Innovation can challenge the digital monopolies

The hostility towards the virtual monopolies enjoyed by tech giants such as Google and Facebook reveals some strange bedfellows.

The European Commission is well known for its enthusiasm for regulation.  No surprise, then, that last year the Commission fined Google 2.4 billion – billion! – euros for giving its own services preferential treatment in search results.  No surprise that last month the European Commissioner for Competition, Margrethe Vestager, said that the threat to split Google into smaller companies was being “kept open”.

What was perhaps surprising was that last summer Steve Bannon, when he was still in the White House as President Trump’s top advisor, argued that Google and Facebook have become so dominant and essential that they should be regulated like public utilities. 

It is clear that many politicians, both in Europe and America, dislike the dramatic changes brought about by the internet.  What is equally clear is that many of them have an underdeveloped understanding of what we might term cyber society.   

In Mark Zuckerberg’s hearing before the Senate committee, for example, he was asked how Facebook made its money, a point which should be obvious to anyone who has ever used it.  Another senator asked him whether Twitter was "the same as what you do."

In many ways, this is understandable.  Revolutionary technologies take time for their implications both to emerge in full and to be grasped.  William Huskisson, an MP and member of the Cabinet, was famously run over and killed by Stephenson’s Rocket at the locomotive trials of 1830.  He simply did not appreciate how fast the miraculous new machine went.

Cyber society also creates fundamental challenges for economic theory.   Consumers, for example, are assumed to be able to gather and process sufficient information to make a rational choice amongst the available alternatives.  In the context of, say, the supermarket, empirical evidence suggests this is a reasonable assumption to make.

But I recently googled the term “mobile phones”.  I received “about 155 million” results.  It is simply not possible to process the information from more than a miniscule fraction of these. 

As long ago as the 1950s, Nobel Laureate Herbert Simon believed that even then, in many situations, the same point was true.  The model of rational choice had to be “replaced”.

 In essence, Simon argued that a good decision rule to use in such complex situations was to choose things which were already popular. 

This sets up a positive feedback loop.  The more popular your product is, the more popular it will become, simply because it is already popular.

This means that the basic market structure encountered in cyber society is monopoly.  It is the opposite extreme from the economics textbook, where the core model is one of a large number of small firms.

The most effective way of undermining these monopolies is by encouraging even more innovation, the exact opposite of the top-heavy regulation of the European Commission.  Regulation of market structure worked with the American oil giants in the early 1900s.  The 21^st century demands a different approach.