Competition

David Balto and Matthew Lane, antitrust attorneys, have authored a guest paper for DisCo on innovation in the music delivery sector.  David previously served as Policy Director at the Federal Trade Commission’s Office of Policy and Evaluation, and attorney advisor to the FTC chairman.

There is no doubt that we live in exciting times.  New technologies are constantly emerging that promise to change our lives for the better.  These disruptive technologies give us an increase in choice, make technologies more accessible, make things more affordable, or give us a voice.  However, disruptive innovations do not hit all areas of our lives equally.  There are some industries that are controlled by companies that don’t want to be shaken up and have the power to prevent it.  These consolidated industries are an anathema to disruptive innovation.  So how do we enable disruptive competition in these industries?

One answer is found in our competition enforcement agencies and the oversight they can achieve through antitrust enforcement and consent decrees secured when cases are brought.  The important role of consent decrees is often overlooked.  A properly constructed consent decree between the government and a company accused of anticompetitive behavior can restore competition and foster new competitive entry.  Permitting entry is vital to disruptive innovation because much of this innovation comes from start-ups and new entrants. MORE »

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We have been a little boozy here at DisCo.  A couple of years ago myself and my colleague Matt Schruers had a mini blog symposium of sorts where we used alcoholic anecdotes to illustrate larger policy points about the nature of competition and innovation.  Last week, fellow DisCo writer Ryan Heath used a Belgian beer example to illustrate the success of crowd funding.  In this post, I turn to U.S. beer regulation and market structure as an illustrative example of a phenomenon that has plagued the tech world: out-dated regulation that artificially props up legacy middlemen and harms innovative competitors.

Against that backdrop, let’s turn our attention to a fight brewing in Florida between craft brewers and beer distributors (and the major beer brands) in the state legislature.  At the end of last week, a Florida Senate Committee approved a bill that would allow craft brewers to sell 64oz growlers to their consumers.  Presumably, the bill will soon be voted on by the full Senate.  Similar legislation is also winding its way through the Florida House.  According to the Sarasota Herald-Tribune, the bills “could make it easier for grocery stores to sell hard liquor and brew pubs to sell more of their products.”

Currently, in Florida, it is unlawful for breweries to sell half-gallon size growlers — a staple product for craft brewers seen as the “industry standard” — to consumers.  This is because Florida, like all other states (except for Washington), utilizes a “three-tiered” alcohol distribution structure where (1) wholesalers are required to sell to (2) distributors who then sell to (3) retailers.

Florida has an exception to the three-tiered system, however: A law pre-dating the rise of craft breweries, which was designed to allow beer giant Anheuser-Busch to sell beer directly to consumers in the days when they owned the Busch Gardens theme parks, allowed craft brewers to pour pints and sell cans on their premises (thus avoiding beer distributors).  Under the complex and capricious Florida beer laws, craft breweries were able to sell quarts and gallon jugs of beer, just not the popular half-gallon size.  When legislation last year looked poised to fix this curious 96 ounce exception, it was derailed by language added at the behest of beer distributors.  The new language required, among other things, craft brewers to sell their wares to distributors who would then sell it back to them (at a healthy markup, of course) before they would be able to sell them to brewery visitors!  With their typically smaller profit margins, craft brewers — who often face a daunting journey just to turn a profit — saw this unnecessary layer of costs as a threat to their businesses.  In fact, “holding the growler hostage” was merely a strategy of “Big Beer” to attack the craft brewers’ right to sell directly to consumers.  (They said so themselves.)  The craft brewers — in good disruptive innovator fashion — turned to Indiegogo to fund their lobbying efforts against big beer.

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Big data, and its effects on online markets, has been thrust into the center of the tech policy chattering class debate.  In the last few weeks, events have been held on both sides of the Atlantic focusing on the concept of big data as an entry barrier.  (The topic has also come up in speeches by FTC Commissioners [and a paper], in discussions surrounding the EU’s forthcoming Digital Single Market strategy, and is the frequent topic of recent academic writing.)  Specifically, the concept being debated is whether the accumulation of data by Internet companies hinders competition because the new entrants will not be able to compete effectively with the first mover in the marketplace.  In this post, I will address why startups and entrepreneurs should not be overly concerned.

In a stylized view of the Internet economy, as a platform (such as Google, Facebook, Amazon, Pinterest or Twitter) achieves scale and gains users, it acquires more data.  This data leads to product improvement, which leads to more users and, subsequently, more data.  The process repeats.  According to proponents of the data as a barrier to entry theory, this leads to an unbreakable positive feedback loop that makes effective competition impossible.

However plausible this argument sounds, a review of the short history of the Internet economy, which has been characterized by intense competition and frequent disruption, seems to cast doubt on the soundness of the theory.  (See Andres Lerner’s discussion of the User Scale – Service Quality feedback loop.)  Besides the common examples of Facebook overtaking Myspace and Google overtaking prior search competitors (who, at the time, were predicted to be unassailable largely on account of the User Scale – Service Quality feedback loop discussed above), a casual look at online markets illustrates how competitive the market is.  Why are online markets so competitive even though some firms are believed to have an unassailable advantage in big data?

First, this view of Internet markets is extremely simplistic.  Data is just one input of many in the process of innovation and market success.  Second, unique economic characteristics of data — such as it being non-rivalrous and the diminishing marginal returns of data — mean that the accumulation of data, as opposed to other barriers to entry like intellectual property portfolios or high-fixed capital costs, in and of itself does not function as much of a barrier at all.  When you couple these characteristics with the fact that data, and the tools to use and analyze data, are readily available from numerous third party sources, the notion of an iron-clad data feedback loop falls apart.

I’ll break this down piece by piece.

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Today, the Wall Street Journal published an article after getting its hands on a confidential FTC memo from the now settled U.S. antitrust investigation of Google.  The document, an internal memo by the FTC’s Bureau of Competition recommending that that the Commission proceed with an antitrust case against Google for a variety of allegedly anticompetitive actions, was mistakenly released in response to a FOIA request.  The Journal also reports that the FTC’s Bureau of Economics disagreed with the Bureau of Competition, recommending that the agency not proceed with charges — a recommendation the agency ultimately followed.  Also, and perhaps most interestingly, the Bureau of Competition’s recommendation advised against proceeding with the most high-profile accusation, search bias, which is now the focus of the European Commission’s competition investigation.  As most DisCo readers probably remember, the FTC eventually voted to close its investigation of Google (and dismissed the search bias accusations outright) after the company addressed several of the practices outlined in the Bureau of Competition’s memo.

Although the WSJ article is certainly an interesting read, the fact remains that there are many checks and balances within the FTC and — with the benefit of hindsight — it is pretty clear that the Commission’s decision not to proceed on the charges of “search bias” was the right call.

Let’s look at what has happened in the marketplace since the FTC settlement.

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We in Europe know that petrol (gas) prices are usually double that of the United States. Vehicle ownership can overall cost you EUR10,000 annually. All this makes transport systems ripe for disruption in the digital era. Throw in ongoing high unemployment and economic uncertainty, and the enablers of disruption – like  collaborative consumption – have shifted from nice idea to necessity for many.

It is this sharing economy that has fuelled increasing disruption in the field of mobility. Until recently mobility had been enhanced by services like apps for maps and transit timetables, but was yet to be truly disrupted as media, music and travel bookings have been.

Now digital innovation and the competition it fuels is coming thick and fast. There are hundreds of taxi apps alone, offering their platform to consumers for free. The lack of lock-in has been a consumer boon: the apps have to impress immediately or the customer will ditch them. Which is about as far away from the old taxi cartels as can be imagined.

But are Uber-headlined fights with legacy systems and regulators the full story? Is the US the source of the best innovations? I would say no. In hindsight, 2014 was the year that a diverse range of European innovators started to reach critical mass at home and achieve major expansion globally.

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European digital policy debate is in flux. In the new uncertain mix we find new EU leadership figures; gridlocked legal proposals on data protection; Parliament nakedly chasing after Google; and posturing by the French and German governments to ban or regulate certain platforms in order to create ‘platform neutrality.’

This final demand occupied the minds of panelists at a recent CCIA event at Bloomberg last week. It was a relief to hear figures such as Kaja Kallas MEP, Chris Sherwood (Allegro Group), Adam Cohen (Google) and Brian Williamson (Plum Consulting) agreed that the shadow boxing needs to end. They collectively pinned down the problem: Europe can’t afford to be fighting imaginary opponents or dancing around the issues holding back digital companies. Europe keeps trapping itself by looking backwards.

For Kallas, the invention of debates around ‘platform neutrality’ is “protectionism in disguise.” She’s not wrong. The French and German governments have failed to make an adequate case about why certain digital companies need special regulation ; they simply resort to alluring phrases and words like ‘neutrality.’ This tactic dresses up the favours they’d like to do for Europe’s non-existent search engine champion, but it doesn’t change the market reality. Digital innovations are continuing to integrate into the economy, meaning the idea of ‘platform neutrality’ is quickly moving from the category of ‘flimsy’ to ‘irrelevant.’

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Tuesday night’s The Daily Show interview of Abbi Jacobson and Ilana Glazer, the creators and stars of the Comedy Central TV show Broad City, underscores the transformative role of the Internet in democratizing the entertainment industry.

Jacobson and Glazer launched Broad City in 2009 (when they were 25 and 21) as a web series on YouTube. The 25 episodes about the misadventures of two Jewish women in their 20s in New York City built a cult following and attracted the attention of Amy Poehler. Poehler helped migrate Broad City to the Comedy Central cable network (owned by media giant Viacom), and Poehler now serves as one of the show’s executive producers.

During Tuesday’s interview, Jon Stewart said that because of the Internet, “it feels like there’s more opportunity than there ever was for people” to break into comedy. “It’s been democratized to some extent.” Jacobson and Glazer agreed. Stewart then asked, “Do you think a show like this, voices like yours, unique and joyful, could have gotten on the air without the Web?” Jacobson and Glazer replied no.

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On two sides of the country yesterday two branches of the federal government engaged in legal processes likely to affect competition in the music industry.

As DisCo previewed, yesterday the Senate Judiciary Committee’s Subcommittee on Antitrust, Competition Policy, and Consumer Rights considered the competitive challenges in the music publishing industry, and the effects on competition, innovation, and consumers.  Witnesses from across the music ecosystem discussed the continued need for the consent decrees.  Several urged that the consent decrees be strengthened with additional transparency safeguards, while others claimed they may no longer be necessary (at least in theory if you ignore all transaction costs and have a perfect marketplace).  Over the last year alone, four federal courts have found evidence that the same publisher behaviors that gave rise to the consent decrees in the first place still continue today, suggesting that the consent decrees remain necessary to curtail anticompetitive behaviors.

Just as the Senate hearing ended in D.C., jury deliberations in the Blurred Lines case (which we covered when Robin Thicke initiated the litigation by filing for a declaratory judgment) resumed in California, ultimately ending in a judgment against Robin Thicke and Pharrell Williams, for millions in actual damages plus profits.  Several observers have said that is “horrific” and “really dangerous”, as well as “a bad result” that is “bad for pop music” and “could make songwriting and recording a minefield for every artist”.

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Günther Oettinger, the European Commissioner for Digital Economy and Society, recently gave a keynote address at the #Digital4EU Stakeholder Forum, in which he discussed the importance of a Digital Single Market in Europe and uniform Internet regulations.  He also spoke of the need for Europe to catch up in digital innovation.  Although I plan to address some controversy in the remarks, it is important to note that much of what Oettinger said was on target.  Streamlining digital rules across the 28 member states of the European Union and ensuring that Europe produces (and attracts) more programmers and IT experts will go a long way to making Europe even more competitive in the digital economy.  (I have also discussed some other issues not addressed by Commissioner Oettinger, which would also go a long way into making Europe more competitive.)

On the more worrying side, Oettinger’s speech veered fairly overtly into jingoistic territory:

The Americans are in the lead, they’ve got the data, the business models and so the power… They come along with their electronic vacuum cleaner and suck up all the data, take it back to California, process it and sell it as a service for money.

This is not surprising.  Politicians playing to a domestic audience is par for the course.  Furthermore, consumers and innovation across the world benefit from more competition, whether it comes from Silicon Valley, Berlin or Beijing.  Besides a stylized version of how Internet companies actually operate, what was misguided is the notion that using the size of European markets (the EU is the world’s biggest economy) to drive companies to adopt European regulatory standards as the de facto global standard is going to benefit European companies (whether they benefit consumers is an entirely different matter).  This was an implicit assumption underlying Oettinger’s remarks, and was made explicit in other commentary from top European politicians:

Still, said Jan Philipp Albrecht, chief negotiator for the European Parliament on the EU’s new data protection law, “If you can achieve…a standard [globally] that is somehow near…your own, then this is an advantage.”

The Wall Street Journal surmised the takeaway from this series of statements as:

Their hope: As rules such as the right to remove Web links to personal information spread, European companies would get a leg up in the next era of Internet commerce.

But is this correct? To answer that question, it is helpful to break down this line of thinking into two questions: (1) whether large markets can drive regulatory norms, and (2) whether high levels of regulation would advantage European enterprise.

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At a hearing on Capitol Hill tomorrow, a Senate subcommittee will hear different perspectives on the degree to which competing music publishers should be permitted to coordinate licensing activities through performing rights organizations (“PROs”), such as ASCAP.  Music publishers have expressed a desire for fewer antitrust constraints on their coordinated behavior, while users and distributors of music will call for greater transparency in the music marketplace.

The hearing occurs during an ongoing Justice Department review of the consent decrees that govern PROs.[FN1] Music publishers and PROs are presently subject to oversight to the extent that PROs coordinate behavior among publishers who ostensibly should compete with one another.  Competitor coordination usually violates antitrust law, but because collective licensing also helps reduce the high transaction costs in music licensing, exceptions have been made for PROs.  A PRO can offer a single performance rights license to a user or distributor for all the works controlled by multiple publishers – one-stop shopping for a huge number of works.  But because one entity is nevertheless coordinating business transactions for a large group of companies that should be competing, antitrust oversight remains necessary.

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