Digital platforms—the new commanding heights?

0
76

Is the internet a private good, a public good or a club good? This technical question strikes at the heart of the regulatory issues that are likely to grow in importance as the digital economy expands in the coming years.

The distinction between these three categories of goods depends on two core underlying issues. First, does the consumption of a good by one person reduce its availability to others? Second, is anyone excluded from using a good? A motoring analogy could help. A car is a private good because its use by one person means that others cannot use it. A highway is a public good because more than one person can use it at the same time while nobody can be excluded from using it. A toll road is a club good because only those who pay can use it but it is then equally accessible to all users who have paid.

Why does all this matter in the digital economy? Regulatory economists are now grappling with the challenge of analysing dominant players in various parts of the digital economy. Think Facebook or Amazon or Google. Their market shares in their respective markets would qualify as markers of monopoly in the traditional economies. Also, these digital companies have emerged as multifaceted platforms on which other participants in the digital economy operate. Economic theory suggests that such platform markets tend towards monopoly.

One of the most fundamental ideas in the analysis of such platform markets comes from the Nobel Prize winning economist Jean Tirole. He has famously defined platform markets as those with customers on two sides—with one side subsidizing the other. Digital platforms also have large economies of scale because of network effects. Prices usually come down as more users get on to a platform. Network effects also mean that it is difficult for new competitors to displace the incumbents.

In a very insightful paper published in the January 2017 issue of The Yale Law Journal, Lina M. Khan has described Amazon as a retailer; it is now a marketing platform, a delivery and logistics network, a payment service, a credit lender, an auction house, a major book publisher, a producer of television and films, a fashion designer, a hardware manufacturer, and a leading host of cloud server space.

She argues that the current tools of looking at competition issues are inadequate for the digital economy. “First, the economics of platform markets create incentives for a company to pursue growth over profits, a strategy that investors have rewarded. Under these conditions, predatory pricing becomes highly rational… Second, because online platforms serve as critical intermediaries, integrating across business lines positions these platforms to control the essential infrastructure on which their rivals depend. This dual role also enables a platform to exploit information collected on companies using its services to undermine them as competitors.”

The latter issue of dominant companies controlling the essential infrastructure of the digital economy—the platforms—is relevant for an emerging policy trend in India. Digital platforms are like public goods but corporate gatekeepers make them resemble club goods. They control access.

Meanwhile, the Indian government has been building a new generation of digital public goods—or platforms that in a way occupy the commanding heights of the digital economy. Think of the United Payments Interface (UPI), Aadhaar, the Goods and Services Tax Network (GSTN) and the National Agriculture Market. Each of them is a platform for a host of activities.

In an interview to this newspaper several months ago, Nandan Nilekani had explained the situation using an interesting analogy. Nilekani said that the digital payments network, UPI, developed in India is like a highway without tolls. China or the US have walled gardens in which private companies control access to their payments networks. In other words, the Indian digital payments network is like a public good while its peers in some other countries resemble club goods.

The jury is still out on whether digital platforms naturally tend towards monopoly—and hence whether they need to be regulated tightly, broken up or replaced by platforms owned by the government. All those who are suspicious about the heavy hand of regulation—and there is ample reason for such suspicion—will argue that what really matters is consumer welfare rather than just market share.

Prices have been consistently falling in the digital economy. And there are cases of new companies dislodging old ones in the digital economy. For example, MySpace lost the early mover advantage over Facebook. Digital markets are what economist William Baumol would perhaps have described as “contestable” because barriers to entry are low despite the presence of dominant players.

The most profound paradox is the choice between the role of government agencies in ensuring that the digital economy remains competitive and the danger that activities that are so dependent on rapid innovation will get crushed by regulations that will inevitably be slow to adapt to new technology. This is a debate where there are no simple answers—and one which will get enriched as more tools to analyse the digital economy emerge.

PS: Economists Charles R. Hulten and Leonard Nakamura have argued that digital innovation shifts the consumer utility function while traditional innovation shifts the production function. More on that some other time.