximately 30% of advertisers’ spend. This is broadly in line with (or slightly lower than) our aggregate market-wide fee estimate outlined above. We also calculated the margin between the winning bid and the second highest bid in AdX for Google and non-Google DSPs, to test whether Google was systematically able to win with a lower margin over the second highest bid (which might have indicated that they were able to use their data advantage to extract additional hidden fees). We found that Google’s average winning margin was similar to that of non-Google DSPs. Overall, this evidence does not indicate that Google is currently extracting significant hidden fees. As noted below, however, it retains the ability and incentive to do so. (p. 275, emphasis added)

Scott Morton and Dinielli also misquote and/or misunderstand important sections of the CMA interim report as relating to display advertising when, in fact, they relate to search. For example, Scott Morton and Dinielli write that the “CMA concluded that Google has nearly insurmountable advantages in access to location data, due to the location information [uniquely available to it from other sources].” (p. 15). The CMA never makes any claim of “insurmountable advantage,” however. Rather, to support the claim, Scott Morton and Dinielli cite to a portion of the CMA interim report recounting a suggestion made by Microsoft regarding the “critical” value of location data in providing relevant advertising. 

But that portion of the report, as well as the suggestion made by Microsoft, is about search advertising. While location data may also be valuable for display advertising, it is not clear that the GPS-level data that is so valuable in providing mobile search ad listings (for a nearby cafe or restaurant, say) is particularly useful for display advertising, which may be just as well-targeted by less granular, city- or county-level location data, which is readily available from a number of sources. In any case, Scott Morton and Dinielli are simply wrong to use a suggestion offered by Microsoft relating to search advertising to demonstrate the veracity of an assertion about a conclusion drawn by the CMA regarding display advertising. 

Scott Morton and Dinielli also confusingly word their own judgements about Google’s conduct in ways that could be misinterpreted as conclusions by the CMA:

The CMA reports that Google has implemented an anticompetitive sales strategy on the publisher ad server end of the intermediation chain. Specifically, after purchasing DoubleClick, which became its publisher ad server, Google apparently lowered its prices to publishers by a factor of ten, at least according to one publisher’s account related to the CMA. (p. 20)

In fact, the CMA does not conclude that Google lowering its prices was an “anticompetitive sales strategy”—it does not use these words at all—and what Scott Morton and Dinielli are referring to is a claim by a rival ad server business, Smart, that Google cutting its prices after acquiring Doubleclick led to Google expanding its market share. Apart from the misleading wording, it is unclear why a competition authority should consider it to be “anticompetitive” when prices are falling and kept low, and—as Smart reported to the CMA—its competitor’s response is to enhance its own offering. 

The case that remains

Stripping away the elements of Scott Morton and Dinielli’s case that seem unsubstantiated by a more careful reading of the CMA reports, and with the benefit of the findings in the CMA’s final report, we are left with a case that argues that Google self-preferences to an unreasonable extent, giving itself a product that is as successful as it is in display advertising only because of Google’s unique ability to gain advantage from its other products that have little to do with display advertising. Because of this self-preferencing, they might argue, innovative new entrants cannot compete on an equal footing, so the market loses out on incremental competition because of the advantages Google gets from being the world’s biggest search company, owning YouTube, running Google Maps and Google Cloud, and so on. 

The most significant examples of this are Google’s use of data from other products—like location data from Maps or viewing history from YouTube—to target ads more effectively; its ability to enable advertisers placing search ads to easily place display ads through the same interface; its introduction of faster and more efficient auction processes that sidestep the existing tools developed by other third-party ad exchanges; and its design of its own tool (“open bidding”) for aggregating auction bids for advertising space to compete with (rather than incorporate) an alternative tool (“header bidding”) that is arguably faster, but costs more money to use.

These allegations require detailed consideration, and in a future paper we will attempt to assess them in detail. But in thinking about them now it may be useful to consider the remedies that could be imposed to address them, assuming they do diminish the ability of rivals to compete with Google: what possible interventions we could make in order to make the market work better for advertisers, publishers, and users. 

We can think of remedies as falling into two broad buckets: remedies that stop Google from doing things that improve the quality of its own offerings, thus making it harder for others to keep up; and remedies that require it to help rivals improve their products in ways otherwise accessible only to Google (e.g., by making Google’s products interoperable with third-party services) without inherently diminishing the quality of Google’s own products.

The first camp of these, what we might call “status quo minus,” includes rules banning Google from using data from its other products or offering single order forms for advertisers, or, in the extreme, a structural remedy that “breaks up” Google by either forcing it to sell off its display ad business altogether or to sell off elements of it. 

What is striking about these kinds of interventions is that all of them “work” by making Google worse for those that use it. Restrictions on Google’s ability to use data from other products, for example, will make its service more expensive and less effective for those who use it. Ads will be less well-targeted and therefore less effective. This will lead to lower bids from advertisers. Lower ad prices will be transmitted through the auction process to produce lower payments for publishers. Reduced publisher revenues will mean some content providers exit. Users will thus be confronted with less available content and ads that are less relevant to them and thus, presumably, more annoying. In other words: No one will be better off, and most likely everyone will be worse off.

The reason a “single order form” helps Google is that it is useful to advertisers, the same way it’s useful to be able to buy all your groceries at one store instead of lots of different ones. Similarly, vertical integration in the “ad stack” allows for a faster, cheaper, and simpler product for users on all sides of the market. A different kind of integration that has been criticized by others, where third-party intermediaries can bid more quickly if they host on Google Cloud, benefits publishers and users because it speeds up auction time, allowing websites to load faster. So does Google’s unified alternative to “header bidding,” giving a speed boost that is apparently valuable enough to publishers that they will pay for it.

So who would benefit from stopping Google from doing these things, or even forcing Google to sell its operations in this area? Not advertisers or publishers. Maybe Google’s rival ad intermediaries would; presumably, artificially hamstringing Google’s products would make it easier for them to compete with Google. But if so, it’s difficult to see how this would be an overall improvement. It is even harder to see how this would improve the competitive process—the very goal of antitrust. Rather, any increase in the competitiveness of rivals would result not from making their products better, but from making Google’s product worse. That is a weakening of competition, not its promotion. 

On the other hand, interventions that aim to make Google’s products more interoperable at least do not fall prey to this problem. Such “status quo plus” interventions would aim to take the benefits of Google’s products and innovations and allow more companies to use them to improve their own competing products. Not surprisingly, such interventions would be more in line with the conclusions the CMA came to than the divestitures and operating restrictions proposed by Scott Morton and Dinielli, as well as (reportedly) state attorneys general considering a case against Google.

But mandated interoperability raises a host of different concerns: extensive and uncertain rulemaking, ongoing regulatory oversight, and, likely, price controls, all of which would limit Google’s ability to experiment with and improve its products. The history of such mandated duties to deal or compulsory licenses is a troubled one, at best. But even if, for the sake of argument, we concluded that these kinds of remedies were desirable, they are difficult to impose via an antitrust lawsuit of the kind that the Department of Justice is expected to launch. Most importantly, if the conclusion of Google’s critics is that Google’s main offense is offering a product that is just too good to compete with without regulating it like a utility, with all the costs to innovation that that would entail, maybe we ought to think twice about whether an antitrust intervention is really worth it at all.

In mid-November, the 50 state attorneys general (AGs) investigating Google’s advertising practices expanded their antitrust probe to include the company’s search and Android businesses. Texas Attorney General Ken Paxton, the lead on the case, was supportive of the development, but made clear that other states would manage the investigations of search and Android separately. While attorneys might see the benefit in splitting up search and advertising investigations, platforms like Google need to be understood as a coherent whole. If the state AGs case is truly concerned with the overall impact on the welfare of consumers, it will need to be firmly grounded in the unique economics of this platform.

Back in September, 50 state AGs, including those in Washington, DC and Puerto Rico, announced an investigation into Google. In opening the case, Paxton said that, “There is nothing wrong with a business becoming the biggest game in town if it does so through free market competition, but we have seen evidence that Google’s business practices may have undermined consumer choice, stifled innovation, violated users’ privacy, and put Google in control of the flow and dissemination of online information.” While the original document demands focused on Google’s “overarching control of online advertising markets and search traffic,” reports since then suggest that the primary investigation centers on online advertising.

Defining the market

Since the market definition is the first and arguably the most important step in an antitrust case, Paxton has tipped his hand and shown that the investigation is converging on the online ad market. Yet, he faltered when he wrote in The Wall Street Journal that, “Each year more than 90% of Google’s $117 billion in revenue comes from online advertising. For reference, the entire market for online advertising is around $130 billion annually.” As Patrick Hedger of the Competitive Enterprise Institute was quick to note, Paxton cited global revenue numbers and domestic advertising statistics. In reality, Google’s share of the online advertising market in the United States is 37 percent and is widely expected to fall.

When Google faced scrutiny by the Federal Trade Commission in 2013, the leaked staff report explained that “the Commission and the Department of Justice have previously found online ‘search advertising’ to be a distinct product market.” This finding, which dates from 2007, simply wouldn’t stand today. Facebook’s ad platform was launched in 2007 and has grown to become a major competitor to Google. Even more recently, Amazon has jumped into the space and independent platforms like Telaria, Rubicon Project, and The Trade Desk have all made inroads. In contrast to the late 2000s, advertisers now use about four different online ad platforms.

Moreover, the relationship between ad prices and industry concentration is complicated. In traditional economic analysis, fewer suppliers of a product generally translates into higher prices. In the online ad market, however, fewer advertisers means that ad buyers can efficiently target people through keywords. Because advertisers have access to superior information, research finds that more concentration tends to lead to lower search engine revenues. 

The addition of new fronts in the state AGs’ investigation could spell disaster for consumers. While search and advertising are distinct markets, it is the act of tying the two together that makes platforms like Google valuable to users and advertisers alike. Demand is tightly integrated between the two sides of the platform. Changes in user and advertiser preferences have far outsized effects on the overall platform value because each side responds to the other. If users experience an increase in price or a reduction in quality, then they will use the platform less or just log off completely. Advertisers see this change in users and react by reducing their demand for ad placements as well. When advertisers drop out, the total amount of content also recedes and users react once again. Economists call these relationships demand interdependencies. The demand on one side of the market is interdependent with demand on the other. Research on magazines, newspapers, and social media sites all support the existence of demand interdependencies. 

Economists David Evans and Richard Schmalensee, who were cited extensively in the Supreme Court case Ohio v. American Express, explained the importance of their integration into competition analysis, “The key point is that it is wrong as a matter of economics to ignore significant demand interdependencies among the multiple platform sides” when defining markets. If they are ignored, then the typical analytical tools will yield incorrect assessments. Understanding these relationships makes the investigation all that more difficult.

The limits of remedies

Most likely, this current investigation will follow the trajectory of Microsoft in the 1990s when states did the legwork for a larger case brought by the Department of Justice (DoJ). The DoJ already has its own investigation into Google and will probably pull together all of the parties for one large suit. Google is also subject to a probe by the House of Representatives Judiciary Committee as well. What is certain is that Google will be saddled with years of regulatory scrutiny, but what remains unclear is what kind of changes the AGs are after.

The investigation might aim to secure behavioral changes, but these often come with a cost in platform industries. The European Commission, for example, got Google to change its practices with its Android operating system for mobile phones. Much like search and advertising, the Android ecosystem is a platform with cross subsidization and demand interdependencies between the various sides of the market. Because the company was ordered to stop tying the Android operating system to apps, manufacturers of phones and tablets now have to pay a licensing fee in Europe if they want Google’s apps and the Play Store. Remedies meant to change one side of the platform resulted in those relationships being unbundled. When regulators force cross subsidization to become explicit prices, consumers are the one who pay.

The absolute worst case scenario would be a break up of Google, which has been a centerpiece of Senator Elizabeth Warren’s presidential platform. As I explained last year, that would be a death warrant for the company:

[T]he value of both Facebook and Google comes in creating the platform, which combines users with advertisers. Before the integration of ad networks, the search engine industry was struggling and it was simply not a major player in the Internet ecosystem. In short, the search engines, while convenient, had no economic value. As Michael Moritz, a major investor of Google, said of those early years, “We really couldn’t figure out the business model. There was a period where things were looking pretty bleak.” But Google didn’t pave the way. Rather, Bill Gross at GoTo.com succeeded in showing everyone how advertising could work to build a business. Google founders Larry Page and Sergey Brin merely adopted the model in 2002 and by the end of the year, the company was profitable for the first time. Marrying the two sides of the platform created value. Tearing them apart will also destroy value.

The state AGs need to resist making this investigation into a political showcase. As Pew noted in documenting the rise of North Carolina Attorney General Josh Stein to national prominence, “What used to be a relatively high-profile position within a state’s boundaries has become a springboard for publicity across the country.” While some might cheer the opening of this investigation, consumer welfare needs to be front and center. To properly understand how consumer welfare might be impacted by an investigation, the state AGs need to take seriously the path already laid out by platform economics. For the sake of consumers, let’s hope they are up to the task. 

In short, all of this hand-wringing over privacy is largely a tempest in a teapot — especially when one considers the extent to which the White House and other government bodies have studiously ignored the real threat: government misuse of data à la the NSA. It’s almost as if the White House is deliberately shifting the public’s gaze from the reality of extensive government spying by directing it toward a fantasy world of nefarious corporations abusing private information….

The White House’s proposed bill is emblematic of many government “fixes” to largely non-existent privacy issues, and it exhibits the same core defects that undermine both its claims and its proposed solutions. As a result, the proposed bill vastly overemphasizes regulation to the dangerous detriment of the innovative benefits of Big Data for consumers and society at large.

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