Innovation Under Section 2 of the Sherman Act

• Author: Richard J. Gilbert and A. Douglas Melamed
• Position: Respectively, Emeritus Professor of Economics, University of California, Berkeley; and Professor of the Practice of Law, Stanford University
• Pages: 1-53

INNOVATION UNDER SECTION 2 OF THE

SHERMAN ACT

R

ICHARD

J. G

ILBERT

A. D

OUGLAS

M

ELAMED

*

Recent complaints filed by the Department of Justice, the Federal Trade

Commission, and numerous state attorneys general allege that Google and

Facebook acquired and maintained monopolies in violation of the antitrust

laws. The case brought by the DOJ and several states alleges that Google’s

payments for default status on devices that access the internet and its agree-

ments that require Android mobile phone licensees to install Google search

and other Google services deny rivals scale to compete effectively and thwart

potential innovation. The complaint alleges:

By restricting competition in general search services, Google’s conduct has

harmed consumers by reducing the quality of general search services (in-

cluding dimensions such as privacy, data protection, and use of consumer

data), lessening choice in general search services, and impeding innovation.

1

The FTC complaint against Facebook alleges that it engaged in conduct that

“deprives personal social networking users in the United States of the benefits

of competition, including increased choice, quality, and innovation.”

2

Google and Facebook have characteristics that set them apart from most

corporate goliaths that have attracted antitrust scrutiny in the past. They oper-

ate two-sided platforms that serve both consumers and advertisers. Consumers

do not pay a monetary price to query the internet using Google’s search en-

gine or to interact with friends on Facebook. Google and Facebook are able to

offer these services without monetary compensation because the services at-

tract consumer attention and enable the collection of personal information that

* Respectively, Emeritus Professor of Economics, University of California, Berkeley; and

Professor of the Practice of Law, Stanford University. We are grateful to Robby Robertson, the

editors, and anonymous referees for helpful comments.

1

Complaint ¶ 167, United States v. Google LLC, No. 1:20-cv-03010 (D.D.C. Oct. 20, 2020).

2

First Amended Complaint ¶ 9, FTC v. Facebook, Inc., No. 1:20-cv-03590 (D.D.C. Aug. 19,

2021). The initial complaint in that case used almost identical language. Complaint ¶ 27,

Facebook, Inc., No. 1:20-cv-03590 (D.D.C. Jan. 13, 2021).

1

2

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NTITRUST

L

AW

J

OURNAL

[Vol. 84

enhances the value of the services sold by the companies to advertisers. The

companies also stand out because they embody the rapid technological

change, and thus innovation, in online services that has transformed business

and leisure.

Although the Google and Facebook cases include allegations of price ef-

fects for advertisers, the most significant harm to consumers attributed to the

alleged conduct relates to the quality and innovation of services.

3

Concerns

about innovation were also addressed in the report of the majority staff of the

Antitrust Subcommittee of the House Judiciary Committee, which called for

heightened antitrust scrutiny of “products [that] appear to be ‘free’ but are

monetized through people’s attention or with their data,”

4

and in President

Biden’s recent executive order on promoting competition, which emphasized

the role of antitrust in promoting “competition and innovation.”

5

The emphasis on innovation in these documents might be just rhetoric or a

nod to the tech content of these cases. It might also signal an increased role

for innovation in the enforcement of Section 2 allegations in the high-technol-

ogy economy. If so, that would be a welcome signal. Innovation is far more

important for economic welfare than avoiding deadweight loss from monop-

oly prices.

6

3

See, e.g., Howard A. Shelanski, Information, Innovation, and Competition Policy for the

Internet, 161 U. P

A

. L. R

EV

. 1663, 1692 (2013) (“[C]ompetition policy for digital platforms

would benefit from further shifting its focus from conventional price and output effects to inno-

vation effects.”); see also Tim Wu, Taking Innovation Seriously: Antitrust Enforcement if Inno-

vation Mattered Most, 78 A

NTITRUST

L.J. 313 (2012).

4

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ECOMMENDATIONS

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OMPETITION IN

D

IGITAL

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AR-

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51 (2020), judiciary.house.gov/uploadedfiles/competition_in_digital_markets.pdf?utm_

campaign=4493-519.

5

Press Release, The White House, Executive Order on Promoting Competition in the Ameri-

can Economy (July 9, 2021), www.whitehouse.gov/briefing-room/presidential-actions/2021/07/

09/executive-order-on-promoting-competition-in-the-american-economy/.

6

Although proper accounting for the sources of economic growth is controversial, there is

general agreement that innovation accounts for a large share of total factor productivity. See, e.g.,

Robert M. Solow, Technical Change and the Aggregate Production Function, 39 R

EV

. E

CON

. &

S

TAT

. 312 (1957); Robert J. Gordon, Perspectives on the Rise and Fall of American Growth, 106

A

M

. E

CON

. R

EV

.: P

APERS

& P

ROCEEDINGS

72 (2016). Moreover, because deadweight loss is a

small fraction of total output, and productivity gains compound over time, a small change in the

rate of productivity growth can offset a large change in deadweight loss. See, e.g., Oliver E.

Williamson, Economies as an Antitrust Defense: The Welfare Tradeoffs, 58 A

M

. E

CON

. R

EV

. 18

(1968); F.M. Scherer, Antitrust, Efficiency, and Progress, 62 N.Y.U. L. R

EV

. 998, 1002 (1987)

(“If our concern were solely allocative efficiency—the deadweight loss triangle—then antitrust

could not be particularly important, since potential gains and losses are so small. . . .[I]f our

concern is technological efficiency, antitrust would be important indeed.”). Others have found

that the social rate of return to R&D far exceeds the private cost of capital, which suggests that

greater investment in R&D would add to economic growth. See, e.g., Charles I. Jones & John C.

Williams, Measuring the Social Return to R&D, 113 Q.J. E

CON

. 1119 (1998).

2021]

I

NNOVATION

U

NDER

S

ECTION

2

3

I. FRAMING THE ISSUE

In this article, we ask how consideration of innovation should affect the

analysis of alleged monopolization under Section 2 of the Sherman Act. Our

focus is on alleged suppression of innovation by a firm with monopoly power

in a product market or in research and development (R&D).

7

By suppression

of innovation, we mean a reduction in effort to improve existing products or

processes or to initiate development of new products or processes. In making

this assessment, we recognize that a reduction in R&D expenditure is not

necessarily synonymous with a reduction in innovation effort if the challenged

conduct creates R&D efficiencies.

A firm that, like Facebook or Google, supplies a “free” service on a two-

sided platform can profit by improving its quality or by creating new services

that it offers without monetary charge if, by doing so, the firm can attract

more attention on the “free” side that enables it to increase its revenues on the

other side.

8

Incentives to improve quality or develop new “free” services de-

pend on competition on both sides of the two-sided platform and on existing

services that might be displaced by new or improved services.

9

To sharpen our inquiry, we address hypothetical versions of United States

v. Google and FTC v. Facebook, in which the adverse consequences of the

challenged conduct appear only on the side of the platform for which consum-

ers do not pay a monetary price but instead compensate the platforms with

their valuable attention and data. Specifically, we assume that the revenue

side of our hypothetical two-sided platform is competitive.

10

Improvements to

the “free” or “attention” side of the platform allow our hypothetical firm to

increase advertising revenues but have no significant effect on the price or

total output of advertising. Moreover, our hypotheticals do not consider con-

7

See the definition of an R&D market in Part V infra, and U.S. Dep’t of Justice & Fed.

Trade Comm’n, Antitrust Guidelines for the Licensing of Intellectual Property 11–12 (2017)

[hereinafter Antitrust Guidelines for the Licensing of Intellectual Property], www.justice.gov/atr/

IPguidelines/download.

8

We place “free” in quotation marks because consumers pay for the services by providing

valuable data and attention to the platform for which they are not paid monetary compensation.

See generally John M. Newman, Antitrust in Attention Markets: Objections and Responses, 59

S

ANTA

C

LARA

L. R

EV

. 743 (2020) (explaining how consumers in “attention markets” trade their

attention for a platform product); Tim Wu, Blind Spot: The Attention Economy and the Law, 82

A

NTITRUST

L.J. 771 (2019) (describing “attention markets”); David S. Evans, Attention Plat-

forms, the Value of Content, and Public Policy, 54 R

EV

. I

NDUS

. O

RG

.775 (2019) (explaining

how consumers exchange “attention” for content).

9

See, e.g., James D. Ratliff & Daniel L. Rubinfeld, Is There a Market for Organic Search

Engine Results and Can Their Manipulation Give Rise to Antitrust Liability?, 10 J. C

OMPETITION

L. & E

CON

. 517 (2014).

10

For a discussion of competition in advertising markets, see, for example, James D. Ratliff &

Daniel L. Rubinfeld, Online Advertising: Defining Relevant Markets, 6 J. C

OMPETITION

L. &

E

CON

. 653 (2010).