Capitalisn’t: The Europeans

Speaker 1: Today, the commission has decided to fine Google €4.34 billion for breaching EU antitrust rules.

Luigi: This is Luigi Zingales at the University of Chicago.

Kate: And this is Kate Waldock from Georgetown University. You’re listening to Capitalisn’t, a podcast about what’s working in capitalism today.

Luigi: And, most importantly, what isn’t.

Speaker 2: Breaking news this morning. It is official. Google has been fined a record $5 billion by the European Union.

Speaker 3: The company is accused of abusing its Android market dominance by bundling its search engine and Chrome apps into the operating system.

Speaker 4: But what the European Union is telling Google is that, “Because you’re breaking our antitrust rules, you not only have to pay this $5 billion fine, which is a record, but you also have to change your behavior.”

Kate: Luigi, have you heard of ... do you know who Chris Crocker is?

Luigi: No.

Kate: Do you know who Britney Spears is?

Luigi: Yes.

Kate: So, 10 years ago, Britney Spears was in the news, and everyone was being mean to her somehow, and there was this viral YouTube video that exploded of this guy, Chris Crocker, sobbing hysterically and being like, “Leave Britney alone! Why won’t people just leave her alone?” And that’s kind of how I feel about Google. Why can’t the EU just leave Google alone? They’re being so unfair.

Luigi: I have to admit that you really threw me for a loop. I’m not up on your stardom world, and so I can’t really empathize with your comment, but I think that the issue of Google is a very important one, because we all love Google, because we all use Google for many things in our life, from searching information to going places, and you who are more hipster ...

Kate: Not a hipster.

Luigi: Look at the YouTube video. But, anyway, I think that we all use Google massively, and so when Google gets fined, the question is, why? What has it done wrong? And is it right to fine Google or not? And why has the EU Commission done it, and American antitrust started a similar investigation and dropped it in 2013?

Kate: Yeah, I can’t help but think that this feels a little bit like the EU is ganging up on US companies.

Luigi: You’re becoming too Trumpian in your words, which ...

Kate: I know. I know.

Luigi: This is actually the negative effect of starting to think that way that becomes me versus you, and you think that everything is motivated by trying to get ahead in some trade war. I actually think that this is not true, that there is evidence looking at antitrust enforcement in Europe that the nationality doesn’t matter, that the European Union seems to be as tough with local companies as with foreign companies.

I think that, while reasonable, this guess, in my view, is wrong, but there is a fundamental question of how do you deal with digital platforms like Google that represent a completely different business model?

Kate: I think we should get back to that paper that you just mentioned later on, because there’s actually a ton of literature trying to figure out whether the EU is tougher on US companies or foreign companies or European companies, and if you look at all the literature, the jury is kind of out. I think there’s arguments on both sides. But before we get into that, we should probably recap the past couple of episodes, and talk about what’s going to be discussed today.

If you haven’t heard those last two episodes, you may want to go back and give them a quick listen. But, really quickly, the consumer welfarists think that the best approach to antitrust is to figure out whether a company is actually hurting consumers by trying to look at their impact on prices and output.

Luigi: While the Brandeisian approach is concerned not only about consumers, but also about the political implication that too much concentration of economic power has on the political system overall.

Kate: And I’d also add that I think the New Brandeisians focus particularly on the tech sector and the outsized influence that big tech has had on the economy, as well as politics today.

Luigi: Because what is interesting is that the tech sector—in particular, business models like Facebook and Google—are generally different business models than have been analyzed in the past. The technical term for this is two-sided or multisided platforms, and this is a concept that did not exist in the literature until 2000, and then was introduced in 2000 by a paper by Rochet and Tirole, and we have the fortune of hearing a description of the concept by one of the two authors of this paper, in fact, the Nobel Prize-winning Jean Tirole.

Jean Tirole: OK. A two-sided market is a situation where you have one platform or multiple platforms which try to attract two sides or more sides of the market who want to interact with each other. For example, Google is going to try to attract eyeballs, you and me, and the way it does that is basically by offering free services, and then it’s going to attract advertisers.

And advertisers, of course, want to target their hearts to you, and basically you have to attract both sides of the market for it to work. Same thing with credit cards, which is, if you are American Express or Visa or MasterCard, or maybe PayPal or Apple Pay or whatever, you need to attract cardholders, people who are going to pay with your card, and also merchants who are going to accept the card.

What you have to do is to balance your pricing structure and other dimensions so that you attract both sides, while still making money. And those markets, actually, have specificities. Those other antitrust policies actually don’t work that well in those markets. For one thing, you cannot consider one side of the market in isolation.

For another thing, you often notice that one side of the market is treated very well, and the other side of the market is treated less well. So, we enjoy all those great benefits of using Google, but the advertisers are actually paying a lot. We get a free payment card, the credit card, or debit card, actually it’s even negative price because we often get frequent-flyer miles, cash back, what is it ...

Kate: But maybe pay interest.

Jean Tirole: We may be paying interest if we’re ... That’s another scenario. It’s a behavioral thing, it’s ... That’s right, but if you pay attention, you can get your card for free and even get paid for using your card, whereas the merchants are going to pay a fair amount of money when they accept the card and there’s a transaction.

You cannot just look at one side of the market, you might think there is actually predation on the one side because its price is zero on one side, and you might think there is monopoly, excessive money paid on the other side, because the prices are very high. But you know, you have to look ... The point is that it’s not only dominant firms which have this kind of business model, it’s also smaller entrants. You may get a free newspaper, for example, and this newspaper may not have a dominant position, but of course, it’s getting the money from the advertisers.

So, this business model is actually very important. What we economists can contribute is trying to think about principles for the businesspeople to use, because often it is done by trial and error. You try a business model, it fails, and then you try to convert to another one. But also, we can advise the policymakers, you know, competition-policy authorities, so as to deal with those markets, and what we should be doing with those.

Kate: Jean Tirole just described for us what a two-sided market is. And the reason that this is particularly relevant to today’s antitrust debate is because it’s often the case in two-sided markets that one side doesn’t charge any money for a product at all. And this is relevant for the recent EU fine of Google, because the background of that case is that the EU was fining Google for forcing cellphone manufacturers that were using the Android operating system to also install certain apps that were Google apps.

Neither the Android operating system nor the apps charge any money, and so there is this open question as to whether these even count as markets, because there’s no transaction going on. There’s no actual money being exchanged. So, depending on your view of the applicability of antitrust to two-sided markets, this could either say the European Commission had the right to say that Google is a monopoly in this area, even though it’s not charging any money for its products, or, no, the European Commission had no right to intervene in this area because Google is providing these services for free, and so there’s no way that we can consider it a monopoly.

Luigi: Let me make an old technology analogy. In the old days, I hear now the world is changing, but in the old days, when you wanted to buy a house, you had to go to a real-estate agent, and that real-estate agent was, at least partly, free for you because he was paid out of the proceeds of the sale of the house. Technically, who was paying for the real-estate agent was the seller, and the buyer could get a real-estate agent for free. And this is a two-sided market because in transacting on a house, you need a buyer and a seller, and the market was designed in such a way that the buyer wasn’t paying anything for the broker, while the seller was paying for both brokers.

If you are a buyer, you have the perception that this transaction is free. In fact, in equilibrium, you pay for that cost. Why? Because the price of the house is bigger. And in Google, the story is the same. When you use Google, you have the perception that Google is free, and even without considering the transfer of data that we’re going to come back to later, even when you don’t consider that, it is not true that it’s for free because you pay ... Actually, the advertisers pay for Google, and that price is reflected in the price you pay for the goods that are advertised. Exactly like in the case of the house, you pay indirectly for that service.

Kate: Now, for our younger listeners, who care more about the actual operation of Google, there are some technical details here. Google makes Android, which is an operating system for phones, and if we consider all operating systems for phones, Android, globally, has an 80 percent market share.

The way that it works is that Android is open source. So, all of the code that you need to install Android on a phone is available online for free. Anyone can just download it. If you’re technically savvy enough, you can download that open-source software and put it on an actual phone, and then you can have yourself an Android phone.

And Google also has this relationship with its phone manufacturers. Google isn’t really in the business of going out and making actual hardware phones. I mean, it is, kind of. Now it has some of its own products, but the majority of Android phones, the actual phone, is made by some other manufacturer that’s not Google, like HTC or Samsung or any number of manufacturers.

Google gives its Android software to these phone manufacturers for free, like it does with everybody else, but the catch is that certain Google apps are not open source. For example, Gmail, and Google Search, and the Google Chrome browser, all that stuff is considered proprietary by Google. Not only that, but certain key apps for the phone are also proprietary, like if you want fancy swiping on your keyboard or if you want a fancy phone app, that stuff is not open source. So, if any of the phone manufacturers wanted to put those Google apps on their phone, then they had to comply with a bunch of rules and regulations coming from Google.

So, in some sense, Google’s Android is open source, and in some sense, it’s not. This is what the European Commission took issue with, is that even though Android itself, there’s a version of it that’s free and open source, in actuality, Google was forcing its manufacturers, its Android manufacturers, to comply with their terms by putting a bunch of Google apps on the phones that they were manufacturing.

Luigi: To get a sense of how valuable it is to have Google Search or Google Play preinstalled on a phone, there are some numbers that float around of how much Google is paying Apple to have Google Search preinstalled on the iPhone. And the numbers are between $1 billion and $3 billion a year.

This is an enormous value that Google captures by giving Android for free, and in a sense, recapturing that share through the fact that with Android, you cannot choose any search engine other than Google.

Kate: Yeah, and so to get back to your point about the two-sided market, where is Google making money? Well, now almost all the phones in the world have Google Search and Google Chrome installed in them, as well as a bunch of other Google apps. Google collects all of this information, they know exactly what we’re doing and what we’re looking at, and they in turn sell ads to advertisers who can target us pretty well. And that’s valuable for Google, that’s how they make their money.

Luigi: So, the tension between the two sides of the discussion in the European case is one side, the European antitrust authority, claims that by giving away this product for free, but tying it to Google Search, you are de facto maintaining your monopoly, or your market dominance, in Google Search, and it’s a way to use dominance in the market, like the one in Android, to leverage and get dominance in another market, which is generally considered a violation of antitrust.

The Google side, or the American side in this particular case, is saying, “Wait a minute. Here there is a competition between two business models. There is a competition between the iPhone business model, everything is integrated, and then in that particular case, Google has to pay Apple to have the search preinstalled, or there is free software, à la Android, but then because there is nothing free in the world, the way in which this is paid is by restricting the ability to introduce other search engines.”

Kate: I think an interesting point in this debate is that if you’re Samsung, you can make an Android phone and not install any of the Google apps, but why do they think it’s so important to install the Google apps, which therefore make them compliant to Google’s terms and regulations, is because people want those apps, right? They can’t really sell cellphones that don’t have a bunch of these apps preinstalled, because people want Google Search, people want YouTube preinstalled on their phones. Otherwise, it wouldn’t really matter. Samsung could just take the open-source software and install whatever apps they wanted to.

Luigi: They certainly prefer to have something preinstalled, but if I was given the choice, I would probably preinstall DuckDuckGo rather than Google Search.

Kate: What?

Luigi: You don’t know DuckDuckGo?

Kate: No. Is this some sort of weird Italian search engine?

Luigi: No. It’s not a weird Italian thing. This is the only search that does not follow you and get all the information from you. It’s much more discreet. It’s 0.3 percent of the world market share, so it’s not exactly a popular thing, but I think it’s a very good search engine.

Kate: Are you one of those people who does all your search through some VPN or through Tor, so no one can track you?

Luigi: If I were more computer-savvy, I would do it. But I’m not computer-savvy enough to do that.

Kate: OK. Did the European Commission do the right thing here?

Luigi: Actually, I was much more sympathetic to last year’s fine of $2.7 billion against Google for distorting the ranking of shopping options. And the story was that Google favored in the ranking its own shopping choice against competitors. And this is, I think, a fundamental problem, because if you are the access to the market for most people, and Google is, and you tilt this access to the market in favor of some or against others, then you are really distorting these other markets, in this particular case, the shopping options. I think in that case it was absolutely right.

In this case, I can see the argument of both sides. However, I’m sympathetic to the view that sometimes the trial is the remedy. The level of scrutiny, the level of transparency that this trial requires, put Google on the alert and makes it less likely to push its weight around and try to get market share in other markets using its quasi-monopoly in the search market.

Kate: It’s probably worth going a little bit through the actual enforcement mechanisms in the US versus the EU. We’ve talked about the United States and its antitrust law. In some sense, the EU is pretty similar, with the major distinction that antitrust is enforced at the EU level, right, the European Union level, rather than at the country level.

Actually, each European country does have its own set of antitrust laws, but the decision that we’re talking about came down from the European Commission, which is a broad regulatory body made up of the member states in the EU.

The laws that govern the European Commission’s antitrust, there are what are called Articles 101 and 102 of the Treaty on the Functioning of the European Union, and they’re basically very similar to the United States’ Sherman and Clayton Act. Article 101 is like the Sherman Act in the sense that it just broadly rules out actions that are in restraint of trade or competitive market policies, and Article 102 is similar to the Clayton Act in that it rules out specific types of actions that are considered abuses of power, such as tying and bundling of services, which is relevant in this Google case.

Luigi: It’s interesting because while both the EU and the United States have local antitrust and federal antitrust, I think the role of the so-called federal antitrust at the European level is quite different because Europe is not a country yet, so you don’t have the commissioners appointed by a president of Europe. There is a president of the European Commission, but this guy is nominated by the various governments of Europe, not by a vote of the population.

In a sense, what is interesting is that on one hand, the commissioners tend to be a little bit more shielded from political pressure. On the other hand, they tend to be more often than not politicians with a political career, rather than in the United States, you’ll observe lawyers that are antitrust lawyers that one day work as antitrust lawyers fighting antitrust, and the next day become FTC chairman or chairwoman, and then after they are FTC chairman or chairwoman, they return to fight the FTC on the other side.

Kate: I’m not necessarily sure that I agree with that characterization. I mean, one of the lawyers who was very key in the US case against Microsoft was Richard Blumenthal, who at the time was the attorney general for the state of Connecticut, and now is senator for the state of Connecticut. So, I do think that, in some cases, these antitrust lawyers do have a political agenda.

Luigi: You’re right, and I think the way I see it is actually more common for state antitrust than for federal antitrust, because I look at the chairperson of the Federal Trade Commission in the last 18 years, and with one exception of somebody becoming a professor afterward, all the others went back to business practice in antitrust law firms.

Kate: Yeah, I do agree that the Federal Trade Commission or the FTC, while it’s one of the branches that can enforce antitrust law, state attorneys general can also do so, and I think that that is an area in which they do that with an eye towards politics in the future.

Luigi: Because one of the explanations for this different level of enforcement is the different degree of capture of the two systems. In the United States, companies like Google or Facebook have a tremendous amount of power on the executive. And it’s not only because of the campaign financing, it’s not only because of the lobbying, it’s not only because of the revolving-door policy, it’s also because they help tremendously the various candidates being elected.

So, in the last campaign, there were people from both sides, from the Trump side and from the Clinton side, who were embedded in Facebook and Twitter to learn how to use this instrument in the most effective way. They were equally supported on both sides, so no matter who wins, it feels that they have a legacy of gratitude vis-à-vis one of these companies. And it’s not a coincidence that the FTC case against Google was dropped at the beginning of 2013 after Google, and in particular, its then-CEO, helped Obama tremendously to be re-elected. And immediately after the re-election, the Obama White House and his appointee at the FTC decided to drop the case against Google.

Kate: Yeah. I can’t argue with you there. I completely agree with you that more campaign spending, more political spending on the part of US corporations, helps US corporations influence US antitrust policy.

Now, these companies do spend money in Europe as well. And I guess what I’m struggling to understand is why they don’t have as much influence on European antitrust.

Luigi: I think that’s an excellent question. I’m not sure I have the definite answer, but I think that at least in the case of Margrethe Vestager, who is the head of the EU Commission on Competition, she has a very strong prospect of going up the political ladder, and I think that taking these actions makes her more popular. And linking this to our two previous episodes, one of the characteristics of US antitrust is that we made it so technical that the people in charge of it tend to be technical people, and technical people who work in that industry tend to be more easily captured without any offsetting effect.

And I think that Europe has not gone as far yet, and maybe with time it will, but I think that, in my view, the fact that they are thinking about the other side is crucial. Several years ago, the European Commission on Competition, first of all, it’s not called antitrust, it’s called the Commission for Competition. So, they are much more willing to take proactive measures to favor competition and favor, also, consumers.

One example is the position they took against roaming charges across European states. For an American listener, this sounds primitive, but the older ones among you remember that there was a roaming charge, there was a charge to call out of state. In Europe, every time you moved from one country to another, and some of the countries are teeny-tiny, so it’s easy to move outside, you used to be charged an arm and a leg to call. And the European Commission imposed the elimination of these roaming charges with great benefits for consumers, and of course, telecom companies were not happy about it, but I think at the end of the day it was the right thing to do.

Kate: Yeah, I think it’s good that you brought that up, because that’s certainly an area where Americans can relate. Maybe not necessarily in the roaming charges, but how insanely expensive it is to pay for your local cable and internet bundle, when there’s no other options for you. And how you have to pay all these annoying transactions and institutional fees that are always changing, and you never really know where they come from.

I think it would be incredibly popular if US antitrust regulators took more action against big telecom companies, and it’s a bit of a puzzle as to why we don’t see that more.

Luigi: But you’re also right that it’s more difficult to take antitrust actions against somebody that gives its product for free. Google and Facebook are extremely popular because they give the product for free, and taking antitrust action in that direction could actually potentially backfire.

Kate: There’s some people who think that the European Commission is pretty impartial in the way that it metes out judgments. If you look at the entire record back to the ’90s of antitrust decisions levied by the European Commission, it does look that way. There might even be evidence that they’re a little bit more hesitant to go after non-European companies, but I don’t think that you can compare all cases against one another.

A popular study done by a number of authors, one of whom is Rob Jackson, who is a commissioner now of the SEC, they compare cases of transaction value of $10 million. They treat them equally as they would this most recent case, even though this recent case isn’t in their dataset. And I think it’s relevant to look at only the big fines, and if we’re only looking at the big fines, then I do think there is a little bit of an anti-US slant coming from the European Commission. I mean, in terms of collective fines of over a billion dollars, most of them were against US tech companies. There was one fine against Daimler, of about a billion dollars, but other than that, the major billion or multibillion fines have been against Intel, Microsoft, Qualcomm, Google. And if you count tax fines coming from antitrust authorities as well, then that includes Apple. Those are all US companies, with the exception of Daimler. And I think it’s a little bit ridiculous to argue that, “OK. So, they went after a bunch of small European companies, so they’re impartial.” When, actually, their major actions have been against US companies.

Luigi: Now, it could also be their history. I think that Europe is much more concerned with privacy than the United States is, but for very good reason, because the memory of brutal dictatorship that abused that power is very fresh and not that distant in the past.

So, Kate, at the end of the day, Europeans do it better?

Kate: Do what better, Luigi? Look. I think I agree most with a point that you raised on our episode with Lina Khan, which is that we have reason to be worried about big companies, big tech in particular, and the role that those companies are playing in shaping our democracy and shaping our political systems.

Whether or not they actually ... this is what’s motivating European antitrust regulators, I do think that’s in the back of their minds. And I do think that they’re using antitrust to go after companies for reasons aside from purely antitrust, I don’t know, violations.

Your point earlier was that there is reason to be concerned, but we should use a separate set of laws, or we should be more clear that this is why we’re concerned about the companies, from a democratic angle, not necessarily from an antitrust angle. And we should separate the two motivations.

Even though I think that the outcome on the European side is the right outcome, I’m not necessarily sure I agree that Google and these other big tech companies were violating antitrust law.

Luigi: So, you are saying that Europeans are Brandeisian without knowing it or without recognizing it?

Kate: Yeah.

Luigi: I think it’s an interesting idea. I think that, in my view, this wave is coming here as well. My prediction is that the next presidential campaign will be very focused on these issues, both on the left and on the right.

Kate: Yeah. I’m looking forward to the debate.