Is Big Bad?

BERKELEY — Monday, Federal Judge Thomas Penfield Jackson found as a matter of law that Microsoft had violated the 110-year-old Sherman Antitrust Act. He will now begin the process of determining what remedy will be granted to repair the damage done by this illegal restraint of trade.

It may be that this decision, shocking to the high-tech sector’s stock-market valuation as it was, will wind up as a footnote. For, five years ago, Microsoft, with its dominance of desktop operating systems and productivity applications, was at the heart of America’s high-tech economy. But today, because of the remarkable rate of change, the heart of the high-tech economy is the network. It is at least arguable that the key is now in the hands of physical-network companies like AT&T;, data-delivery companies like Akamai Technologies, database companies like Oracle, Internet-access providers like America Online and the communities of open-source programmers who maintain and develop the Linux operating system and the Apache Web server. So what happens to Microsoft, specifically, is no longer as critical.

But even if Microsoft the company is (relatively speaking) no longer as crucial in the new, larger, high-tech economy, Microsoft the case may still be key in the development of antitrust law. It will be a big step down the path of applying antitrust principles more than a century old to the new economy. Ever since the Industrial Revolution began, the United States has wrestled with the dilemma of antitrust: How to deal with highly productive monopolies. Can we somehow have our cake and eat it, too: Gain the benefits of efficient bigness and still keep the benefits of intense competition? Each time the technology changes, the form the dilemma of antitrust takes changes as well.

America, as Thomas Jefferson or Abraham Lincoln imagined it, had no place for monopolies. For both, competition was an essential piece of individual liberty. If you didn’t like the deal someone was offering, you could walk down the street and find an alternative trading partner. Monopoly--someone who made you poor, limited your freedom by telling you to “take it or leave it” and made that stick--was not something America could afford. But steam power and industrial machinery changed things. A single factory could produce enough to sell to a state or the nation. Andrew Carnegie’s integrated steel mills, George Westinghouse’s electrically powered machines and appliances, Gustavus Swift’s steer-disassembly line and others promised huge efficiencies by producing at massive scale.

The sheer magnitude of economies of scale made it seem likely that, left to itself, the market would produce monopoly after monopoly. But were the efficiency gains--lower costs--worth the loss of individual choice? Without competition, there was every reason to fear that lower costs would come with higher prices and a more unequal distribution of wealth.

The attempt to carve a solution to the late 19th-century dilemmas of antitrust came with Ohio Sen. John Sherman, younger brother of Civil War Gen. William Tecumsah Sherman, and his 1890 Sherman Antitrust Act. When the dust of the first generation of antitrust litigation settled, the United States found itself with a legal system that tolerated oligopoly, in which four or five large firms competed against each other in an individual market, but sought hard to curb monopoly, a single dominant seller with overwhelming market share, through tight constraints on the monopoly’s conduct or through court-mandated breakups of monopoly businesses that had used their power to restrain trade unreasonably. The hope was that this set of legal principles would get us most of the efficiency benefits possible from economies of scale--the oligopolistic firms were extremely large--and most of the benefits of competition as well--the oligopolistic firms would compete against each other.

Back then, antitrust law mattered, for the large companies it affected had enormous scope and reach throughout the economy. Nearly every construction project used U.S. Steel’s steel. The court case that broke up Standard Oil and the threat of antitrust action that turned AT&T; into the highly regulated Bell system that we knew before the early 1980s shaped America’s economy.

During the Great Depression, another principle was added to the mix. Congress decided the government should put its thumb on the scale on the side of relatively small producers: There was a public purpose to be served in outlawing practices that made it difficult for the small-scale producer to survive alongside oligopolistic giants, even if they were not the lowest-cost producers, even if the giants’ practices were not necessarily unreasonable restraints.

Thus, antitrust became a tangled web of different laws pursuing contradictory purposes. For most of the past 50 years, lawyers, judges and analysts have gradually picked that web apart. The Chicago school of economists shifted from being enthusiastic advocates of aggressive antitrust enforcement to advocating a hands-off position. Future Judge Robert H. Bork suggested that antitrust law be revised to focus solely on consumer welfare.

Over the years, Bork’s view gained strength. People scratched their heads as they watched the virtual repeal of antitrust statutes like the Robinson-Patman Act undertaken by those who in other areas (civil-rights law, say) exalted the original intent of legislatures and decried judge-made law. But it was not clear that small-scale producers deserved a special edge. A looser approach recognizing that close business links could be beneficial seemed likely to make us all better off.

Now, however, new technology has once again ripped open the seams. In the days of Standard Oil, to be twice the size of your competitors meant your unit costs were perhaps 10% lower. In these days of the information economy, a much larger share of costs are fixed and sunk: The program has to be written and debugged only once, no matter how many copies are sold. Thus, to be twice the size means your per-unit costs are little more than half as much. The complexity of information-age products means there are subtle dependencies across markets: It seems to be easier to get Microsoft FrontPage working well when the Web server it uploads files to is running Microsoft Internet Information Server rather than when it is running open-source Apache. In addition to supply-side economies of scale, there are demand-side economies of scale: If, say, four of your five co-workers are using Microsoft Word, than either you use it, too, or see a fifth of your life vanish into dealing with format glitches.

Moreover, the benefits to bigness, or at least coordination, seem larger in the information age. Software for minicomputers stagnated in the 1980s because each brand’s version of the Unix operating system was incompatible with the others. The World Wide Web has boomed in the 1990s because its inventor, Tim Berners-Lee, made the software protocols available to everyone for free.

In the early 20th century, the oligopolies that antitrust established were stable: Economies of scale were limited, so that General Motors had a cost advantage but not that much of a cost advantage over Ford. Our new technologies have far larger and stronger economies of scale, meaning that, as economists Hal R. Varian and Carl Shapiro have written, markets will not and cannot look like the competitive markets of ideal economic theory. Given the size of the economies of scale, it is not clear we want them to.

So what does this mean for antitrust? First, we do not know how much antitrust law can matter. The economy is so much bigger today that even its largest companies play a smaller role than U.S. Steel, Standard Oil or AT&T; did a century ago. The Microsoft case cannot have as much economy-shaking impact. Technology also seems to be moving sufficiently rapidly to make whatever antitrust remedy is reached in that case of doubtful relevance: The market and the industry will have changed too much. The smaller impact of any single case and the difficulty of keeping pace with changing technology may end up making judicial antitrust remedies irrelevant.

Perhaps courts and prosecutors will try to maintain the standard pattern: Tolerate oligopoly, break up monopoly. If so, antitrust authorities will have a busy time as they watch economies of scale create a dominant natural monopoly in sector after sector, then move to break up the monopoly and restore competition. Will such a pattern lead to an efficient and productive economy? We are not sure.

A second possible direction would be to have greater tolerance for monopolies that played fair: to focus on establishing and monitoring a code of conduct for information-age natural monopolies that allows us to reap all the efficiency benefits of bigness and still maintain a degree of virtual, if not real, competition. But can such a code of standard-setting friendliness be specified and enforced? We are not sure.

There are other directions in which antitrust law could move, directions that will come as a surprise, but that, perhaps, the Microsoft case will foreshadow. However, the dilemma of antitrust will remain: bigness vs. freedom of choice, competition vs. economies of scale. *