The Senate Judiciary Committee hearing this afternoon on “The Impact of Consolidation and Monopoly Power on American Innovation” will likely, once again, focus on the misguided notion that large technology platforms are bad for small businesses, workers, consumers, and innovation. A number of the panelists will proffer the notion that more competition is linearly related to more innovation and that consolidation harms innovation.
In fact, business size and scale enable both innovation and competition. For instance, large firms in the pharmaceutical industry generate considerable innovations. As noted economist William Baumol pointed out in his 2002 book The Free Market Innovation Machine, some degree of market power is necessary to recoup firms’ R&D investments and fund future innovation. Indeed, the flourishing digital innovation ecosystems that exist today result from past and ever-increasing R&D investments made by the disruptive platforms Congress now seeks to regulate.
By focusing on firm size instead of firm conduct, Senator Amy Klobuchar (D-MN) and her colleagues overlook the benefits of these innovative business models to the very groups they seek to protect.
Current proposals in Congress, including the Klobuchar-Grassley bill, would restrict the innovative ways in which the large technology platforms have chosen to recoup their past R&D investments to offer cheaper and innovative products and services to consumers.
With today’s hearing, Senator Klobuchar expects to gain congressional support for her bill with Senator Chuck Grassley (R-IA). However, the Klobuchar-Grassley bill seeks to limit the ability of large technology platforms to exercise market power even though such market power results from and generates innovation. The bill prohibits certain types of conduct only for a few targeted platforms, such as (1) preventing another business’s product or service from interoperating with the dominant platform or another business; (2) requiring a business to buy a dominant platform’s goods or services for preferred placement on its platform; (3) misusing a business’s data to compete against them; and (4) biasing search results in favor of the dominant firm. These restrictions pose a risk to the consumer benefits arising from innovative business models and future R&D investments on which innovation relies.
The potential detrimental impact appears, for example, in the market for mobile operating systems. Both Apple and Google have developed successful mobile operating systems but differ in how they recoup their R&D investments in these platforms. Apple operates a closed system which it monetizes by charging for access to its ecosystem, while Google operates an open operating system which it monetizes through search advertising. Consumers who are particularly concerned about privacy benefit from the privacy-conscious features of Apple’s closed ecosystem, and consumers who value inexpensive devices benefit from the competition brought by Google’s open ecosystem. Furthermore, because Apple and Google compete with one another to attract new users to their ecosystems, consumers also benefit from the competition between these two differentiated platforms. Competition takes place within digital ecosystems between app entrepreneurs and, most notably, between these ecosystems’ business models.
The Klobuchar-Grassley bill would require Apple to provide full interoperability with its mobile operating system merely because of the size of its platform without any consideration of the effects on consumers or innovation from those restrictions. The bill would also limit competition by preventing Apple and Google from competing with the app developers on their platforms at the expense of consumers. It is crucial that Senators do not lose sight of the different layers of competition across integrated and innovative companies.
Competition by a platform owner with the app developers on its platform is not necessarily harmful to the developers or innovation. Competition from large firms with small firms is competition and not necessarily a harm to the small rivals’ innovation potential. Some products are not easily protected by intellectual property rights, or when they are, the protection may not be effective. Entrepreneurs or small businesses developing new apps should expect competition from similar apps produced by rivals—including the platform operator—when the intellectual property protection for apps is weak. However, being the first to develop an app gives the developer a head start over rivals. Therefore, the development of an app may still be profitable even if imitation is expected. And imitation remains an innovation that benefits consumers.
Economists have long understood (see, for example, Michael Katz and Carl Shapiro’s 1987 American Economic Review article) that imitation might limit the returns from the original innovator. Still, it need not eliminate the incentive to innovate. Rather, imitation spurs other firms to innovate as economist Phillipe Aghion and others describe the escape-competition innovation effects: Firms innovate to escape the close rivalry with other firms. Hence, imitation appears not to be anti-competitive, but rather procompetitive: Firms start competing through innovation. Furthermore, consumers benefit from the increased competition bought about by the imitation of rival app developers.
To prohibit competition through innovation, imitation, and other product improvements only because the targeted firms are large will likely generate considerable unintended consequences from such regulatory prohibitions. As the example of mobile operating systems demonstrates, lawmakers should not underestimate the harm to consumers and innovation from ex-ante regulation that focuses on firm size. Congress should refrain from adopting ex-ante prohibitions based on firm size, such as the prohibitions in the Klobuchar-Grassley bill.
Consequently, instead of a blanket ban on specific types of conduct by large technology platforms, today’s hearing in particular, and lawmakers in general, should bear in mind that antitrust enforcement should rely on a rule of reason approach—as courts have long done—to assess the state of competition in the context of the relevant contracts between the platforms, their customers, and consumers. Else, antitrust may again hurt United States competitiveness and innovation.