The New Monopolies

Have America's big Internet companies become too powerful?

Twenty-nine years ago, on Jan. 1, 1984, the Bell Telephone Company ceased to exist, having been broken up into smaller firms by the U.S. government. Bell had controlled the American telephone network since its inception, and this control gave it an unfair advantage in selling a variety of goods and services used for communication. Fast-forward to today: If the same were true for a global Internet giant like Facebook or eBay, could consumers still be protected?

Only a few Internet companies have reached a scale that raises questions about competition, but each has at least 100 million customers. So far, legal authorities in the United States and elsewhere have scrutinized them mainly when they have pushed into markets on the fringes of their own business, as in Facebook's attempt to prevent other software from complementing its own system or Google's use of its search engine to influence consumers' purchasing decisions. Last week, the United States decided that Google's behavior did not discourage competition.

But Google is different from Facebook and eBay. The usefulness of Google's search engine depends only indirectly on how many other people are using it; for Facebook and eBay, the network of other users is of central importance and can guarantee customers' loyalty, even when they feel mistreated. Despite this potential drag on competition, however, the companies' market shares in their core lines of business have not come into question.

That's unusual, since they have been completely dominating their markets. Depending on how you measure, Facebook may account for as much as 95 percent of the time Americans spend using online social networks. As of a few years back, eBay had 90 percent of the online auction markets in the United States and Europe. With that market locked up, it's now competing with Amazon for regular retail sales.

A simple reason for the companies' free pass may be that they charge very little or nothing for their services. Facebook's famous pledge "It's free (and always will be)" may help to insulate it from antitrust claims. And indeed, one of economists' primary concerns about dominant firms is that they will gouge consumers, or at least raise prices in a way that pushes some buyers out of the market. But economists also worry that a dominant firm will erect barriers to keep other companies out of its primary market.

The lack of competitors hurts consumers, too, by blocking the introduction of new and potentially better products -- for example, a social networking site that gives users easier control of their content and privacy. Clearly, promising to offer a service for free does not solve this problem. If it finally becomes clear that Facebook's network is so enormous that no other social network can break into the market, then its own business may become a target for regulators.

In Facebook's case, such action may be premature. After all, Friendster and Myspace were apparently strong incumbents before being quickly supplanted. Other companies, like eBay, may not escape so easily. Like Facebook, eBay has an enormous network of registered users, but it does charge for its services. It has not faced any serious competition during most of its existence, and its global presence is growing, with more than three dozen markets so far totaling almost $2 billion in quarterly revenues. The question is whether regulators will see online auction services as a discrete market, rather than just one of many ways of selling stuff.

Sooner or later, a regulator somewhere in the world is bound to take a crack at one or more of these companies on the basis that their networks constitute barriers to competition. If the challenge is successful, the outcome will be very different from what happened to Ma Bell. A case against Facebook in a small country might simply lead the company to stop offering its services there. In the United States or the European Union, that might not be an option.

A company like Facebook cannot simply be carved up into geographical regions or have some services separated from others. Its product is a holistic user experience, and -- if necessary -- it could serve the whole world from a single base of operations. Creating a slew of mini-Facebooks that covered consumers from different states or countries wouldn't remove any barriers, either, since the network and its uniform product would undoubtedly stay intact; dismantling such a popular product would probably end up hurting consumers more than helping them.

What are the alternatives? Governments could try to prevent Facebook from offering new services, in order to give new entrants a fighting chance. A more extreme possibility would be to nationalize the company or turn it into a public trust, forcing it to be run for consumers' benefit. In eBay's case, the solution might be to regulate its prices, as governments already do with utilities like water and electricity.

Yet any remedy that threatened to damage the company's business or its value to shareholders could ultimately be ineffective or even counterproductive. Facebook, eBay, or any other Internet company could just relocate its headquarters to a friendlier regulatory climate, taking thousands of jobs with it -- but with no interruption in its services. After all, the United States and the EU aren't in the business of blocking websites the way China and many Middle Eastern countries do.

It's tough to find a solution that would truly promote competition without destroying the Internet giants' valuable contributions to the global economy. These companies are part of a new species of global business not anticipated by decades-old antitrust legislation or standard theories of industrial organization. Right now, the world doesn't have the right jurisdictions, tools, or even ideas to deal with them. So do we just have to live with their virtual monopolies, whatever prices they decide to charge and whatever services they deign to offer?

Not necessarily. When government fails to act, or can't, consumers still have a choice. In early December, changes to the policy on ownership of photos at Instagram, a Facebook subsidiary, led to outcries among users and in the media. Even though Instagram dropped the changes after three days, thousands of users had already switched to or at least tried other services.

The next step is for consumers to organize themselves so that they can confront potential abuses. If they speak with one voice, the companies will listen and even consult with them before pursuing new strategies. Why? Because the billion-plus Facebook and eBay users aren't just customers -- they're also the companies' most important assets.


Daniel Altman

Chicken Run

The politicians are playing a dangerous game with the global economy -- and with Americans' pocketbooks. But the voters get the last move.

With only a few days to go before Americans' tax rates rise and the U.S. federal government runs out of money, clearly the stakes in the "fiscal cliff" debacle are enormous. There may be an 11th-hour deal, but a more likely outcome is that Congress and the White House will continue their game of chicken, crash the economy, and then try to pick up the pieces as quickly as they can. Yet knowingly or otherwise, they are incurring a much greater risk than just short-term financial havoc.

As several commentators have already noted, the negotiations between President Obama and the Republicans in Congress have taken the form of the Prisoner's Dilemma from game theory. If either side gives in, it stands to lose a lot. If neither side gives in, the outcome will still be bad for both. If the two sides can find a way to cooperate, they'll both do pretty well. But paradoxically, whatever the opponent does, each side will always expect to do better by sticking to its guns.

Inevitably, game theory predicts an impasse: Neither side will compromise, and negotiations will fail. This is what Harry Reid, the majority leader in the Senate who has been stuck in the middle of the talks, predicted this week. But the game may not be a true Prisoner's Dilemma, since the White House may stand to gain more with no deal than with a cooperative outcome. Congress already has a measly approval rating of 18 percent, versus more than 50 percent for Obama. If the Republicans in the House and Senate take most of the blame for sending the nation over the cliff, the Democrats may be able to regain their majority in the House in 2014.

Either way, both sides in the political fight are acting in an outrageously self-serving manner. The Republicans don't want to seem weak, and they're hamstrung by absolutist pledges not to raise taxes. Obama wants to keep his electoral promise to raise taxes on high-income families, and Democrats are hoping to tighten their grip on power. Tragically, no one seems to be thinking about the economy and the millions of Americans who are still unemployed.

Yet they should be, even if only for selfish reasons. In reality, the quasi-Prisoner's Dilemma playing out in Washington is a game within a game. The bigger game, and by far the more important one, is between politicians and the American people.

In this game, politicians make the first move. They can reach a deal on the fiscal cliff, or not. If they don't, the American people will suffer, just as they suffered through the manufactured and unnecessary debt crisis in 2011. Markets will fall, spending in the private sector will drop, and the economic recovery will stall, or worse. Even if the politicians in Washington manage to cobble together a deal within a couple of weeks, plenty of damage will still be done. Volatility and a flurry of reactive buying and selling will add wasteful friction to the economy, and investors around the world will rightly see the United States as a riskier place to do business.

The next move will go to the American people: They will decide how much to trust their leaders and the political system as a whole. Of course, politicians aren't generally known as the most trustworthy folks. But for decades, Americans' trust in government -- and particularly the federal government -- has been falling. An event like this could reduce it even further, at least for several years.

That would be a shame, since trust in government does matter. For one thing, people who don't trust government are much more reluctant to pay taxes. This doesn't just mean they want lower tax rates; it means they will try harder to avoid taxes, whatever the rate may be. As a result, society will be able to afford fewer of the public goods that only government can purchase on its behalf, ranging from cancer research to the Coast Guard. There's no doubt that some spending by government is wasted, but these true public goods are essential for economic growth and high living standards.

Trust in government also affects how much people obey society's rules. If they don't respect their leaders, they won't necessarily respect the laws their leaders are sworn to uphold. In a society where politicians are seen as incompetent bumblers, people may feel that they have a right to set their own rules and act accordingly. This, too, can be a problem -- try it at a traffic light and see how it works out.

If the American people decide not to trust their leaders, politicians will have less power: less power to tax, less power to invest in the nation's future, and less power to legislate effectively. Even the most venal politician ought to realize that less power might not be so good for business. And with this in mind, the leaders on both sides of the aisle may wish to reconsider their uncompromising stances on the fiscal cliff.

Doing something -- even something that seems like capitulating in the short term -- may be far better in the long term than doing nothing. The alternative is simply one more small step toward anarchy.

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