The network effect, the fuel of the FANG
The phenomenon of the network effect, or avalanche effect, governs the balance of power on the web and distributes power in the new economy. The initiative that manages to trigger it, in its own niche or in general, quickly and almost spontaneously reaches that critical mass of "customers" which is one of the parameters by which the value of online activities is measured. Thanks to the avalanche mechanism of the network effect, the value of a company grows dramatically, thus attracting new resources and new customers by its very existence. The network effect is truly one of the fundamentals of businesses operating at any level on the network. The principle of the network effect is simple: the advantage and benefit that a user or consumer derives from a service increases with the growth of the people who use it. Speaking in the "New York Times" of the network effect?—?which he calls network externality—about the global diffusion of Windows and Microsoft in the XNUMXs, Paul Krugman writes:
“Everyone used Windows because everyone used Windows. If you had a Windows PC and needed help, you could ask your neighbor at the table or on the landing and you could easily get the answer you were looking for. The software was built to run on Windows, the peripherals were designed for Windows. All of these network externalities were in action and turned Microsoft into a monopolist."
The network effect creates quasi-monopolies
Coming to more recent times, no one better than Amazon has known how, thanks to a visionary strategy, to activate and reproduce the network effect in e-commerce. Google, Facebook and Netflix have done similarly in their sectors. One of the most immediate consequences of the avalanche effect is the frenetic expansion into new fields of activity, some truly unthinkable, towards which the company is magnetized by the same voracious, expansive, aggressive and spontaneous mechanism of the network effect. The FANGs teach, but the gig economy is no joke either. A recent example is precisely that of Airbnb. Born as a service to connect those offering a temporary rental and those looking for one, the San Francisco start-up didn't take long to add new services, initially unimaginable. One of these is the one called local experiences. The landlord can not only rent out his premises, but also offer himself, for a few hundred euros more, as a guide, tour guide, chef, chauffeur, gardener, language teacher or skipper. They are self-driving people of the gig economy as Thomas Friedman defines them. Entrepreneurs of the future. More or less everyone will be.
The company that benefits from the network effect expands tumultuously, diversifying rapidly and widely so as to transform itself into a semi-monopoly conglomerate, that is, into something that seemed buried like a prehistoric fossil but has instead come back to life in renewed forms. The prototype of this new type of conglomerate is Amazon and, as Andrew Ross Sorkin says, the new conglomerates look insanely similar to the Seattle behemoth. Two hands are not enough to count the sectors in which Amazon operates. We will be able to follow Sorkin's reasoning in a subsequent post.
It also happens that these new conglomerates seem to evolve into quasi-monopolies that control a large part of the business in which they operate directly or with subsidiaries. This business impacts like a meteorite the consolidated traditional businesses, those that fill the boxes of the GDP as it is calculated today. For the European Union, these new realities are classic monopolies or, even if they are not pure theoretically, they behave as such and must be treated as such. And then there are fines and penalties. In the United States, the country that invented antitrust, i.e. the legislative and legal means to keep monopolies at bay, the issue is more debated. And at the center of this debate is Amazon, which is putting the entire retail sector to the test, which is one of the engines of the largest economy in the world.
Are Internet monopolies bad?
If you ask Elizabeth Warren or Scott Turow, president of the American Authors Guild, whether or not Amazon is a monopoly, the instant answer is "Yes, Amazon is a monopoly." The Guild has already sent an official complaint to the Justice Department asking for an antitrust action, which however, as we will see, is highly unlikely. Even for Krugman Amazon is not good because it is a monopsomy, that is, something that mirrors the monopoly. Monopsomy, in fact, designates a particular form of market characterized by the presence of a single buyer against a plurality of sellers. In the case of Amazon, these third-party economic entities sell on its marketplace platform without having any serious possibility of viable alternatives. For them Amazon is a competitor and a partner, that is a frenemy (half enemy and half friend). The corollary of this bizarre state of affairs, according to Krugman, is that Amazon exercises, thanks to a mere position of power, "undue influence" (undue influence) on the economic subjects, and their related industries, that operate on its platform. A model elaborated in a recent paper by David Autor (MIT economist) and others shows how the affirmation of superstar firms in the technology sector has led to greater industrial concentration and a significant drop in work in the distribution of added value among the different factors of production. The prototype of these companies are the online platforms which obtain, compared to their actual activity, a disproportionate reward which ends up reallocating the value between the various companies and between the factors of production. The consequence is that the economy tends to be manipulated and innovation ends up favoring the emergence of monopoly. This is how MIT scholars describe this path towards a form of monopoly
“Firms initially achieve a high market share thanks to the merit of their innovations and their superior efficiency. Once, however, they have obtained a leading position, they use their market power to erect barriers to the entry of competitors and to defend their dominant position”. At this point monopoly arises and monopolistic behavior takes place.
… no, Internet monopolies are not a bad thing
On the opposite side is Peter Thiel, co-founder of PayPal and now Trump's technology adviser. According to the German from Silicon Valley, Internet monopolies are not only not a problem, because they are transient in a fluid scenario, but a real necessity for companies that intend to innovate in depth. In his 2014 bestselling book, From Zero to One, he downplays the advantages of competition and celebrates the power of “creative monopolies,” which create lasting value and bring products and services to the world that benefit everyone.
“Competition means profits for no one, no significant differentiation and struggle for survival – Thiel writes and adds – Monopolies can continue to innovate because profits allow them to make long-term plans and finance ambitious research projects that the firms operating in a competitive situation they can only dream. Monopoly is the condition of any successful business."
As we said, Thiel occupies an important position in the Trump administration which essentially converges on his positions until the actions of the so-called creative monopolies, located in Silicon Valley, collide with the administration's interests and policies. Then the music changes as happened to Amazon when Trump, due to investigations by the Washington Post, accused Jeff Bezos of intriguing to prevent politics from looking "in Amazon's tax-free monopoly". But is Amazon really a monopoly?
According to Herbert Hovenkamp, a law professor at the University of Pennsylvania and an expert in antitrust legislation, Amazon is not a monopoly if we consider the classic parameters that US legislation identifies as peculiar to a monopoly. A monopoly occurs when a company dominates the reference market to such an extent that it can reduce its supply and cause an increase in prices in a medium-long period of time with damage to consumers. A monopoly exists when consumers are harmed, not when competitors of the supposedly monopolistic firm are harmed. Most of the grievances against Amazon come from competitors, not consumers who place Amazon at the top of their list of favorite services. The law also defines a monopoly when it is estimated that the company controls 70% of a market. And Amazon is well below that ceiling in almost every industry in which it operates. In 2000, Microsoft was hit by antitrust law because its flagship product, Windows, was estimated to have a 90 percent market share. No court, federal court or Federal Trade Commission, Hoverkamp concludes, has ever brought an antitrust action against Amazon. And he did it for good reason. Google and Facebook's position is more compromised as they control 90% and 89% of their markets respectively. In fact, Google has been hit in Europe and Facebook risks something similar.
However, Amazon has traits that do not fit well with the stereotype of the Internet titan. It occupies a lot of people, as can be seen from the graph above. An aspect that has not escaped Mark Vandevelde, the global retail correspondent of the "Financial Times". Vandevelde believes, contradicting the conclusions of the MIT group of economists, that Amazon's fortune didn't happen by destroying jobs or replacing them with machines, but by increasing the contribution of labor to the economy. It has created more jobs than it has destroyed. Reading a study conducted by Michael Mandel, an economist at the Progressive Policy Institute in Washington, we notice this phenomenon. If we also include workers in warehousing and sorting centers and logistics in the retail trade, the workforce employed in e-commerce exceeded by 2016 in 54.000 that lost in the traditional retail trade. Furthermore, Mandel estimates that e-commerce workers are more productive and better paid than their colleagues in traditional commerce. It is true that Amazon is researching and experimenting with new technologies in warehouse and delivery management so as to reduce personnel and execution times and consequently costs, but progress in this field, Vandevelde observes, is very slow.
Zingales and Rolnick's proposal
On one point however, at least in the United States, there is a certain convergence. The current antimonopoly regulation is obsolete. There are still some good principles, but the general framework has completely changed. Not even a renewed regulation appears to be the most suitable solution. The very concept of regulation is questioned. How do you break or destroy something that consumers place at the pinnacle of their satisfaction, as happens with Google, Facebook or Amazon? Antitrust was born to protect consumers, not to punch them in the face.
The only possible way appears to be to seek balancing mechanisms of the network effect so that it can be more distributed among all operators in the sector. The idea of Luigi Zingales and Guy Rolnick, of the University of Chicago, is to bring within proprietary and closed platforms some services of exchange and portability of client activities aimed at keeping alive and stimulating competition. For example, a user of an Uber ride could pay for it with their Lyft account or vice versa. When searching for a vehicle from the Uber or Lyft application, it happens that the available solutions of the competition are also offered.
Speaking of social networks, here is what the two Chicago economists write:
“For a 21st-century problem, we suggest a 21st-century solution: reallocate property rights through legislation so as to stimulate competition…It is enough to assign each consumer ownership of all the digital connections he creates, i.e. what it is known as the social graph. If a person owns his social graph, he can access a Facebook competitor?—?let's call it MyBook?—?and immediately bring all his friends and Facebook messages to this network, as happens with number portability on mobile phones”.
We therefore need a sort of Social Graph Portability Act, i.e. a sort of inter-platform portability of all a person's online activities. This action would reduce the size of the network effect and distribute its effectiveness and benefits, so as to avoid the monopolization of technology. This is a very interesting and even visionary proposal because it profoundly changes the current structure of social media and Internet activities in a direction that the creative monopolies don't like at all. It would be a battle of Thermopylae, but perhaps it is worth fighting, even if it will be a lost battle that will leave a trace.
