Regulate tech titans before they hold the world to ransom

The Cambridge Analytica-­Facebook storm has put one of the world’s biggest online businesses in an unwanted spotlight. But that’s only part of a bigger story — we’ve been oblivious to the sinister side of some internet-platform companies heading towards being global monopolies.

We could pay a high price for this unless we take steps now to clip the wings of these players and make these industries more ­competitive.

This all begins with understanding how platform industries work.

They are likely to be domin­ated by one virtual monopolist. The structural driver of this is what economists call increasing returns. As the number of participants on a platform rises, the greater the value the platform provides to all its participants, both original and new, while the marginal cost to the platform operator of adding another user approaches zero.

For example, each additional user on Facebook makes it more appealing to existing and potential users, as some of them may be “friends” of the new user.

In the taxi industry, the value proposition of Uber or Lyft is enhanced by an expansion in its network. Passengers are likelier to get a car when there are more cars on the network. Drivers are likelier to get a passenger when there are more users on the network. As an operator achieves critical mass, the platform sells itself.

This serves as a major barrier to entry to potential competitors. Why would anyone switch platforms to a small, new provider when the incumbent must be able to offer a much higher service level?

The company that builds critical mass first has a good chance of dominating its industry. And, once you get a good break on the field, and if you don’t screw up, you should remain dominant.

The economic problem here is that Facebook, Amazon and ­Google are becoming global monopolies and their market power will grow, creating problems for consumers and other businesses, unless regulators step up.

Dominant players would be irrational not to charge highly profitable prices to advertisers on their platforms. Advertising is the major source of revenue for firms such as Facebook and Google.

According to the Australian Competition and Consumer Commission’s digital platforms inquiry issues paper, these two firms book about 40 per cent of total Australian advertising spending.

It also makes good business sense for them to charge high ­prices to outside parties for access to the information about their users’ profiles, behaviours and preferences (social graphs). The platforms use these for their own sales and marketing, and sell them to advertisers and others (such as Cambridge Analytica).

Furthermore, while it doesn’t happen yet, there’s a good chance that dominant platforms will charge users for access, especially if they have to accede to them property rights over their social graphs. Companies such as Google insist this will never happen but we can’t bet on that when its search business matures and Wall Street starts to cut into its 50+ times price-earnings multiple.

The dominance of some platforms is clear now — Google’s search platform is close to having a global monopoly outside China. For example, in Australia it has more than 90 per cent share of searches.

Facebook has by far the strongest position among social media platforms, with about 90 per cent market share in Australia. It has helped entrench its position by acquiring the up-and-comer social messaging platforms Instagram and WhatsApp.

With Amazon, the concern is not so much with its own online retailing business.

While it is strong in online book retailing and some other product categories, traditional retailers such as Walmart, Tesco and Woolworths in Australia are committed competitors and will “keep them honest”. More worrying is Amazon’s Marketplace business. It enjoys the “triple play” of increasing returns and cost economies of scale in serving advertisers and in comprehensive “fulfilment network density”. Hence it is emerging as a powerful distribution business in the US and potentially in its other big national markets.

Marketplace sells network access to numerous independent consumer-goods suppliers at ­prices below the costs independents would incur to do it themselves, but presumably well above Amazon’s low marginal costs.

Analysts have estimated that this business is highly profitable for Amazon. Amazon’s advan­tages increase with size so, unsurprisingly, Amazon continues to grow aggressively.

What can regulators do about Google, Amazon and Facebook?

Most traditional antitrust actions such as company breakups won’t work because, afterwards, another firm will likely exploit increasing returns and become a new monopoly.

But there are options. One that should be taken by mergers and acquisitions regulators is to stop the big three acquiring any more competitors, such as Facebook acquiring Instagram.

Another is to ensure that platform users have property rights over information they generate while on a platform.

Users should own their social graphs, the way we own our mobile phone numbers.

In June the EU takes a step in this direction when its General Data Protection Regulation come into, while Britain will enact a similar data-protection bill.

A big move would be to regard the core platforms of Google, Facebook and Amazon as utilities and regulate access and prices along the lines of, say, the National Access Regime in Australia as it applies to industries such as telecommunications and electricity.

This might embrace Google’s core search platform, Amazon’s core online platform and fulfilment network, and Facebook’s social media/messaging platform.

So, even though difficult, regulators can and should act to tame these emerging monopolists — in the interests of us all.

John Stuckey was a partner in a leading international strategy consultancy and holds a PhD in business economics from Harvard.