It's High Tide Again in Internet Markets

• Jurisdiction: United States,Federal
• Author: By Josh Palmer
• Publication year: 2020
• Citation: Vol. 30 No. 2

IT'S HIGH TIDE AGAIN IN INTERNET MARKETS

By Josh Palmer¹

"The Internet is a tidal wave. It changes the rules." When Bill Gates wrote this in an internal Memo to his executive staff in May 1995, it was in large part a warning that Microsoft had to focus on getting to the forefront of this wave or else have its dominant position in computing washed away. Microsoft's ensuing practices would result in the United States Department of Justice (DOJ) filing an antitrust case against the company in 1998. A multitude of private actions in the U.S. followed, as did similar cases globally.

Twenty-five years after Gates's memo, the Internet tidal wave seems to be cresting again. This time in the form of looming antitrust cases against companies that have enjoyed large success, by developing digital platforms that leverage the Internet (and other) capabilities Bill Gates highlighted in his Tidal Wave Memo.

In this article, I briefly review Microsoft's conduct pursuant to Gates's memo and the antitrust cases against Microsoft that followed. I then review the economic and antitrust lessons from the Microsoft cases as espoused by the authors of a widely used industrial organization textbook. I conclude by discussing what these lessons, combined with commentary from economists analyzing digital platforms and competition, suggest about the next wave of antitrust cases in these markets. Given the complexity of digital platforms and range of antitrust concerns that have been raised, this article in no way should be taken as exhaustive. Rather, I attempt to highlight some of the issues that seem most prevalent and interesting in the antitrust litigation context.²

I. MICROSOFT AND THE FIRST INTERNET TIDAL WAVE

Much as an oceanic tidal wave is the consequence of gravitational interactions between the Sun, Moon, and Earth,³ Bill Gates recognized that the Internet tidal wave was the result an interaction of multiple technologies, including TCP/IP protocols allowing computers to operate on distributed networks, HTML and other extensions allowing information to be presented in a more structured manner, modern communications infrastructure that could be purchased through commodity bids, and "most important[ly]", a place to publish public content.⁴

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Gates also predicted that the Internet tidal wave created by these technological interactions created enough energy to fundamentally alter not only how information was processed, but also how businesses functioned and consumers interacted and learned, projecting that: "In the next 20 years the improvement in computer power will be outpaced by the exponential improvements in communications networks. The combination of these elements will have a fundamental impact on work, learning, and play."⁵

Of primary concern to Gates was the possibility that a computer's operating system would no longer be an essential part of the computing ecosystem. In particular, he warned that if web browsers were able to operate as middleware compatible across operating systems, Microsoft's monopoly position in operating systems with its Windows operating system would be severely jeopardized. Gates specifically called out Netscape, "[a] new competitor 'born' on the Internet . . . pursuing a multi-platform strategy where they move the key API into the client to commoditize the underlying operating system."⁶

Three years after Gates's Tidal Wave Memo informing his executives and directors of plans to "define an integrated strategy" across the company, with the goal to "protect and grow our Windows asset",⁷ the DOJ filed an antitrust suit claiming that Microsoft engaged in conduct to protect its operating system monopoly. Consistent with Gates's directive, the allegations included a charge that Microsoft was bundling its own browser, Internet Explorer, with Windows to leverage its monopoly into the emerging browser market. The DOJ further alleged Microsoft used exclusionary agreements that precluded downstream customers from buying, using, distributing, or promoting other companies' products, as well as restricted the rights of its customers to provide services or resources to Microsoft's actual and potential software competitors.⁸ A number of private antitrust cases followed, including class actions on behalf of consumers in various states.⁹ Microsoft's conduct also led to antitrust actions around the world.¹⁰

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After reviewing the evidence in the DOJ and consolidated states' cases—including Gates's Tidal Wave Memo—the Court released its findings of fact on November 5, 1999. Among the facts found to have been proven by a preponderance of evidence was that:

To the detriment of consumers, however, Microsoft has done much more than develop innovative browsing software of commendable quality and offer it bundled with Windows at no additional charge. As has been shown, Microsoft also engaged in a concerted series of actions designed to protect the applications barrier to entry, and hence its monopoly power, from a variety of middleware threats, including Netscape's Web browser and Sun's implementation of Java. Many of these actions have harmed consumers in ways that are immediate and easily discernible. They have also caused less direct, but nevertheless serious and far-reaching, consumer harm by distorting competition.¹¹

Although the subsequent litigation resulted in a lower court ordering Microsoft broken up and in 2001 the D.C. Circuit unanimously affirming (en banc) the company's liability for monopolization, Microsoft ultimately entered a consent decree with the DOJ, which included conduct-related instead of structural remedies.¹² Microsoft also agreed to settlements in the billions of dollars in private cases. The California indirect-purchaser plaintiff class, for example, obtained a settlement valued at over $1 billion.¹³ Microsoft also settled related lawsuits with a number of firms, including Novell ($536 million), AOL-Time Warner ($750 million), and Sun Microsystems ($700 million).¹⁴

Pointing to, in part, a precedent-setting structured reasonableness framework for evaluating a dominant firm's conduct under Sherman Act §2, as well as clarifying that antitrust laws extend to nascent actual and potential competitive harms, even in rapidly changing innovation markets. Jonathan Baker claims that "Microsoft was the most important U.S. antitrust decision of the past three decades."¹⁵

Not surprisingly, given the importance of the technological and competitive issues involved, a variety of sources have proffered lessons from the Microsoft cases. Economists Dennis Carlton and Jeffrey Perloff, authors of the widely used industrial organization textbook, "Modern Industrial Organization", have offered a summary of both the industrial organization and antitrust lessons from the Microsoft case, which is especially relevant for anticipating the potential antitrust litigation in digital markets.

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II. ECONOMIC AND ANTITRUST LESSONS FROM MICROSOFT

From an industrial organization perspective, Carlton and Perloff profess that Microsoft teaches that "in a rapidly changing technological environment with scale economies, complementary products, and network effects a dominant firm can use strategic behavior to preserve and increase its dominance even though the product changes dramatically over time."¹⁶ Though this may seem obvious, Microsoft and others had questioned whether the dynamic aspect of technology markets negated the ability of firms to exercise market power over the long run.¹⁷

However, from an antitrust litigation perspective, as Carlton and Perloff point out, Microsoft also teaches (or, at least reaffirms) that strategic behavior to disadvantage rivals—which the authors note is a core component of most business programs—may or may not benefit consumers even when it successfully results in market power, depending on the context. Consequently, they posit as another lesson the need to identify and weigh both pro- and anti-competitive effects—that is, the need to conduct a rule-of-reason analysis of strategic conduct in technology markets.¹⁸

As Internet-related technologies and the use of digital platforms have expanded in the 25 years since Bill Gates's Tidal Wave Memo, so too has the range of potential strategic behavior available to digital platform firms.¹⁹ This suggests that rule-of-reason analyses in digital platform litigation is likely to be much more involved and costly. Although the full set of strategic conduct is wide-ranging and outside the scope of this article, I review the primary economic features of digital markets and how these features are likely to impact the challenges of conducting rule-of-reason analyses in these markets. First, however, I briefly review the firms that were powered by the Internet tidal wave Gates predicted—Google, Apple, Amazon, and Facebook—and that are the focus of most of the current wave of antitrust scrutiny of big tech.

Lastly, after reviewing the primary economic features of digital platforms and how they may impact rule-of-reason analyses, I point to commentary from leading economists that suggests antitrust litigation involving digital platforms may well require not only more, but also new types of evidence and analyses.

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III. THE RISE OF GOOGLE, APPLE, AMAZON, AND FACEBOOK

As Bill Gates predicted in his 1995 Tidal Wave Memo, the Internet has changed the rules not only on how technology works, but how consumers engage in economic, social, educational, and nearly every other type of activity. While Gates accurately predicted the events, he missed on the firms that would come to dominate. Specifically, of the "Big-Four," only Apple was mentioned as a potential competitor, and that was due to Apple's early adoption of TCP and its "strength in education". Netscape and Yahoo were the browser and search competitors Gates singled out.²⁰

Of course, it would have been difficult for Gates to foresee the rise of any of these other companies. Amazon still had not sold its first...