Are Amazon, Facebook, and Google Killing Consumer Choice?

In a recent EconTalk podcast, Matt Stoller makes the argument that Amazon, Facebook, and Google have gotten too large. In fact, he argues that their size enables them to undermine the democratic institutions that the United States was founded upon (Stoller’s argument can be found in written form here). I think that claim is quite clearly an overstatement, but I want to focus on a somewhat smaller claim made in the podcast. During their discussion, Stoller and host Russ Roberts get into a debate about whether large companies like Amazon are increasing or reducing consumer choice in the marketplace and about whether their size represents a loss in consumer welfare.

Stoller argues that Amazon has the power to push whatever products it wants to the front pages, and therefore can control what people can buy. It may look like you have access to an incredibly diverse set of products, but that set is actually carefully curated only to improve Amazon’s bottom line. Google and Facebook operate in the same way. Your search results or the items in your Facebook news feed are not necessarily best for you, they are merely best for Google and Facebook.

I agree with everything in the previous paragraph. I disagree that anything in it is worrisome. Stoller, like many who make similar arguments, seem to operate under the assumption that everything that is good for Amazon, or Facebook, or Google is bad for consumers. To me, the opposite is far more likely to be true. If Amazon sells me bad products I’ll stop buying from Amazon. If Google gives me bad search results, I’ll stop using Google. I hardly use Facebook at all except as a messaging service. The reality is that each of these companies only has my business because they offer a service that’s pretty good.

Now, to be fair to Stoller, he does acknowledge this argument. But he quickly dismisses it. Instead, he argues that consumers are trapped in these ecosystems. He relays a story of a parent who can’t block youtube on his kid’s computer because they need to use Google products for school. I’m sure there’s away to block youtube without blocking Google docs, but if not then I admit that this is a (small) problem. But Stoller then goes on to make larger claims that these companies can then use this power to influence our behavior. Amazon only sells books that supports it’s views. Google only shows news that works in their favor.

I decided to test these claims. I went to Amazon and searched “Amazon Monopoly.” Now it would be very easy for Amazon to manipulate these results to put itself in a positive light. It could only show me books that are in favor of monopoly power. It could show me inspirational stories written about Amazon’s rise and how much they help the consumer. It doesn’t. The second item on the list (after the board game Monopoly) is a book called “Move Fast and Break Things: How Facebook, Google, and Amazon Cornered Culture and Undermined Democracy.” The New York Times review on the page explains “Jonathan Taplin’s Move Fast and Break Things argues that the radical libertarian ideology and monopolistic greed of many Silicon Valley entrepreneurs helped to decimate the livelihoods of musicians and is now undermining the communal idealism of the early internet.”

I haven’t read the book, but it’s an “Amazon Best Business and Leadership Book of 2017” so it must be good. Hmm. Wait. A book that “traces the destructive monopolization of the Internet by Google, Facebook and Amazon, and that proposes a new future for musicians, journalists, authors and filmmakers in the digital age” is also highlighted by that very same Amazon as one of the best books of 2017? What’s going on here?

I suppose one option is that the book is terrible and Amazon is highlighting the worst attack on its business in the hope that people won’t read other more substantive critiques. Or it could be that Amazon doesn’t actually profit from hiding any kinds of books from consumers, even those that are openly and directly hostile to it making profits. The way Amazon makes profit is by offering products that people want. Consumers drive its business, not the other way around. I won’t argue here with Taplin’s claim that “radical libertarianism” (where?) has worked to “decimate the livelihood of musicians” but it does at least seem to be working out pretty well for his book sales.

Another test. I googled “why Google is a terrible search engine.” I also searched the exact same phrase on Bing. In one of the searches, the third result was “Reasons Why Google Search is the Best Search Engine” – the opposite of what I wanted.  In the other, “5 Reasons Not to Use Google for Search – Field Guide – Gizmodo.” comes up. If I told Stoller these results he’d probably claim vindication. Google is obviously manipulating the results.

In fact, the anti-Google headline only shows up in my Google search. The pro-Google one comes from Bing. Again, maybe Google is secretly hiding a bunch of really good critiques of its service, but it’s pretty hard to believe that’s the case. Instead, Google gave me exactly what I was looking for and Bing gave me the opposite. I think I’ll stick with Google.

Stoller does have a counterargument to the results above. He argues that it may be true that Google has better search results than Bing or others, but that’s only because they have much better data. It would take years for a startup search engine to get even a fraction of the information that Google has obtained as it rose to dominance. Google has had time to learn what works and what doesn’t firsthand in a way that could never be replicated in the current world simply because Google already exists to squash any competition. Since no search engine can ever hope to match Google’s quality, they will never be able to compete and therefore Google can never have a true competitor.

Once again, I concede everything about the previous argument. And once again I fail to see much to worry about. What Stoller is essentially arguing is that there are increasing returns to scale in the search engine market. A large firm has the ability to offer a better service at a lower price than a small firm (if they choose to). If this is the case, it’s true that a true competitor to Google is unlikely to emerge. It also makes it very difficult to envision policy responses that improves search results overall for consumers. Increasing returns means that 100 Googles 1/100 of its size would never be able to operate as efficiently as one large Google so breaking it up would likely hurt consumers rather than help. And even standard textbook solutions to natural monopoly like regulating prices seem difficult to imagine when Google offers many of its services for free (although I do have to admit my relative ignorance on the economics of natural monopoly – maybe there is a policy well suited to this situation and I just don’t know it).

Google’s size may also introduce additional benefits. If Google was engaged in cutthroat competition that drove its profits to zero, would it ever be able to take risks? Would a smaller Google be working on developing self driving cars that will probably take years to see any profit whatsoever? Could they have survived failures like Google glass? I also very much like having all of my Google services integrated automatically. If each piece was run by a separate company, would the experience be as seamless?

The benefits of size are perhaps even clearer for Amazon. If Amazon were broken into smaller online marketplaces, would they ever have increased their shipping capacity as much as they have? I don’t see how they ever could. These companies can only be as successful as they are at providing benefits to the consumer because they are so large.

Perhaps some day in the future Amazon, Facebook, and Google will begin to exploit their market power and make profits at the expense of their consumers. I have no confidence in my ability to predict how the market will look 10 or 20 years from now. I am more confident in saying that that day is not today. It seems quite clear to me that these companies (as well as many others) have been able to achieve the success they have had only by giving consumers what they want.

Competition and Market Power Why a "Well-Regulated" Market is an Impossible Ideal

Standard accounts of basic economics usually begin by outlining the features of “perfect competition.” For example, Mankiw’s popular Principles of Economics defines a perfectly competitive market as one that satisfies the following properties

  1. The goods offered for sale are all exactly the same
  2. the buyers and sellers are so numerous that no single buyer or seller has any influence over the market price.

    The implication of these two properties is that all firms in a perfectly competitive market are “price takers.” If any firm tried to set a price higher than the current market price, their sales would immediately drop to nothing as consumers shift to other firms offering the exact same good for a cheaper price. As long as firms can enter and exit a market freely, perfect competition also implies zero profits. Any market experiencing positive profits would quickly see entry as firms try to take advantage of the new opportunity. The entry of new firms increases the supply of the good, which reduces the price and therefore pushes profits down.

After defining the perfectly competitive market, the standard account begins to extol its virtues. In particular, a formal result called the First Welfare Theorem shows that in a perfectly competitive equilibrium, the allocation of goods is Pareto efficient (which just means that no other allocation could make somebody better off without making somebody else worse off). So markets are great. Without any planner or government oversight of any kind, they arrive at an efficient outcome on their own.

But soon after developing the idea, we begin to poke holes in perfect competition. How many markets can really be said to have a completely homogeneous good? How many markets have completely free entry and no room for firms to set their own price? It’s pretty hard to answer anything other than zero. Other issues also arise when we begin to think about the way markets work in reality. The presence of externalities (costs to society that are not entirely paid by the individuals making a decision – pollution is the classic example), causes the first welfare theorem to break down. And so we open the door for government intervention. If the perfectly competitive market is so good, and reality differs from this ideal, doesn’t it make sense for governments to correct these market failures, to break up monopolies, to deal with externalities?

Maybe, but it’s not that simple. The perfect competition model, despite being a cool mathematical tool that is sometimes useful in deriving economic results, is also an unrealistic benchmark. As Hayek points out in his essay, “The Meaning of Competition,” the concept of “perfect competition” necessarily requires that “not only will each producer by his experience learn the same facts as every other but also he will thus come to know what his fellows know and in consequence the elasticity of the demand for his own product.” When held to this standard, nobody can deny that markets constantly fail.

The power of the free market, however, has little to do with its ability to achieve the conditions of perfect competition. In fact, that model leaves out many of the factors that would be considered essential to a competitive market. Harold Demsetz points out this problem in an analysis of antitrust legislation.

[The perfect competition model] is not very useful in a debate about the efficacy of antitrust precedent. It ignores technological competition by taking technology as given. It neglects competition by size of firm by assuming that the atomistically sized firm is the efficiently sized firm. It offers no productive role for reputational competition because it assumes full knowledge of prices and goods, and it ignores competition to change demands by taking tastes as given and fully known. Its informational and homogeneity assumptions leave no room for firms to compete by being different from other firms. Within its narrow confines, the model examines the consequences of only one type of competition, price competition between known, identical goods produced with full awareness of all technologies. This is an important conceptual form of competition, and when focusing on it alone we may speak sensibly about maximizing the intensity of competition. Yet, this narrowness makes the model a poor source of standards for antitrust policy.
Demsetz (1992) – How Many Cheers For Antitrust’s 100 Years?

Although the types of competition outlined by Demsetz are a sign of market power by firms, they are not necessarily a sign that the market has failed or that governments can improve the situation. Let me tell a simple story to illustrate this point. Assume a firm develops a new technology that they are able to prevent other firms from immediately replicating (either because of a patent, secrecy, a high fixed cost of entry, etc.). This firm is now a monopoly producer of that product and can therefore set a price much higher than its cost and make a large profit. The government sees this development and orders the firm to release its plans so that others can replicate the technology and produce their own version. Prices fall as new firms enter and profits go to zero. Consumers are better off since prices are lower and they have a larger choice of products. (A similar story could also be told if the government simply mandated a lower price by monopoly firms).

But the story isn’t over. If I’m another entrepreneur (or even an existing firm) watching this sequence of events, I’m a bit worried. That new idea I was thinking about is going to cost a lot. If I had the possibility to make a large profit, maybe I would be willing to take the risk and go for it anyway. If, on the other hand, I knew for sure that even when I achieve success the government immediately reduces my profits to zero, am I still going to undertake that project? Not a chance. The potential for future profits is an incredibly important incentive for innovation.

Here’s another example from the real world that illustrates the opposite case. In the late 1990s, Microsoft tried to bundle Internet Explorer with their Windows operating system (essentially giving away Explorer for free). This move made it difficult for independent internet browsers to compete (Netscape was the market leader at the time). An antitrust lawsuit was brought against Microsoft and they were initially ordered to break up (which never actually occurred in the end as far as I know, but that doesn’t matter for the story). In the EU, they were required to provide a browser choice page when installing Windows.

In each of the two examples above, there is a clear tradeoff. In the first, consumers are better off in the short run (lower prices), but potentially worse off in the long run (less innovation). The second case is exactly the opposite. Consumers are worse off in the short run (they don’t get a browser for free) but potentially better off in the long run (more browser competition). Can we say for sure whether regulation helps or hurts in either case? Can we even say whether the regulation would push the market to be more competitive or less? I don’t see how (but which browser you are using right now despite the relatively lenient restrictions on Microsoft might give some indication).

I’m not saying regulation is never a good idea in theory. But in practice, it turns out to be really hard. Even in the cases above where it is obvious that a firm is trying to take advantage of monopoly power, it remains unclear whether a move closer to “perfect competition” will result in an increase in actual competition. You can of course pick apart the stories above and come up with some regulatory scheme that balances present and future costs and benefits. But doing so in general would require governments to have even more information than the already ridiculous knowledge assumptions implicit in the perfect competition model. It’s easy to point out imperfections in markets. It’s much harder to figure out what to do about them.

Notice that I haven’t necessarily made an argument against regulation. The takeaway from this post should not be that markets always work or that regulation always fails (I’ll leave that for future posts!). My point is simply that pointing out a flaw in the free market does not automatically imply an opportunity for a regulatory solution. The question is much more complicated than that.

But having said that let me leave you with one final thought. Markets are incredibly dynamic. Whenever the market “fails,” all it takes is one clever entrepreneur to come up with a better method and correct the failure. When government fails? Well, maybe we can come back to that in ten years when they get around to discussing it.