Once upon a time, most ways into New York City were tolled. Then the original progressive movement hit. Progressive economists like Harold Hotelling argued persuasively that because the marginal cost of running another motorist over a bridge was near zero, there was no economic reason for which everyone who wanted to drive over the bridge should not be allowed to do so. The way to recover the vast fixed costs of bridge construction was not by charging a toll, but by extracting contributions from motorists that would not discourage them from using the bridge whenever they wanted to do so. And the way to do that was to tax them, regardless how much they actually used the bridge.
This solution to funding infrastructure construction — taxation combined with free access — was a regulatory solution, and not just any kind of regulatory solution, but a rate regulatory solution, because the government chose to set the price of infrastructure access: only you could easily miss it, because the government set that price at zero.
In this way, the original progressive approach to roads and bridges was not different from the progressives’ approach to markets of all kinds, which was to regulate terms of sale with social justice in mind. Thus the government in this period encouraged AT&T to recoup its own fixed costs by charging high prices to wealthy long-distance users, freeing the company up to provide local calling services, which were used more heavily by the poor, at very low rates. And the government forced the railroads to recoup more of their fixed costs from intercity routes used by the wealthy, even though competition would typically have held prices down for those customers, and to use the savings to charge lower prices to rural customers.
The progressives’ approach to regulating roads and bridges though a combination of taxation and zero price access was socially just, too, because of course it meant that city driving was free for everyone.
Then, for reasons that remain unclear, progressives seemed to forget what the entire regulatory project was all about, and in the stunningly short space of three years in the late 1970s, they collaborated with conservatives to tear down most of the regulatory state at the federal level. They deregulated the airlines, trucking, railroads, and natural gas. And in ensuring decades the federal government stopped regulating banking, and telecom rates as well.
One might have thought that the resurgence of the progressive movement in recent years would have led to a rediscovery of the original progressive model of price and quality regulation, but instead the movement has seemed time and again to mistake policies that the original progressives fought bitterly to overcome for progressive solutions to today’s problems. This has played out to a farcical extreme in the recent progressive love affair with the antitrust laws, which promote the unrestrained competition that the progressives fought so hard to overcome through the regulatory model.
And it is sadly in evidence now too in the progressive love affair with congestion pricing, which amounts to no more than reimposing the toll system that the original progressives fought so hard to take down. To be sure, the original progressives missed something important about roads: they congest, and they pollute. So Hotelling was wrong to assume that the marginal cost of allowing another driver to cross a bridge would always be near zero. That cost stays near zero until the bridge reaches the optimal level of congestion, after which point the cost of adding another car to the bridge is very high indeed.
But the solution to the problem of congestion isn’t to start charging users a price for access. That just takes us back to the bad old days when being poor meant you lost your right, even, to access that most quintessential of public spaces, the streets. The solution is to ration access to the streets using a criterion that isn’t tied so closely to wealth. And technology makes that easier to do today than it ever has been.
I’ve argued that one approach would be for the city to use a smartphone app to decide who gets access based on a combination of first-come-first-served and proximity to public transportation. You could log in from the comfort of home, the app would decide whether the city can accommodate you based on current traffic conditions and whether you are near a subway, and you would instantaneously receive an authorization to proceed or a request to go into town by other means that day. A colleague has suggested to me that those with jobs in the city should get priority.
Regardless how the rationing mechanism might be structured, the point is that price — and its sinister correlation with wealth — doesn’t need to play any role. Nor should it, unless you are so naive as to believe that those who are willing to pay more are always those who can put the streets to more productive use, rather than simply those for whom a dollar isn’t worth as much as it is to others, because they happen to have more of them.
What’s so troubling about the progressive embrace of congestion pricing is that progressives don’t seem to care about the classist consequences, setting today’s progressives rather starkly apart from the originals. Instead, today’s progressives view the price system as the solution not just to big city traffic, but climate change more generally — in the form of the carbon tax. What they don’t seem to understand is that there is no magic to price when it comes to rationing access to resources that are in fixed supply, like city streets, or air. Price is just another ration card, just another way of deciding who takes and who doesn’t. Only unlike other rationing mechanisms, price gives the rich priority.
Why would progressives ever opt, among the myriad criteria to use in sorting those who get to take and those who do not, to choose the one that selects for wealth? This approach may of course be self defeating — the gilets jaunes movement that almost toppled the French government consisted of poor people aggrieved by a gas tax aimed at fighting climate change, a tax that the government was forced to withdraw.
But even if reliance on price rationing doesn’t prove a political loser, it’s still socially unjust. Why should the poor bear the burden of saving the world’s climate? Yes, under carbon taxes and congestion pricing, the rich do end up paying, but they also end up getting to drive. The poor might end up better off, if some of the proceeds of the tax are redistributed to them, but they still won’t get to drive. Why? Because if they were to benefit so richly from redistribution of tax proceeds, or from exemptions designed to temper the effects of the tax, that they were still able to access the streets as much as the rich, why, then the carbon tax wouldn’t actually reduce emissions after all!
It is this sort of seemingly naive betrayal of the regulatory state, and the civic values that it stood for, by those who ought to be sticking up for those values, that makes the current progressive movement a shadow of the original.
Operating from headquarters in a hilltop villa in the capital city, protected by government soldiers, a businessman with strong ties to his own government back home, a belief in his own manifest destiny, a desire to go down in history as a bringer of industrial development, and deep experience in completing hydropower and mining projects, submits a bid to the country’s leaders to build them a new oil refinery. The bid is backed by a loan guarantee from one of his country’s largest banks, provided as part of an initiative by his country’s government to win the friendship of other nations by providing development support.
Lacking an office in the country in which the refinery is to be built, a former mid-level government official with no experience building anything tries to cobble together a bid of her own from shared office space in her own country. She finds an investor — not at home but in a third country — gets an expression of interest from some executives from a firm in her own country with refinery construction experience, and places a bid in which she promises to secure the rest of the funding for the project by selling shares in the venture on capital markets. When ministers visit her country as part of consideration of her bid, they are shocked to be shown around shared office space, and insist that she line up a more secure source of financing. She begs her government to sign on, but the most she gets is a letter from a government lender saying that it would considering lending a fraction of the project cost.
Once upon a time, this would have been a tale about American power. The first person would be a TR, say, supremely confident about his place in history, carrying out a Marshall Plan (if you will forgive the anachronism) reflecting the ambition of the U.S. government to use aid to secure the allegiance of the world. The second person would be some luckless underfunded competitor operating out of a backward country with a weak state lacking the vision to promote its businesses and interests abroad.
But of course the first person in this story is Chinese and the second is American. As the article in today’s Times strongly suggests, the American won the bidding only because Uganda’s leader hopes to encourage American competition, and thereby to improve the terms he gets from the Chinese in the future. Indeed, the American project may well fall apart, as GE — the firm with expertise in refinery building that had shown interest in the bid — has started to exit that line of business.
How did we get here? The answer is our decades-long obsession with market magic. There has been much talk in some circles about the “fissured workplace,” the converting of many jobs into “independent contractor” positions that allow employers to treat their employees as temp staff with no job security and few benefits. Firms no longer have employees, but instead simply tap contractor markets, buying labor hours when they are needed and not when they are not, much the way you make a run to the supermarket for lemons when you need them and not when you don’t, instead of tending your own lemon tree.
Well, more than just labor markets have fissured. Everything has fissured, as our obsession with markets has spread to every corner of the economy since the 1970s. Just look at how the American bid for the refinery came about. Not at the instigation of our government, despite its recognition that China’s dominance in African business is putting us at a great strategic disadvantage, but because a mid-level foreign policy official, thrown out of work by the exit of the Obama Administration, saw a market opportunity. She then went into a set of different markets in order to try to cobble together a bid. She rented shared office space, tapping the fissured commercial real estate market, in which businesses no longer own their own space, let alone build their own custom spaces, as they once did. She also had no funding of her own, but promised to tap the fissured funding markets by selling shares in the project. And she had no experience building refineries, so she also promised to tap the fissured project market, potentially by bringing GE into the project. Markets, market, markets.
All these markets are supposed to make our economy and nation stronger, by ensuring that everything is allocated to the people who need the things the most. Workers can be repurposed via the market from one job to another at a moment’s notice, office space can be saved for the most important projects, cash can flow to the most important projects, and so on.
But what market excess really does is expose our economy and nation, to risk. The trouble with markets is that they are risky. At the end of the day the Ugandans got a bid that was worth little more than the paper it was written on. It was in effect a commitment from an amateur to use acceptance of the bid by the Ugandans to convince investors to invest, refinery builders to build, and so on. What the Chinese offered, by contrast, was a government-backed commitment to fund construction of the refinery by an experienced firm. The parts of the Chinese offer were so well integrated — so unfissured — that the Chinese even insisted on importing 60% of the labor and materials from China to complete the project. That’s right, the Chinese would bring in their own laborers to complete the work.
No wonder the American bid was at a severe disadvantage. If you were taking bids to have your floors redone, would you go with the man off the street with no experience, no operations, and no money — even if he offered the lower price — or the experienced flooring operation that’s ready to get to work as soon as you sign on the dotted line?
When you do business with integrated operations, instead of markets, you carry less risk, because integration reduces risk. It makes sure that the money is there, the expertise is there, the workers are there. You may still bear the risk of non-completion, but that risk is lower. And when the state gets behind its businesses in these deals, as the Chinese government has via its Belt and Road initiative, risk is reduced further. The Chinese drive a hard bargain, using the infrastructure they build to secure repayment of the loans, but they can do that because they have something credible to sell.
If the story of a businessperson trying to get along in an international deal — one that forwards the President’s own policy of going head to head with China — without government support, without expertise, without financing, without even an office, sounds the story of a failed state, that’s because a fissured economy — an economy in which everything, at every level in the supply chain, has been turned into a market — is a failed state. It’s a country that can have no vision or unity of purpose because its government is paralyzed by the need to respect market boundaries, unable to direct the economy according to any vision, and in which every individual and private firm is paralyzed too, at the mercy of markets in everything that they do. Therein lies the state of nature.
The emails show that in 2013 Facebook cut off Twitter’s access to its users’ Facebook friend lists to cripple the growth of Twitter’s once-popular short-form video sharing service, Vine, which Twitter shuttered in 2016. The emails also show that Facebook used acquisition of the startup Onavo to spy on users, identifying WhatsApp as a serious threat in the process, and later acquiring that company, presumably to eliminate it as a competitor.
Both of these actions harmed competition, by eliminating what antitrust lawyers call “nascent competitors,” firms that could have matured into serious competitive threats to Facebook. Vine might have helped Twitter develop out of its microblogging niche into a full-fledged social media platform in direct competition with Facebook. And the same might have been true for WhatsApp, which could have leveraged its huge user base and privacy commitment to expand beyond chat into Facebook’s social media heartland.
But most antitrust policymakers today are unlikely to see either Facebook’s calculated crippling of Vine, or the company’s snooping on nascent competitor WhatsApp, as problematic. For antitrust policymakers today, refusing to share and espionage are examples of the kind of no-holds-barred striving to win that ensures that competition yields results for consumers. As the greatest living antitrust scholar today, Herbert Hovenkamp, put it in a recent treatise, making firms share with competitors — which is what Facebook refused to do when it cut Vine’s access to friend lists —
is manifestly hostile toward the general goal of the antitrust laws. It serves to undermine rather than encourage rivals to develop alternative[s] . . . of their own.
Fortunately, there is actually a strong case to be made that Facebook’s treatment of Vine, at least, violated existing antitrust laws. But before getting to that case, let’s look more closely at exactly what Facebook did to Vine and what’s wrong with antitrust’s prevailing approach to that kind of conduct.
It’s clear that access to Facebook friend lists was key to Vine’s growth, because that allowed users in effect to port part of their existing social network from Facebook over to Vine, and then to use it to do something — post short-form videos — that Facebook at the time did not yet allow users to do.
By in effect preventing users from porting their network to Vine, Facebook denied Vine an essential input — the infrastructure to port the Facebook network into Vine — that was key to allowing Vine to break into the social media market.
Two Minds About Sharing
Refusals to deal have long vexed antitrust enforcers because they appear to be at once good and bad for competition.
They are bad for competition because if the input is truly essential, then the refusal to supply it to a competitor is fatal to the competitor. Indeed, if “input” is defined broadly enough, all anticompetitive behavior amounts to a denial of access to an essential input of one kind or another. You cannot harm competition any other way.
At the same time that refusals to deal appear bad for competition, however, they also appear to be good for competition, albeit competition of the bare-knuckle sort.
The toughest races are those in which you can expect no help from the other participants. The refusal of a firm to deal with competitors just creates an incentive for those competitors to go beyond the withheld input in question to find a new way to survive, to innovate, to create, to surpass.
This view of the virtues of no-holds-barred competition serves as the basis for the current ascendancy of the “Colgate Doctrine,” the antitrust rule that a firm has no general duty to deal with competitors. The doctrine takes its name from a 1919 case in which the U.S. Supreme Court permitted Colgate, charmingly described by Justice McReynolds as “a corporation engaged in manufacturing soap and toilet articles and selling them throughout the Union,” to refuse to sell its products to discounters.
[i]n the absence of any purpose to create or maintain a monopoly, the [antitrust laws do] not restrict the long recognized right of trader or manufacturer engaged in an entirely private business, freely to exercise his own independent discretion as to parties with whom he will deal.
For most of the century during which this language has been on the books, antitrust enforcers quite reasonably read the paean to business freedom in the second clause in conjunction with the first — “[i]n the absence of any purpose to create or maintain a monopoly” — to mean that the right to refuse to deal, whatever its extent, has no purchase whatsoever on the antitrust laws, which are dedicated to preventing the creation and maintenance of monopoly.
But in recent decades, the courts have preferred to drop the qualification contained in the first clause altogether, and to recognize a general right to refuse to deal even when the creation and maintenance of monopoly are rather baldly at stake. As Justice Scalia put it in an infamous 2007 opinion,
Firms may acquire monopoly power by establishing an infrastructure that renders them uniquely suited to serve their customers. Compelling such firms to share the source of their advantage is in some tension with the underlying purpose of antitrust law, since it may lessen the incentive for the monopolist, the rival, or both to invest in those economically beneficial facilities.
This notion that triumph of any kind in the free market is a necessary incentive for progress filters our understanding of competition through the fearsome metaphor of natural selection, survival of the fittest, the war of all against all, the Origin of Species.
According to this view, the lion did not need antitrust restrictions on refusals to deal to evolve out of the primordial soup, and if the lion goes extinct because humans fail to share habitat, that represents a triumph of competition, because the lion will then be replaced with a creature that obviously represents an evolutionary advance: us. Moreover, the argument goes, if the lion had been forced to share with the ape back when the lion was the king of beasts, the ape likely would never have needed to learn to walk upright, to heave javelins at passing herds, and eventually to invent the computer.
Unnatural Selection
The natural selection metaphor is a big mistake, because the apparent virtues of natural selection are subject to severe survivorship bias. We’re here, and living and thinking, so our evolution must have been a success. But all those creatures who never came to exist — imagine whatever god or fairy you wish, so long as the creature is better than us according to whatever metric you prefer — aren’t here to observe the failure of their natural selection, because they never came to be.
The only thing we can say for sure about natural selection is that it selects; we cannot say that it selects well, for the criteria according to which it selects are unregulated. Natural selection is undirected, and therefore unreliable, selection. The rumpled paper airplane that is natural selection spirals off in whatever random direction the environment happens to impose upon it, with no guarantee that the direction is good, let alone the best, according to any metric we as human beings might hope to use as measure. Climate change, and the very real prospect of the imminent termination of life on earth, is a convenient reminder that the direction of evolution — evolution that has led to us — may be very bad indeed.
It follows that to consign our markets to the same law of the jungle that has produced us is a big mistake. Indeed, it is the sort of mistake that would scandalize our forebears, who, living closer to that state of nature themselves, understood our human advantage to be our capacity to choose the criteria according to which selection proceeds, rather than to submit to the random criteria of the jungle. Our talent for directing our own selection, not to mention the selection of other creatures (think of your dog) is our great advantage. (Indeed, our forebears understood this perhaps too well, leading to an excessive affection for absolute monarchy and planned economies. Ancient Egypt springs to mind, with its conscious glorying in divine kingship as antidote to the chaos of the natural world.)
To continue to escape nature, we must continue to choose the criteria according to which we select ourselves, and that is as true when we structure our markets as when we design our education system. Markets are themselves just machines for the selection of the things we want the economy to produce, with profitability determining winners and bankruptcy determining losers. These machines are useful to us only to the extent that they select for the characteristics that are most helpful to us. A market that selects for sloth, or for behavior designed to take wealth from others without providing a quality product in exchange, is not a useful market. The way to make markets select for desirable characteristics is to ensure that the undesirable characteristics provide no advantage.
Thus we must build our markets in the same way that the artificial intelligence researcher builds a learning algorithm, calibrating it to ensure that once the algorithm is unleashed it will select for the desired traits. Markets are machine learning, with the software antitrust, and the hardware human life. Genes evolve, but genetic algorithms solve. And markets exist to solve our economic problems.
The question that refusals to deal really pose is whether permitting firms to horde essential inputs selects for characteristics that are good for the economy. And here the answer must be no. If the input denied to competitors is truly essential, then there is no obvious way to invent around it, and so the characteristic that legalizing such refusals selects is talent for identifying and appropriating essential inputs that deliver the firm from having to compete hard on all the other characteristics that we really value, such as good management, incessant innovation, quality, distribution, and low costs. Allowing refusals to deal unlevels the field.
Selecting for skill at destroying competition may of course incidentally sweep in some characteristics that we care about — ambition, of course, and innovativeness aimed at finding or creating the essential inputs — but the presence of this anticompetitive selector pulls the market out of focus, sapping competitive energies away from the things we care about — low prices and high quality — and toward monopoly.
Sometimes the question is muddied by the need to ensure that innovative firms are able to cover the costs of research and development before competitors appropriate their innovations, pile into the market, and erode profit margins. In these cases, it is the refusal to deal that keeps the playing field level, instead of skewing it, by ensuring that innovators get the proper rewards. But true refusal to deal cases are different. True refusal to deal cases involve a refusal to supply an essential input when doing so facilitates supracompetitive profit taking, a dominance of markets that is not necessary to help firms cover their costs. Antitrust policymakers today would treat every refusal to deal as if it were necessary for firms to cover research and development costs, a conceit that is necessary only because the reality of almost never condemning a refusal to deal is so unjustifiable.
The Surprisingly Apt Sports Metaphor
Ensuring that undesirable characteristics provide no advantage is just what we do when we level a playing field in sports. Take a soccer game played on a hillside, for example. The inclined field gives one side — the side with the higher goal — an advantage based on luck, or the ability to strong arm the other team when sides are chosen before play, instead of based on characteristics that we want to promote, such as training, endurance, and the ability to bend a football into a net from twenty yards out.
To avoid this sort of adulteration of play, we insist on level playing fields in sports. It’s the reason we recoiled from steroids in baseball, for example, because all those home runs created an advantage that made for boring, uni-dimensional, play. Indeed, we feel the same way about all doping, because it leads to selection based on chemistry, rather than on the endurance and coordination that we value in sports. Only the level playing field produces the fittest players, just as it produces the fittest firms.
Just as we expect opposing players to help each other up off the ground when they have fallen — because losing a player makes for less satisfying play — we should expect firms to help each other to enter markets, when that would make for tougher, and therefore more productive, competition.
Success and Excellence
The individual firm must therefore be governed by an ethic of excellence, rather than an ethic of success. For only the pursuit of excellence causes firms to affirmatively seek to bring competition upon themselves, whereas an ethic of success causes firms to seek only to win, rather than to win by being the best. We want the great athlete, who wants to run the hardest race against the toughest competitors, not the slouch or the crook, who celebrates when the going gets easiest.
This distinction, between the pursuit of success and the pursuit of excellence, may be loosely, and probably unfairly, associated with the divergent outlooks of the two great civilizations of European antiquity, the Romans and the Greeks. Ancient Greek culture focused on the struggle with the self, the desire to go beyond mortal limits through exposure to competition of the highest order, a desire reflected in the tradition of the Olympic Games.
Rome represents something quite different: the urge to dominate at all costs, summed up by the city’s founding sin, in which the band of male outcasts who were the city’s founders obtained wives, and therefore a future for their polity, by inviting their neighbors to a feast and then carrying off their women.
Giambologna’s The Rape of the Sabine Women, on display in Florence. Michelangelo’s David, reflecting the pursuit of excellence, is conveniently pictured in the background. Photo credit: Arnold Paul, Florence Rape of the Sabine Women 3, CC BY-SA 3.0.
We must insist on Grecian firms.
The pursuit of success over excellence is a recipe for long-term failure of industry, and a threat to American national security in a world in which America is no longer clearly the most technologically advanced nationor the strongest economy, a world in which the failure to demand that our firms strive to be the best, even when they could succeed with less, could well mean the difference between victory and defeat in the next war. (True, Rome built a more enduring empire than did the Greeks, but that is only because internally, in their training and organization, the Romans were Greek.)
Which takes us back to what Facebook did to Vine. By killing Vine off via refusal to deal, Facebook prevented Vine, and Twitter, from morphing into genuine challenges to Facebook’s dominance as all-purpose social media platform.
That means that today Facebook doesn’t face the kind of competition it needs to continually improve, the competition on everything from likes to privacy that can come only from doing battle with other firms on an equal playing field, the competition that affects characteristics that matter. Instead, Facebook competed on one characteristic alone — the ability to build the largest network first — and used that high ground to defeat a more tech-savvy competitor.
That’s a recipe for the long-term decline of American social media, and of American tech savvy more generally.
The Antitrust Case against Facebook’s Treatment of Vine
Facebook’s killing of Vine should be the easiest of antitrust violations to prove, but instead the case can be made only through the luckiest of coincidences. Luck is needed because of the current ascendancy of the Colgate Doctrine: the right of any business to refuse to deal, even if that would create a monopoly.
Under the influence of economists and lawyers associated with the Chicago School, the courts have all but eliminated any liability for refusal to deal, allowing it only when the refusal represents the termination of a prior profitable course of dealing. The idea behind narrowing liability to this unusual set of facts is that only when the refusal to deal amounts to a choice to forego a current profitable relationship can enforcers be absolutely certain that the motivation for the refusal is to earn even greater profits from the destruction of competition. As Justice Scalia put it in that 2007 case,
The unilateral termination of a voluntary (and thus presumably profitable) course of dealing suggest[s] a willingness to forsake short-term profits to achieve an anticompetitive end.
Motivation should have no place in the resolution of antitrust cases, because the antitrust laws are not about policing morality, but about guaranteeing the vigor of the economy. What matters in antitrust are outcomes, not whether businesspeople act with virtuous or heinous intent. But this perversion of the law is of no consequence in the case of Facebook’s treatment of Vine. Miraculously, the question of Facebook’s motivation is subject to no doubt here because the British have provided us with emails pregnant with anticompetitive intent:
Justin Osofsky — Twitter launched Vine today which lets you shoot multiple short video segments to make one single, 6-second video. As part of their NUX, you can find friends via FB. Unless anyone raises objections, we will shut down their friends API access today. We’ve prepared reactive PR, and I will let Jana know our decision.
MZ – “Yup, go for it.”
But even if there were no such evidence of intent, Facebook’s actions meet the prior profitable course of dealing standard imposed today by the courts.
Facebook’s sharing of friend lists with Vine allowed Facebook to collect valuable data about which Facebook users were using Vine. Facebook’s termination of that sharing therefore represented the termination of a prior profitable — in data-denominated terms — course of dealing, the unmistakable sign the court demands that the motivation was to earn even greater profits — here in the form of monopoly-level access to users’ social networking data — that come from squelching competition in the market.
So as luck would have it the case against Facebook fits squarely within the sliver of an exception to the Colgate Doctrine currently tolerated by the courts. But the fact that we need to fit the case into that sliver tells much about the extent to which antitrust has been failing in recent decades in its duty to ensure level competitive playing fields.
Integrating into Espionage
The situation is even worse when it comes to Facebook’s snooping on, and eventual gobbling up of, WhatsApp.
The story of global merger enforcers’ disastrous failure to block the WhatsApp acquisition due to a failure to appreciate that consumers pay for both Facebook and WhatsApp in data, making the two companies rivals, and the merger the brazen elimination of a nascent competitor, has already been told. But Onavo’s role in helping Facebook identify WhatsApp for acquisition points to another failure in contemporary antitrust: the death of vertical merger enforcement.
Onavo’s app is properly understood as a component of the social media product offered by Facebook , one that includes not just liking and photo sharing, but also privacy services. As such, Onavo and Facebook stood in what antitrust lawyers call a “vertical” or supply-chain relationship, producing components of a common end product — the social media experience — that is sold to consumers. And Facebook’s acquisition of Onavo was therefore a vertical merger.
But in the 1980s antitrust enforcers abandoned vertical merger enforcement entirely, on the assumption that innovation and efficiency always result when businesses in a vertical relationship work together to serve consumers. The district court’s stinging and misguided rebuke of the Justice Department’s recent attempt to revive vertical merger enforcement by challenging AT&T’s acquisition of TimeWarner shows how alien the old learning regarding the threat of vertical mergers has become to the courts in recent decades.
There might well have been some synergies between Onavo’s analytics services and Facebook’s social media platform, but the role the acquisition played in enabling anticompetitive snooping makes clear that the dogma that vertical mergers are always good for the economy must go.
In everyday life economics presents itself to us first and foremost as a problem of distribution, not of output, not of what economists would call “allocative efficiency.” This pizza place is ripping you off. That employer is lowballing you. In our intuitive economics, higher prices mean someone is taking money out of our pockets and putting it in theirs. And low prices mean we are taking money from someone else’s pockets and putting it in ours.
Only once we’ve considered these distributive consequences do we go on to consider the effect of pricing on output, and even then we usually do so only in the context of bargaining over distributive outcomes. Thus we might say: “If he doesn’t lower the price of a slice, I’m going elsewhere.” Now, that’s an effect on output: the high prices cause you to buy less. But even when we make threats like that, we think of them as a bargaining position: we threaten to go elsewhere, so that the price will go down, and we can therefore be richer.
Yes, maybe we go elsewhere because we can’t afford it, but then we rue the fact that we are not richer — that more wealth has not been distributed to us — so that we would be able to buy. We don’t think to ourselves: “this price tells me that I don’t care as much about this product as the person who produced it, and therefore it is right and proper that I not buy this product and buy something less expensive instead.” That would be a view focused on allocative efficiency. We think instead that we should be given more money, or should find a way to get it ourselves.
Our way of thinking about prices and markets is through and through about the distribution of wealth. But introductory economics takes almost no account of this. Instead, economists introduce their subject primary by reference to competition, not monopoly. (The wildly popular Varian Intermediate Microeconomics textbook, for example, teaches competition before monopoly.)
But theories of competition are not about distribution at all.
In competitive markets, there is no give whatsoever in price. Price is uniquely determined by supply and demand to be just high enough to cover the cost of production and just low enough so that everyone who is willing to pay the cost of production, but not a penny less, is able to buy. As a result, there is no distributive question in competitive markets. Sellers never make any profit, because they sell at cost. And buyers never get away with good deals, because they always pay the maximum that they would be willing to pay for the good.
Indeed, in a world of competitive markets, you cannot, must not, ever think of prices as being too high or too low. If the pizzeria raises prices, it must be because the costs of production have gone up. If your employer reduces your wages, it must be because the value of your labor to the employer has gone down. The pizzeria is not trying to redistribute wealth to itself, but only responding to changes in the value that society places on the ingredients of pizza — cheese, tomatoes, and labor. Society values some of these more than before, which is why their costs have gone up, and that in turn is why the price of your pizza must go up. If you can’t afford the new prices, then you must not care as much about pizza as society cares for the cheese, labor, and tomatoes, and so it is right and proper that you not buy. To complain about the higher prices is not just foolhardy — nothing you say or do can bring those prices down, unless you are able somehow to change the value that society places on those ingredients — complaining is also evil, because it amounts to demanding that you be given something that you don’t deserve. If the pizzeria were to listen to your blandishments and give you a discount, then someone who values the ingredients of pizza more than you, someone who is willing to pay more for them than you, will not be able to buy them, and society as a whole will be worse off, because it will have taken things from someone who values them more and given them to someone who values them less. To hold out for a better deal is to try to pervert a mechanism that, if left to its own devices, ensures the greatest good for the greatest number.
It is my sense that the main reason for which economics seems to turn off the students with the greatest interest in the field is that these students can find in theories of competitive markets no shred of the distributive intuition with which they are familiar. Moreover, the theory of competitive markets destroys the motivation to study economics of anyone who actually cares about economic outcomes. Because the theory of competition suggests that the economy is a machine, and not a social endeavor at all, which in turn suggests that non-interference is the proper way to interact with the economy. Do not complain about prices. Do not hold out. Do not bargain. Just accept the prices and wages that you are given, and make sure that everyone else does too, and you can be confident that the prices are just and the wages are just. But we do not become interested in, and study, things that we do not wish to interfere with. No. We become interested in, and study, things that we want to tweak, to improve, and so on.
So those who are most interested in economics come to economics (1) with a thirst to understand how economics drives distributive outcomes and (2) with a thirst to understand what can be done to improve those outcomes. Introductory economics courses tell these students: (1) economics poses no distributive questions at all and (2) to the extent that there are any problems with the economy, they can be solved only by doing nothing. No wonder that few economists seem really passionate about their subject. The way introductory economics is taught alienates all those students who are really passionate about the subject.
That is a shame, because the economic concept of monopoly speaks to all the frustrations of those who really care about economics. It’s a crime that the concept gets so little coverage in introductory economics courses, a crime all the more serious because not only do economists of all stripes agree — at least when pushed — that the monopoly concept is far more widely applicable to economic life than the competition concept (think product differentiation and monopolistic competition), but the monopoly concept is also the far older and more established of the two concepts in economics, stretching right back to Ricardo and beyond (Adam Smith talked about both competition and monopoly, but he didn’t have models for either). If there is one piece of good that might be done for the world in matters economic, it might well be to henceforth start all economics textbooks with monopoly, and leave competition for the last chapters, the way monopoly is left to the end today.
(This extends, as well, to the teaching of introductory game theory. The game theoretic counterpart of the monopoly concept is bargaining, also called cooperative game theory, because bargaining is all about the distribution of surplus, and not about immutable equilibrium results. Why, then, is it that Dixit only gets to bargaining in the final chapter of his seventeen-chapter introduction to the field, Games of Strategy? Do not tell me that it is because the mathematics of bargaining is harder. It’s only harder because distributive questions are underdetermined — any distribution is possible — which means mathematics isn’t all that useful for distributive questions to begin with. Distributive questions are political, not mathematical, questions. The responsibility of economics is to study the economy, and to emphasize the most important aspects of the economy, not to emphasize the aspects that are mathematically tractable. Economists ought to lose named chairs if they do otherwise.)
Why does the concept of monopoly speak to our basic distributive intuition about economics? Because the monopoly concepts admits that people can and do choose their prices, that the supernatural forces of the market do not choose prices for them, and therefore that the distribution of wealth matters. The pizzeria can choose higher prices, and in so doing can extract more wealth from us. And our employers can pay us lower wages, and deny more wealth to us. And when the pizzeria or the employer acts this way, the monopoly concept tells us that the prices the pizzeria charges and the wages the employer pays are not necessarily an accurate reflection of the cost of making pizza or the value of our labor. If the pizzeria raises prices, it might be because costs have gone up, but it might also be — indeed, it is most likely to be, if we accept that in a world of differentiated products every firm has some amount of power over price — because the pizzeria has decided to try to extract more wealth from us in exchange for providing a good that hasn’t changed in value at all. And now, knowing that prices can rise even when value does not, it makes sense that our instinct is immediately to bargain, to walk away, to hold out, in order to drive that price down. Indeed, knowing that prices can rise even when value does not, it makes sense now that we intuitively view all of our economic interactions first and foremost in distributive terms, because economic interactions are first and foremost about distribution. Any creature foolish enough to just intuitively accept prices as dictated was long ago flushed from the gene pool, having failed to reproduce, because the creature spent all its money on pizza, or failed to bargain for a higher wage.
The monopoly concept tells us that to complain about prices is not to threaten to upset a well-oiled machine, not to try to take from others what they value more, but to insist on a share of the productive pie. The pizzeria creates value — surplus — over the cost of production when the pizzeria makes pies. Why? Because the pies are worth more to us than cheese, tomatoes, and labor separately. That surplus is expressed in the maximum prices that we are willing to pay for pizza, maximum prices that exceed the cost of cheese, tomatoes, and labor. What to do with this surplus of pleasure (our pleasure) over cost, of this surplus of our pleasure over the pleasures foregone by those who would otherwise use the cheese and tomatoes, or spend their labor time on other pursuits? If the pizzeria charges a high price — a price equal to our maximum willingness to pay — then we give that surplus to the pizzeria. If the pizzeria chooses to pay a higher wage than the minimum that its workers are willing to accept, then the pizzeria passes some of that surplus along to its workers. Otherwise, the surplus goes to the owners. And if the pizzeria charges a low price, a price equal just to its cost of cheese, labor, and tomatoes, then we, pizza eaters, get all of the surplus. This is real economics, the economics of the everyday. It’s also a fundamental part of virtually all economic research today, but you wouldn’t know it from taking an introductory economics class. Persevere.
In the world of the monopoly concept, economics is inexorably political, there is always something to be done to improve the system, and doing nothing means catastrophe. Distribution is politics. Should the workers take more of the surplus? Should consumers? Are prices too high? Too low? Something must be done. The monopoly concept takes you straightaway to action.
There is much that can be done. You can lower prices by promoting competition in markets. Is it hard to find another pizza place charging a lower price, which is why your local pizzeria feels comfortable raising prices? Why, then, is it hard to find competitors? Are they all owned by the same firm, despite different branding? Do they use WhatsApp to fix prices? Are there just too few of them? To solve these problems, you need to advocate for greater antitrust enforcement.
But you can also lower prices through “rate regulation” — government setting of prices. This is a lot more common than you might think. States regulate the prices charged by power, gas, and water companies, among others. And have regulated prices in many more industries over the past century or so. Indeed, regulatory economics and auction theory are devoted to little else than finding low-cost ways for government to set prices (albeit with less attention to distributive concerns than there should be).
There are yet other ways to deal with prices. Thee is the political harangue. Studies show that when presidents complain about high drug prices, prices fall. There is also the reallocation of property rights. Indeed, the problem of pricing strikes deeper than antitrust, with its focus on anticompetitive conduct, deeper even than rate regulation, with its focus on dictating prices, and instead goes to the heart of our legal system, and in particular the part of it dedicated to property. The home you own monopolizes a bit of space in the world, and that is why, when that space is in great demand, homeowners can become enormously wealthy, because they exploit that monopoly to charge the highest possible prices to buyers. Maybe that’s a good thing if the homeowner started out with modest means. But the point is that property is monopoly (a thing that was said long before Eric Posner and Glen Weyl called attention to it in a recent book). One way to drive prices down, or more generally to redistribute wealth, is to divide up or redistribute property. And that bring us to tax policy, which strives to deprive you of the fruit of your property-based monopolies, albeit without tying to deny you title to them. Property tax makes you pay some of that higher price you can claim back to the state. Income tax makes you pay some of the higher wages you can charge due to your monopoly over your talents back to the state. Sales tax does almost the same thing as rate regulation, making the pizzeria pay some of the monopoly profits it earns from you back to the state (don’t be fooled by the way stores fight the tax politically by adding the tax onto your bill — the bill would be higher without the tax). Trust getting busted, price being set, Presidents complaining, property being expropriated, and everything being taxed. You don’t get any more political and interventionist than that.
Moreover, unlike in competition theory, in monopoly theory the alternative of doing nothing about prices is just not any option, unless you believe that owners should always enjoy all of the surplus generated by production. Why? Because all markets tend naturally toward monopoly. Firms acquire firms, and run others out of business. Over time the result is monopoly everywhere, and owners that charge consumers the highest possible prices, and redistribute nothing to their workers. Unless government does something, whether to promote competition through the antitrust laws or property reform, or to regulate prices directly as part of a rate regulatory regime, markets will tend naturally to allocate all wealth to business owners. We are very far now from the competitive world view in which any sort of intervention in the economy misallocates resources.Of course, the two models — competition and monopoly — do work together. If you drive prices too low, or wages too high, then the allocative effects that competition theory worries about start to kick in. The pizzeria does have costs, and if you drive price below costs, then you really will start taking cheese, tomatoes, and labor from those who value these things more highly than you do. But it’s a good rule of thumb to assume that the initial change in prices is a distributive change, not a competitive — or what economists would call an “efficiency”-driven change. Distribution comes first, which is why most of us intuitively think about it first when we consider economic issues, and why it ought to be taught first, too.
Indeed, I have come to believe that most of the differences I have with economists are attributable to the difference between the competitive and monopoly world views. Whether they admit it or not, all economists walk the earth with a default economic model in their heads, parsing and interpreting economic facts in the first instance through that model. And very often, precisely because they went through introductory economics courses that emphasized competition, economists’ default model is the competitive model, not the monopoly model. It’s fine to have a default model — all science has to start from priors — but for the reasons that I gave above, that economic reality is characterized in the first instance by pervasive monopoly, even if only of the differentiated product monopolistic competition variety, the default model that economists out to be carrying around with them is the monopoly model. But in fact economists don’t usually have the monopoly model in mind in the first instance, and sometimes they seem to have forgotten about it entirely when pressed on public policy matters, even though in their own advanced technical work they may use nothing but monopoly models themselves.
For example, I gave a paper last year in which I argued that antitrust law should be read to require that firms give all of their surpluses to consumers, by charging the lowest possible prices, consistent with covering costs, to their customers. A learned scholar in attendance chose not to put any questions to me during my talk, but, seemingly because he thought he would be saving me from embarrassment, approached me afterward to try to explain to me what he thought were basic economics concepts that my paper had ignored. Using, if I recall correctly, a fruit analogy (apples and oranges), he tried to explain that if the firm charges lower prices, then it will attract less investment, and that would ultimately harm the very consumers I was hoping to help. He seemed entirely immune to my insistence that I was talking about reducing prices down to costs, but not below them, so the prices would simply redistribute surplus.
I struggled and struggled with his comments, trying to understand what I might be missing, until I realized that he was thinking in purely competitive terms. In his world, there simply was no surplus! Reduce the price of a pizza, and either someone gets something they don’t deserve, or — his point — the pizzeria will just produce less pizza, because any reduction in price must drive price below cost, making some production unprofitable. The notion that a price drop might have no effect on output was entirely alien to him. And yet at that very conference he had himself given a paper about monopoly in the finance sector! It wasn’t that he was somehow unaware of the monopoly concept, but that it wasn’t the default model that he useds when talking about policy issues.
Such are the wages of failing to emphasize the monopoly concept in economics education.
As I mentioned in an earlier post, the CPI/CCIA conference at Harvard Law School last month brought together establishment scholars from the left and right to consider the calls for radical antitrust reform emanating from the Open Markets Institute (OMI), calls that have captured the imagination of some sections of the press and the political classes over the past few years. Former US and EU antitrust enforcers spoke at the last panel of the day, including Bill Baer, who headed the Antitrust Division of the Department of Justice for part of the Obama Administration.
Baer kicked off his remarks by stating that antitrust’s consumer welfare standard — a target of OMI, and much discussed on panels earlier that day in Cambridge — should stay, because it’s the only administrable standard available to antitrust.
OMI has tended to condemn the consumer welfare standard because the standard privileges the interests of consumers over the interests of other groups that may be harmed by anticompetitive conduct, notably workers, who suffer when employment alternatives disappear. But the immediate difficulty created by the consumer welfare standard has been more mundane: consumer welfare is hard to measure. Which makes it strange that Baer should think the standard administrable.
To see why the consumer welfare standard is hard to apply, consider the merger of AT&T and TimeWarner. Let us suppose that the merger would lead to reduced costs (because of the elimination of what economists call double marginalization), some improvements in program quality, because, for example, the combined firm can use viewing data to tailor content, and some increased market power, because TimeWarner can now raise prices to other content distributors safe in the knowledge that if negotiations fail and a blackout ensues, TimeWarner will still be able to continue to supply content to AT&T viewers.
The increase in market power suggests that consumers would be harmed by the deal, but whether that actually happens depends on whether either of two escape valves opens. First, cost reductions associated with the merger could make consumers better off, even after market power effects are taken into account, if some portion of those cost reductions are passed on to consumers in the form of lower, though still monopoly-power-inflated, prices. Second, even if any cost reductions are not passed on to consumers, the improvement in programming quality might itself ultimately make consumers better off, if the improvement is sufficiently large to offset any increase in prices. Given the existence of these two escape valves, determining whether consumers are harmed by the merger requires enforcers to predict the price effects of the merger, along with the dollar value of the improvements in programming quality brought about by the merger, and to compare the difference between the two, known as “consumer surplus”, with the original pre-merger difference between price and programming value to consumers.
That’s hard, because quantifying the value of programming to consumers requires enforcers to deduce the maximum prices that consumers would be willing to pay for the programming, rather than the real prices that consumers actually are paying.
Indeed, measuring consumer welfare is so hard that in practice enforcers don’t even try to measure it, the law be damned. Instead, they just test to see whether the merger will raise prices, pretending that price increases are a good proxy for consumer harm, which of course they are not. If the value of the product to consumers rises by more than prices, for example, then consumers benefit from the merger. By the same token, a merger could drive down quality — perhaps the union of AT&T and TimeWarner would unleash targeted advertising that actually reduces program quality, for example — to such an extent that consumers would end up worse off from the merger even if the merging firms were to share some of their cost savings with consumers by lowering prices.
Enforcers don’t try to measure consumer welfare because they can’t. And that tells us something important about whether the consumer welfare standard is as administrable as Baer says that it is: namely, that it isn’t administrable at all. Precisely because it is not clear in any case whether consumers are harmed, antitrust enforcers look to see whether prices would rise instead, since prices, thank goodness, are actually observable. Ostriches can relate.
In fact, enforcers don’t even proxy consumer welfare effects by looking exclusively at prices. Instead, they try to distinguish price effects unrelated to anticompetitive conduct, such as price hikes driven by higher energy prices, or other “exogenous” factors, and price effects that are attributable to the vigor of competition in the market. As I indicated in my earlier post on the CPI/CCIA conference, such an inquiry into what might be called “abnormal price effects” is really an inquiry into profit margins — increases in prices that are not driven by increases in costs.
And here is where the irony, and not just the falsity, of the claim that the consumer welfare standard is the only administrable antitrust standard shines forth. For the rule that antitrust should condemn anticompetitive conduct that increases profit margins is actually the old standard that the consumer welfare standard was fashioned to replace, the very standard in comparison to which the consumer welfare standard is supposed to be an improvement in administrability, practicality, clarity. The covert inquiry into profit margins that enforcers understand when they are supposed to be testing for consumer harm is nothing but the standard of the mid-20th-century golden age of antitrust. That standard prohibited all anticompetitive conduct, regardless whether the conduct harmed consumers or not, so long as that conduct could be expected to lead to, or protect, market power, defined as the power to earn abnormally high profit margins. The supreme inadministrability of the consumer welfare standard is actually expressed in the fact that enforcers don’t even follow that standard as a technical matter, but still follow the old standard that it was supposed to replace.
But if antitrust is still doing what it has always done in testing for abnormal profits, what explains the remarkable declines in antitrust enforcement since the Chicago School shifted antitrust to the consumer welfare standard in the late 1970s? The answer is that Chicago did not just change the standard on paper from harm to competition to harm to consumers, but also changed the burden of proof required to meet any standard. Thus while enforcers have continued covertly to apply the old standard — which looks at profit margins, not consumer welfare — they have done so with a level of skepticism about their own ability to identify increases in margins that did not exist before the triumph of the Chicago School in the 1970s.
To the extent that this skepticism is warranted, the consumer welfare standard is perhaps no more administrable than the margins alternative. But to the extent that the skepticism is not warranted, the consumer welfare standard is less administrable than the margins alternative. The fact that enforcers have sought in the measurement of profit margins a refuge from the challenge of measuring consumer welfare certainly suggests that margins are easier to measure, and that the consumer welfare standard is the less administrable standard. Either way, the consumer welfare standard is not more administrable than the profit margins alternative that came before it.
Another way to see this is to consider the role of the consumer welfare standard in basic antitrust doctrine. Before 1975, antitrust had two kinds of legal tests. The first, called the per se rule, condemned certain kinds of anticompetitive conduct full stop. The second, called the rule of reason, prohibited anticompetitive conduct by firms possessing, or acquiring through anticompetitive conduct, market power, understood to mean the ability to earn abnormal profits. The focus of the rule of reason on actually proving margins did not imply the unimportance of margins to the per se rule, only the willingness of enforcers to invest more time in proving margins in some cases (rule of reason cases) than in others (per se cases), for which latter it was hoped that proof of anticompetitive conduct alone would be sufficient to signal the existence of abnormal profit margins, at least on average.
Comes now the consumer welfare standard in the 1970s, which appears in the doctrine as an additional element required to meet the rule of reason test. Under that new rule of reason, three things were now required: (1) anticompetitive conduct, (2) market power, and now (3) consumer harm. Thus the consumer welfare standard created a compound test, one that requires both proof of abnormal margins and proof of harm to consumers.
But doing two things is not easier than doing just one of those things. The consumer welfare standard does not make it easier to do antitrust, but harder.
I put this point to the panel in Cambridge, but received only affirmations of faith in reply from several panelists, including former FTC chairs Jon Leibovitz and Bill Kovacic. Why does the consumer welfare standard seem to so many — and not just Baer — to be a practical standard? Why, because it’s an empyrean, an ideal, a beautiful but unobtainable thing. And we mistake the clarity of the vision for clarity of practice.
(Don’t the consumer welfare and market power (profit margins) elements in the new rule of reason test collapse into the same thing? No, for the same reason that consumer welfare can’t be proxied by price effects. Suppose that market power does allow AT&T and TimeWarner to raise prices after the merger, but also increases the value of programming to consumers by a greater amount. Consumer welfare increases, but margins also rise. Under the old rule of reason, which only looked at market power (profit margins), there is antitrust liability, but not under the new rule of reason, with its requirement of harm to consumers.)
I’m an engineer by training. I’m a very systems, process, methodical decision maker. He’s an entrepreneur. Different mind-set.
Management runs publicly-traded companies like ExxonMobil. Owners run private firms. The former are bureaucracies, the latter, fiefs. The former are a progressive invention, the latter much older. There is managerial capitalism, and then there is finance capitalism. There are corporations, and then there are businesses. Their leaders may look similar; they will all be, after all, rich. But they belong to different worlds. Ross, Mnuchin, and Trump belong to one world. Tillerson to another. The distinction is so lamentably obscure to the national consciousness that even the members of these groups sometimes fail to understand that they are different.
Nietzsche said that we feel guilty because we killed God. We feel this same guilt today over the killing of Nature, which gave us our earliest gods. The guilt is expressed in hand-wringing over climate change, the polar bears, meat-eating, and so on. We feel the profoundest self-loathing in the creeping realization that all life on earth has become servilely dependent upon us. The beasts stripped of their nobility and humiliated in parks, or as the subjects of conservation efforts.
Maybe the birth of the gods itself was an expression of this guilt. The Bering Straiters knew what they had wrought when they wiped out the mammoths. The islanders the elephant birds.
Death is a discrete phenomenon. It is a creature of units. Vegetation relies on sunlight for life. A plant can die, however, only because it is a unit of vegetation. When the amount of light falls from 3.481 to 2.377 on some scale, there is death only because each plant requires a minimum of 0.05 of light, or 0.3, or 0.4.
