IREF - Institute for Research in Economic and Fiscal issues
Fiscal competition and economic freedom
The European Commission handed Google a record-breaking €4.3 billion fine and demanded major changes to its business model over alleged competition abuses on its Android mobile operating system. The Competition Commission claimed Google was abusing manufacturers to “cement its dominant position” by bundling access to the Google Play Store, a proprietary system for downloading mobile applications on Android, with a suite of Google products such as Chrome for browsing and Google Maps.
The case against Google rested on the lower burden of proof that EU competition policy has relative to the United States, which uses the more stringent consumer welfare standard. The criteria of proving tangible harms to consumers has resulted in the US taking into account developments in economic theory in legal disputes. This is highlighted by the recent US Supreme Court case, Ohio v. American Express, settled on June 25th, 2018.
The analysis used by the EU focussed on Google’s behaviour towards manufacturers who use Android OS on their devices. The Android platform is free and open-source, and any manufacturer is allowed to install it without using any other Google product. The Google Play Store, however, is only available as a bundle with other Google products that must be pre-installed, along with an agreement not to pre-install the applications of direct competitors. Despite alternative stores existing, such as the Amazon Appstore, GetJar, and F-Droid, the Commission argued that manufacturer proclivity to sign the deal with Google, and the low rate of adoption of other stores indicated excessive market power, in violation of competition guidelines.
The Commission correctly pointed out that one of the reasons why manufacturers are willing to enter into this agreement with Google is that the Play Store is a far larger service than any of its competitors, excluding the Apple App Store, which is limited to Apple devices. As a result of its size, device users have a much higher demand for the Play Store than alternatives, which encourages manufacturers to adopt the platform.
This arrangement, however, does not in and of itself indicate excessive market power. It instead indicates that Google has developed an Android business model set to optimally meet the interests of its different customer bases. By bundling Google’s services to the Play Store, device users also buy its reputation for high quality services. This in turn cultivates a reputation for Android, increasing user demand. High user demand is what attracts developers to make new applications for the Play Store, thereby increasing its number of offerings, and making the service appealing for users and manufacturers.
Unbundling these services, as the European Commission has demanded Google to do, disrupts this business model to everyone’s detriment. The Google experience will no longer be guaranteed by manufacturers, reducing the reputation it enjoys among Android users. While some third-party applications will now be able to be pre-installed, the economies of scale of the Play Store might decrease, further fracturing the market for users and developers. The end result is not more competition and innovation, but the lack of a reliable mobile infrastructure for manufacturers, developers, and device users.
Contrast this analysis with the US approach. American Express was charged with competition abuses for its anti-steering provision, a policy that tied merchant ability to use American Express with a promise not to encourage customers to use its competitors’ cards. If a customer wanted to pay with American Express, a merchant was under contract not to ask them to use a card that charged lower merchant fees, such as Discover. The fact that merchants generally accepted this provision signalled to regulators that American Express had significant market power, and a suit was brought forth.
The Supreme Court ruled, however, that an antitrust case that looked only at how American Express treated merchants ignored how these policies affected its cardholders, and concluded that American Express did not lead to any harm to its cardholders. Moreover, American Express offers some of the largest rewards benefits to its cardholders of any credit card company. It manages to pay for these benefits through charging higher merchant fees. If merchants prevented cardholders from using American Express, Amex would not be able to provide these rewards, and cardholders would suffer.
The criteria that American Express was judged by was the consumer welfare standard, which required that regulators prove that consumers are harmed through monopoly pricing by a firm. Companies such as American Express and Google have multiple consumer bases, all interrelated and affected by company policies. How American Express chooses to treat merchants affects cardholders and their relationship with the company. As such, the consumer welfare standard demands a higher burden of proof than the more general competition standards required in the EU.
If the EU had a competition policy that resembled the US, the effects of Google’s bundling of products in its contracts with device manufacturers on developers and device users would have to be considered, which the current case failed to do. Regulators acted in a way that indicated that they knew best what was needed to boost competition, without asking whether the contracting arrangements taking place provided any benefits.
In a functioning free-market economy, freedom of contract is essential for innovation. Firms that contract with each other consider the relevant costs and benefits of the deals that they enter into, and the default presumption ought to be that there are sound economic reasons for the arrangements being made. Given that this ruling followed the €2.42 billion fine on Google Shopping last year, and a third case against Google, which focusses on its AdSense platform, the largest aspect of Google’s business, it is fair to assume that the Commission does not share this view of contract freedom.
European competition policy would be wise to adopt the more nuanced and stringent criteria that the US exhibits if Europe is to remain competitive and innovative. Currently, however, the Google ruling indicates that the EU will continue to penalise innovative companies to the detriment of consumers and innovators alike.