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Antitrust in the Digital Age

Remarks of Sen. Orrin G. Hatch
Before The Progress & Freedom Foundation

Future Insight
Release 5.1 n February 1998

Good morning. It is a true pleasure to be with you this morning and to be included in such a distinguished group of leading economic and antitrust thinkers.

I would like to applaud the Progress and Freedom Foundation for convening this symposium, as well as those who have focused their intellectual energies on the topics to be discussed today.

It is, I believe, no overstatement to say that the so-called Digital Revolution is one of the most important economic developments of our age, one which promises to fundamentally change our economy, our business, and our daily lives.

These rapid changes present numerous challenges to policymakers who are seeking to understand what, if any, role the government should play both in the transition to our new digital economy and in the new economy itself. These changes present challenges to policymakers who are seeking to ensure that, where there truly is a productive role for government, this role is both limited and effective.

While of course the Digital Revolution impacts numerous policy areas, I believe that, ranking high among those is the task of understanding the proper role of antitrust in high-technology markets. I promise to keep my comments brief this morning, but thought I would spend a few minutes discussing why I believe it is important for antitrust policymakers, law enforcers, and intellectuals to engage in a serious examination of market power and structure, and the proper role for antitrust enforcement, in the Digital Age.

Make no mistake about it -- these are difficult issues. Anyone who suggests that the answers are easy cannot be taking the issues very seriously. But anyone who suggests that these are not serious policy issues, worthy of debate and study, has, for one reason or another, chosen to ignore reality.

But, the difficulty of the questions should not deter us from seeking answers. And, especially given the breathtaking pace by which technology is advancing, it is imperative that we search all the more diligently and assertively.

I. Antitrust and Free Markets

While there has always been, and probably will always be, considerable debate about the proper role of antitrust enforcement, it is important to note here something that just about everybody agrees with: some degree of antitrust enforcement is important to protecting our free market system and the consumers that system is meant to benefit.

Thus, most who, like myself, trumpet the free enterprise system, also recognize that proper antitrust enforcement plays an important role in protecting free markets. Let me repeat that. Proper antitrust enforcement plays an important role in protecting free markets.

From Adam Smith to Robert Bork, free market, free-enterprise proponents have long recognized as much. So let me debunk the myth that economic conservatives do not believe in antitrust. To the contrary, we believe strongly in antitrust -- so long as the role of antitrust is understood properly and not overextended.

Properly conceived, the role of our antitrust laws is to maximize consumer welfare -- allowing the marketplace to work its will so that the products consumers want can be produced in an efficient fashion and offered at competitive prices. The basic premise is that antitrust protects "competition" in the marketplace, and that a competitive marketplace enhances consumer welfare. In a properly functioning competitive market, consumer choice dictates which products will be produced and sold, and competition among firms determines who will make them and at what price. Consumer welfare is maximized, and society's "pie" is larger.

At the same time, though, our society and our antitrust laws recognize that markets will not always operate freely and achieve their objective of maximizing consumer welfare. The reality is that, in some circumstances, private market power can distort the workings of the marketplace and, as a consequence, can hurt consumer welfare by raising prices, restricting consumer choice, or stifling innovation. This is where antitrust steps in.

As Judge Bork has written, proper antitrust enforcement actually "increase[s] collective wealth by requiring that any lawful products ... be produced and sold under conditions most favorable to consumers .... The law's mission is to preserve, improve, and reinforce the powerful economic mechanisms that compel businesses to respond to consumers." That's an important point -- preserving "economic mechanisms that compel businesses to respond to consumers." [The Antitrust Paradox at 91 (1993).]

The $64,000 question, though -- or, perhaps in today's context I should say the $300 billion question -- lies in defining what actually injures consumer welfare, calling for antitrust enforcement. For it is not enough to say that any reduction in the amount of rivalry in a particular industry reduces competition, injures consumers, and should be stopped by antitrust laws. The very nature of competition and capitalism is for firms to beat each other in the marketplace. While this process -- competition -- certainly benefits consumers, its natural outcome is that the firms who succeed do so at the expense of other firms. [See id. at 49.]

Antitrust law certainly cannot be about punishing winners or protecting losers. The goal is not simply to identify practices that reduce competition or rivalry. Rather, it is to identify when the exercise of market power impedes markets from operating freely and, as a consequence, hurts consumers.

Where such situations can be identified, antitrust has the additional burden of identifying effective remedies that actually benefit consumers and are not more costly than the so-called anticompetitive practices identified in the first place. This sounds pretty simple, but it is not, especially when you are dealing with highly complex, fast-moving marketplaces such as high technology.

But it is my hope that those participating in this symposium today will help those of us in policymaking or enforcement positions arrive at the right answers. For getting the answers right is, I would argue, more important now than ever, especially with respect to these markets which will be the key to our economy for years to come.

II. The Importance of Antitrust to the Digital Revolution

The stakes are high, because ill advised antitrust policy, whether it is overly aggressive or overly timid, could have drastic consequences for the future of our economy. I would like to spend the rest of my time this morning explaining why I think understanding and implementing appropriate antitrust policy for the digital marketplace is a singularly important policy issue.

1. First is the very simple fact that high technology represents the most important sector of our economy. High technology is the single largest industry in the United States, leading all other sectors in terms of sales, employment, exports, and research and development. [American Electronics Association. "Cybernation," 1997.]

Perhaps more importantly, high technology is the key to the development of our future economy. Not only will technology continue to be one of the driving forces behind our economy's growth, but it also will drive the development of the Internet, the "Information Highway," which, by all accounts, will fundamentally alter the way we do business.

Even Congress, which has traditionally been an institution of Luddites, is getting into the swing of things. Communication and accountability to our constituents is much improved by web sites and e-mail. Although, come to think of it ... we may want to rethink this e-mail thing. Now we get feedback instantly -- not even a grace period!

The future direction of the Internet will be shaped in no small part by events occurring in today's marketplace. A handful of developments in today's marketplace could, I believe, have tremendous impact on the Internet, electronic commerce, and information technology as a whole, for years to come.

2. Which brings me to my second, somewhat related reason for suggesting that antitrust enforcement in high technology is a vitally important policy issue. We are currently in the midst of important structural shifts in the computing world.

Given the unique nature of high technology markets, it is with respect to precisely such technological paradigm shifts that healthy competition and effective antitrust policy is most important. Allow me a moment to elaborate on this point, which I believe is a fundamental and important one.

As many economists and capitalists alike have come to recognize -- including, I might note, many of today's participants, and software industry leaders such as Bill Gates -- the economic dynamics in so-called "network" markets such as the software industry often allow individual firms to garner unusually large market shares in particular segments.

Most who have studied such markets closely, agree that the cyclical effects of network effects or increasing returns can translate early market leads into rather large market dominance, if not de facto monopolies, as well as a significant degree of installed base lock-in. This in itself is not anti-competitive when it results from proper market behavior.

While lock-in effects and single firm dominance of particular sectors certainly render a market less than competitive, and consequently has costs in terms of consumer welfare, it also produces an important positive effect.

When one firm dominates the market for a product which serves as a platform -- a product to which other software developers will write their programs -- that firm creates a de facto standard, a uniform platform. Software developers thus are not faced with the cost, in terms of time and resources, to develop applications that run across a variety of platforms. This can lead to significant boosts in productivity and innovation.

Indeed, this is precisely what we have seen with respect to Microsoft's successful establishment of the Windows monopoly, which, by creating a uniform platform for software developers, has had a tremendous effect in the recent boom in software applications and the software industry generally. Even those who are concerned about Microsoft's exercise of its vast market power must enter this efficiency gain in the "plus" column of their consumer welfare calculation. The fact of the matter is that Microsoft and the success of Windows has been an important ingredient in the innovation and wealth creation our software industry has produced over the past decade or so.

So, if a single firm's domination of a particular sector at a particular point in time might be the result of perfectly rational market behavior, and indeed may have some economic benefits, where do we go from here? Does this mean that antitrust is useless, irrelevant, or even counterproductive in high technology markets? To some extent, perhaps. On balance, the antitrust machinery in Washington D.C. probably shouldn't concern itself with every technology market which, at a particular point in time, is dominated by a particular firm to an unusual, even unhealthy extent.

Where antitrust policy should focus, I would propose (with a large footnote to the Judiciary Committee testimony of Professor Joseph Farrell, and other economists who have studied these markets), is on the transition from one technology to the next -- on so-called paradigm or structural shifts in computing.

While it may be likely and even, to a degree, useful, to have a particular firm dominate a particular segment at any point in time, it is dangerous, unhealthy, and harmful to innovation and consumer welfare where that firm can exploit its existing monopoly to prevent new competitors with innovative, paradigm shifting technologies, from ever having a fair shot at winning and becoming the new market leader or de facto standard.

This is especially the case where a single firm exercises predatory market power to prevent healthy competition over a series of structural computing shifts. Where this is so, one would imagine that investors and innovators would find other things to do with their time and money than to try to compete with the entrenched firm to establish an important new technology. Innovation is chilled, and the consumer suffers.

The critical question, then, is how a dominant or monopoly firm exercises its market power, even if fairly and naturally obtained, with respect to the new guy that comes down the pike offering an innovative, potentially paradigm shifting technology. Does this new firm, offering a new technology that may compete with, replace or otherwise threaten the old firm's entrenched monopoly, have a legitimate opportunity to compete in the marketplace?

To borrow a phrase recently attributed to Professor Carl Shapiro, do innovative start-ups get a "market test," or are they "killed in the crib before they get a chance to become a core threat?" [Steve Lohr with John Markoff, "Why Microsoft is Taking a Hard Line with the Government?" The New York Times, January 12, 1998 at D1.]

In high-technology markets displaying a high degree of single-firm dominance, this is perhaps the most important question for antitrust policymakers and enforcers:

To what extent are innovators who offer potentially fundamental changes to the nature of computing given a fair "market test," and just what practices by the entrenched firm should be considered anticompetitive or predatory efforts to foreclose the opportunity for such a genuine market test?

I believe this is precisely the question -- or one of the questions -- presented by Microsoft today and is one of the reasons why Microsoft in particular inescapably invites scrutiny in the course of assessing competition policy in this digital age.

Of course, while antitrust policy in the Digital Age encompasses more than scrutiny of a particular firm, the fact remains that Microsoft in particular does raise a handful of questions, given its dominance of the desktop, together with its admitted effort to coopt important paradigm shifts and, in the process, extend its dominance to a number of new markets.

The Internet generally and, more specifically, the potential promise of browser software, and object-oriented, "write once, run anywhere" software, represent important and possibly critical developments for the computer industry. Both the possibility of a new, browser-based platform and interface, and the possibility of a programming language that is genuinely platform independent, able to interoperate with any type of operating system, could fundamentally change the nature of computing.

Among other things, both of these developments, likely representing the next generation in computing, introduced a serious threat to Microsoft's desktop dominance. As we all now know, Microsoft has clearly come to recognize as much.

Thus, with respect to both the so-called "browser wars" and the battle between Java (Sun's essentially open programming language) and ActiveX (Microsoft's proprietary alternative to Java), we see Microsoft in a fever pitched battle to control two potentially fundamental technological developments and to prevent new technologies, developed by other firms, from undercutting the current desktop monopoly Windows enjoys.

I am confident that nobody from Microsoft would dispute this assertion. Nor should they. Microsoft has all the right in the world not to be asleep at the switch and allow a fundamental, structural technology shift from undermining its current dominance of the software market. Its shareholders no doubt would demand as much.

At the same time, this is precisely where the practices of a currently dominant firm, such as Microsoft, must be scrutinized, and where the appropriate rules of the road must be clarified and enforced. Tying arrangements, free product offerings, licensing or marketing practices that are effectively exclusionary -- these and other practices may be entirely appropriate in most instances.

But the question that, in my view, must be addressed is whether such practices, when engaged in by an entrenched monopolist with respect to paradigm shifting innovations, have the predatory effect of foreclosing innovators from getting a fair market test. Where they do, I would suggest that we have a significant market imperfection which impedes innovation, and in the process hurts both the industry and the consumer.

The questions that I believe law enforcers and policymakers must address are first, how to identify when particular practices have such an effect; and, second, whether our current antitrust regime adequately guides industry as well as the courts and the enforcers to reach the right answer in a timely fashion. These are some of the questions I plan to give close scrutiny in the coming months, and which I hope to learn more about from today's presenters and panelists.

Answering these questions, and coming up with the proper policy and/or enforcement solutions, is more important now than ever. The market battles being waged today are likely to have significant consequences for the Digital Age tomorrow.

3. Which brings me to my third and final reason why I believe sound antitrust policy is so critically important to the Digital Age: because it could prove critical to the growth of a free and open Internet.

Interfaces. In the proper hands, software interfaces are everything. To oversimplify somewhat grossly, software interfaces refer to certain critical external links or hooks in a software program that permit other programs to communicate, and therefore interoperate, with the first program. Because interfaces are the key to interoperability, and interoperability is the key to software markets, relentlessly aggressive, savvy companies with vast resources can be quite successful at translating the control of a critical interface into control of the markets on either side of the interface.

And the ultimate interfaces are the interfaces to Internet access and content.

Microsoft has made no secret of the fact that it has made dominating the Internet space a corporate priority. And I credit them for it. Any genuine free-marketeer, any genuine capitalist, must admire the efforts the company has recently taken to go after what Microsoft itself has called the huge "pot of gold" the Internet represents.

Like many, I cannot help but admire and applaud Microsoft's drive to pursue this vision. Whether it be a no-holds barred approach to competing with alternative browser vendors, seeking to control Web software programming and tools markets with proprietary products, buying the intellectual property of WebTV, making large investments in the cable industry while vying to control the operating systems of cable set-top boxes, linking Internet content to the Windows desktop, or any other of a handful of aggressive steps to control the groundwells, plumbing and spigots of the Internet, one can hardly question Microsoft's ambition to dominate the Internet space, or their business savvy in getting there.

Just how much control over the Internet Microsoft will exercise is anyone's guess, and I certainly do not pretend that I know the answer. But many certainly do believe that this is what Microsoft is out to achieve, in effect a proprietary Internet, and that the answer lies in the outcome of market battles which are being waged right now. For controlling the key Internet interfaces is a critical step to controlling much of the Internet itself.

This, then, is my third reason for why properly calibrated, vigilant antitrust enforcement is all the more imperative today. In the end, the marketplace should be permitted to choose whether it wants a proprietary Internet. I think I know what the answer would be. But I can assure you that, if one company does exert such proprietary control over the Internet, and the Internet does in fact become a critical underlying medium for commerce and the dissemination of news and information, rest assured that we will be hearing calls from all corners for the heavy hand of government regulation -- for a new "Internet Commerce Commission."

It seems far better to have antitrust enforcement today than heavy-handed regulation of the Internet tomorrow.

So, let me suggest to those of you who abhor the regulatory state that you give this some thought. Vigilant and effective antitrust enforcement today is far preferable than the heavy hand of government regulation of the Internet tomorrow.

III. Conclusion

In closing, I would like to come back to what I said at the outset. These are difficult, but very important, policy issues. Because of what is at stake, effective and appropriate antitrust policy is critical to our digital future. Antitrust policy that errs on either side -- be it too aggressive or too meek, could have serious consequences. But because of the uniqueness, and the complexity of high technology markets, discerning the proper role for antitrust requires some fairly hard-headed analysis.

Those who dismissively say that technology is complicated stuff that changes like quicksand are in a sense correct. But, is the answer, as has been suggested by some politicians and other new-found friends of Microsoft here in Washington, simply to throw up our hands and move on to other, easier, and less sensitive issues? Hardly.

Rather, let me suggest that the answer is to make sure that the rules of the road are the right ones, and that the referees do a good job enforcing them, when and where it is appropriate. Antitrust policymakers and enforcers should not shirk their duties just because the task is a hard one.

I have a great degree of confidence that the current head of the Antitrust Department is up to the task, and, as Chairman of the Committee with antitrust and intellectual property jurisdiction, I plan to do what I can to ensure that the rules are being applied both fairly and effectively. We in Congress not only can, but in my view must, ask the questions and help ensure the right answers.

Toward this end, I would like again to thank the Progress and Freedom Foundation, and those who have dedicated the time and intellectual effort to these difficult questions, for taking a very productive step in this process of understanding and implementing a sound, effective role for antitrust policy in the Digital Age. I expect that we all will learn a great deal from what I trust will be a vibrant and energetic discourse throughout the remainder of the day.

Thank you very much.



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