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Re: Your Microsoft Alternative to Antitrust

  I've been slow catching up, but I wanted to add some further thoughts to
  Charles Mueller's initial reaction to my "Only the Free World Can Stop
  Microsoft" posting.
  Mueller wrote:
  >        I've been privately asked to comment on a non-antitrust remedy to
  >the Microsoft monopoly.  The following is my response.
  >        You ask for my reaction to your Microsoft proposal which, as I
  >understand it, is to create some kind of consortium of software users that
  >would come up with the money to develop FREE software, thus undermining the
  >monopoly power of that firm (and others with dominant shares of particular
  >software "niches").  You view this as a superior alternative to any
  >antitrust remedies since, in your analysis, scale economies are so vast in
  >the software industry that it can never have more than 1 firm in each
  >niche--and thus can never be made price-competitive.
  Actually, I do allow the possibility of having more than one firm in a niche,
  as long as they do not egage in destabilizing price competition. However,
  this rarely happens, since investors overwhelmingly tend to seek new niches
  (which they can possibly come to dominate) rather than challenging existing
  niche market leaders.
  Given the advantages of dominance, antitrust enforcement would have to
  be extraordinarily vigilant to maintain a balance of a half-dozen or more
  firms in a niche (the number you recommend below), and the track record
  of antitrust enforcement in recent history is not encouraging. Moreover, to
  even the odds one would actually have to stack the deck against Microsoft.
  It is easy to imagine the howls that would elicit, especially against the
  backdrop of the backlash against affirmative action.
  Fwiw, I think it's a good thing that Microsoft is getting an education in
  antitrust law, and that the public is getting an education in Microsoft. But
  if what we really want is competition, the more direct, ultimately more
  powerful approach would be to support a force that really can compete
  with Microsoft and its ilk: free software.
  >        The idea of defeating monopoly by making an equal or superior
  >substitute product available at zero cost to the public is certainly an
  >appealing one.  But can a group of users really be found that would put up
  >the development money and then give away the fruits of its investment?  None
  >of the software companies would have an incentive to do so nor would, say,
  >the general consumer (the home user and the smaller businessman).  The
  >Fortune 500, though, the big companies who currently have large yearly
  >expenditures for software?  Even if it was clear that their individual cost
  >savings via the consortium would exceed their contributions to it, there
  >would still be the so-called "free-rider" problem:  Each would have a
  >powerful incentive to "let the other guy" to bear the load of funding the
  >development of your free software--and then helping themselves to it at zero
  >cost, i.e., reaping where they had never sown.
  The "free-rider" problem is a real objection. (I discuss it in my Notes as the
  "game theory" problem.) It depends on people recognizing that it is in their
  best interests to contribute. The main area where people do this now is in
  giving to charities, so it is not unheard of, but it would certainly be a
  in the software industry.
  >        Secondly, would your proposal be legal under the antitrust laws?
  >You can be sure that, if your consortium should be successfully organized
  >and begin to offer an effective substitute for Microsoft's Windows, for
  >example, at a zero price, Bill Gates' lawyers would promptly file a
  >multi-billion lawsuit under the antitrust laws against its members charging,
  >for starters, (a) conspiracy and (b) predatory (below-cost) pricing.  And he
  >might have a winnable case:  A zero price is about as "predatory" as it can
  >get.  And if the product's quality was equal to or better than Windows--and
  >should be accepted as such by the consuming public--his market share would
  >of course start sinking like a stone, his price would collapse to near zero,
  >and Microsoft's STOCK price would similarly hit the skids.  Bill's $40
  >billion fortune would be promptly wiped out--which is to say he would be
  >able to demonstrate to the courts that he had been "damaged" in an
  >unprecedented amount.
  The free software that my proposal should ultimately generate would have
  been solicited by thousands of independent individuals and organizations
  all around the world, and created (and presumably owned) by thousands
  of independent individuals and organizations all around the world, through
  a public, competitive request mechanism coordinated by dozens of
  independent organizations. (The numbers here are modest examples;
  they could conceivably be much larger.) Most conspiracies are the work
  of small numbers of people working in secrecy -- not large groups working
  publicly. Once the free software has been developed, the only thing to do
  is to make it publicly available. There is zero cost to doing so (beyond
  delivering the first copy that was contracted and paid for), so a zero price
  on additional copies cannot be predatory.
  Of course, I'm not a lawyer, so I have no idea whether the antitrust laws
  were written in such a way as to provide insurance that Bill Gates'
  fortune cannot be wiped out by evaporating demand. But that would
  seem to be contrary to the general impression that the purpose of
  antitrust laws is to protect the many from the power of monopoly. I'm
  not aware of monopolies ever having required goverment help to
  protect themselves from their customers.
  >        Thirdly, the traditional remedy for the scale-economy situation you
  >attribute to the software industry is public REGULATION of the monopolist's
  >prices.  If, as you say, the industry is inherently monopolistic--unable to
  >efficiently accomodate more than 1 firm in each of its various markets
  >(niches)--then it is properly described as a "natural" monopoly (defined as
  >having a declining unit cost curve over its entire range of demand/output)
  >and cannot be allowed to continue extracting those monopoly prices from the
  >public.  Transportation (railroads, trucks, airlines), utilities, and so on
  >are examples of industries where competition was considered inadequate to
  >restrain prices--and therefore a public body (commission) had to be created
  >to do the price-setting.
  I thought that "natural monopoly" referred to cases where one company was
  granted an exclusive right to make use of a limited physical resource or
  access (such as the right to deliver electricity to houses), a definition that
  would not apply, given that software companies usually achieve monopoly
  positions by dominating their market niches. By your definition, software
  companies should indeed be treated as natural monopolies, where some
  of these (e.g., operating systems) are more important than others. It would
  make sense to strictly regulate Microsoft's operating system business, not
  just in terms of its pricing as in Microsoft's ability to change the OS, but
  also in terms of its ability to provide access to non-regulated parts of the
  company. Sounds good. Also unlikely.
  >        Fourth, what you describe as scale economies--the ability of
  >"established companies to defend their market share by reducing their prices
  >to practically nothing, making price competition SUICIDAL for newcomers,"
  >i.e., making it "impossible to compete with an established dominant player
  >on the basis of lower costs"--sounds like something quite different to me,
  >namely, a classic case of predatory (below-cost) pricing to exclude
  >competitors and thereafter extract monopoly prices from the consuming
  >public.  If Microsoft's costs of Windows were properly
  >allocated--development, reproduction/distribution, and so on--would Gates
  >really be able to destroy newcomers without pricing below his own costs?  My
  >guess is that he would not.  The monopolist--in his arrogance and
  >complacency--almost always has far higher unit costs than his newer,
  >smaller, and more nimble challengers.
  For most goods, the unit price is dominated by manufacturing costs, where
  monopolists generally do not have much advantage. For software, the main
  cost is marketing/sales (not development). Once a software company is
  successful enough that it has paid for its initial development debt and can
  pay for its ongoing development from its gross margins, amortization of its
  development costs has no practical significance: Development's done,
  paid for, contributes zero cost to every future transaction. That's tough to
  compete with, and on top of that a challenger would have to raise huge
  amounts for marketing/sales expenses. Microsoft, of course, with its
  power to set standards, work on inside information, make technology
  deals, and subsidize one niche with another, is a tougher challenge than
  most. The result is that nobody challenges Microsoft, at least head on.
  The only niches where Microsoft has competition are the ones where
  other companies gained the dominant hand first. That Microsoft struggles
  with a Quicken or Netscape just underscores how tough it is for anyone
  to challenge a dominant niche player.
  >        Finally, the traditional antitrust remedy for monopoly is
  >dissolution, e.g., the break-up of AT&T (which cut average prices by some
  >50%).  Why not propose the same for Microsoft?  It's really not all that
  >complicated.  The mechanism used is called a "spin-off," i.e., a
  >paper-shuffling chore for the lawyers.  Microsoft, with its current 90%
  >share of the OS market, would spin off a handful of "Baby Softs" (comparable
  >to the Baby Bells), say 7.  Microsoft's stockholders, for each share owned,
  >now receive 1 share in each of the 7 new "Baby Softs."  All of the
  >latter--which now have separate managements--are competing sellers of
  >Microsoft products, each with 1/7th of its 90% OS share, for example, or
  >about 13% of the national market.
  AT&T stock was very widely held: splitting it up left management effectively
  in charge, because no stockholders had enough sway to coordinate the
  separate managements. If Gates owns 30% of each of 7 "Baby Softs",
  he should effectively be able to control all 7 of them. Dissolution would
  have to go further than usual here, because the ownership and for that
  matter the technology are so closely bound. It would require a detailed
  level of regulation and/or an unbalanced redistribution of stock, both of
  which are unprecedented in US antitrust practice. If you can figure out
  a way (and find a will) to do this, great! But anything short is unlikely to
  >        Is 13% of the OS market sufficient to exhaust all economies of
  >scale?  My guess is, yes.  Indeed, I would expect that, with 7 competitors
  >in that software "niche," costs and prices would both start to fall
  >dramatically.  Monopoly is the mother of inefficiency, as Adam Smith
  >reminded us.  2 competitors are always better than 1--and 20 are better than
  >2--better in the sense of lower prices, higher quality, and more rapid
  Sure, an OS split seven ways would exhaust all economies of scale.
  It would crash faster than MS-DOS 4.
  >        It's real competition the software industry needs, in my view--half
  >a dozen or more aggressive firms in each of its various markets
  >(niches)--not a collusive consortium, whether of producers or users.
  I think my proposal would give you much more competition, both within the
  free software arena and with and between commercial software companies.
  In the free software arena, any user could pick and chose from anything
  available, and commission more work whenever needed, while developers
  can build on each other's work, making themselves more efficient while
  negating the possibility of ever building up an insurmountable edge.