A chance to move on from EU vs. Microsoft

Federico Etro 08 October 2009

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The European Commission has recently taken important steps towards turning the page on the long-running Microsoft competition case. Over the summer, the Commission issued a tentative welcome to proposals the company had made to address the EU’s concerns regarding the integration of Internet Explorer (IE) in Windows. Microsoft’s proposed solution would allow computer manufacturers and individual consumers to easily install their favourite web browser as the default and, if they wish, disable IE. In the weeks following the July announcement, the Commission conducted an informal market test of the proposals, sending out questionnaires and looking for feedback from competitors and other third parties, and obtaining substantial changes on the basis of that feedback.

Yesterday, the Commission announced the opening of a formal market test, inviting comments from consumers, software companies, computer manufacturers, and other interested parties over a one-month period to end on 9 November 2009. Since the Commission already “welcome[d] Microsoft’s proposal as it has the potential to give European consumers real choice over how they access and use the internet”, it seems likely that the additional formal market test will set the scene for a binding decision before the current Commission’s mandate runs out in November.

Whatever one’s view of the Commission’s prosecution of the Microsoft case, it is clear that a settlement in Europe would constitute a welcome development and an achievement for Commissioner Neelie Kroes personally, confirming her unerring political instincts. Though the case was one she inherited from her predecessor Mario Monti, in the past five years she has made it her own, reaping political dividends for her tenacity on a technically complex dossier. A solution along the lines proposed by Microsoft would allow the Commission to quit while it is ahead, gaining important concessions from its old adversary and deftly avoiding what could have been negative political fallout from the arrival on Europe’s shores of an unpopular, “IE-free” version of the new operating system.

The economics of the case

To evaluate from the point of view of economic theory the consequences of this important step, we need to have a look at its background. In the last twelve years, Microsoft has distributed its operating system bundled with IE – and for eight of those twelve years, this has been done under a Consent Decree issued by the U.S. antitrust authorities. Even without the recent proposal of a “ballot screen” offering an opportunity to download rivals' browsers, alternative browsers can be easily installed on every PC. Competition in the field is on the basis of quality and functionality, at least since the introduction of IE in the mid-90s resulted in browsers’ prices dropping to zero. Recently Mozilla's Firefox has seen considerable success, with the gap between IE and Firefox's respective market shares narrowing with every passing month; Opera and Safari have consolidated their market positions, while Google's new Chrome quickly picked up a few percent of the global market following its launch in the fall of 2008. This tendency is even stronger in Europe, where the most recent data (from W3 Counter) show a large drop of the market share of IE (in all its different versions), from more than 80% a few years ago to 60.6% in July 2008 and 52.9% in July 2009, while Firefox grew from 29.7% to 31.4% in the last year, Safari moved from 1.9% to 3.1% and Opera from 1.1% to 1.2%, with the new Chrome reaching a market share of 3.1% in July 2009.

In spite of this dynamic competitive scenario, following a formal complaint by Opera, in January 2009 the European Commission sent a Statement of Objections to Microsoft concerning the possible anti-competitive consequences of tying Windows with IE. The Commission was applying the judgment rendered by the Court of First Instance in the earlier European case.1 In that case, Microsoft was accused of excluding competition in the market for media players and was forced to commercialise a new operating system without its media player, which, by the way, no one purchased. In the current case, the focus is on the market for browsers, which is characterised by lively competition and increasing market shares for rival products.

To a large extent, this industry seems extremely competitive, with a firm that is the leader in a primary market (operative systems) pressured by entry and innovation in a secondary market (browsers). The latter is characterised by an increasing degree of product differentiation (in terms of performance and visual experience) and by demand that overlaps with the primary good (almost any PC has access to the Internet) and typically covers multiple browsers at the same time (Internet users often try and sometimes use different browsers on their devices). Under these conditions, tying becomes a normal aggressive strategy of the leader without exclusionary purposes, but aimed at strengthening competition and reducing prices in the secondary market to gain scale economies in the secondary market (against a modest sacrifice of profits in the primary market). Moreover, this is the classic situation in which the entry pressure in the browser market reinforces innovation by leaders and followers, producing important consumer benefits in terms of price, quality, and product variety (Etro 2006, 2009).

In such a scenario, it is hard to see other pervasive anti-competitive consequences of the Microsoft strategy. It seems unlikely that it could have a predatory purpose because any future increase in the price of IE is now unrealistic. Moreover, Microsoft mostly gains from the introduction and the diffusion of other browsers because this increases the quality of PCs and therefore the demand for Windows and Office applications, its main products. Finally, there are technological efficiencies from the design of an operating system including a browser. Therefore, tying Windows with IE could represent a constraint for competing browsers in theory but not practice; after all, IE could be substituted with another browser in a few seconds and freely even before the introduction of the ballot screen.

With the new mechanism launched by Microsoft, minor browsers and even new entrants will get a boost, strengthening the competition against Microsoft. As a matter of fact, the ballot screen will show up if IE has been installed, but if the computer manufacturers install an alternative browser, no ballot screen will appear for the final consumers – this may represent a substantial advantage for Firefox, Opera, and other competing browsers. Interestingly, the proposed mechanism may even strengthen the leadership of Google as a search engine, since browsers as Mozilla and Opera are currently paid to pre-set the leading search engine as the default, and computer manufacturers will be probably paid to do the same in the future. This may reinforce the dominance of Google in the market for online advertising. Not by chance, Google has heavily supported the investigation on Microsoft, while advertisers and content providers fear such a bonanza for Google.

Moving on

In conclusion, given the ballot screen proposed by Microsoft aimed at installing alternative browsers and disabling IE, one can safely argue that even the theoretical constraints to entry and competition in the browsers’ market will all be eliminated. It is therefore time to move on from this long-running case, leave market forces to work by themselves, and turn to other priorities, including in the IT sector.

References

Etro, Federico (2006), “Aggressive Leaders”, The RAND Journal of Economics, Vol. 37, Spring, 146-54.

Etro, Federico (2009), Endogenous Market Structures and the Macroeconomy, New York and Berlin: Springer.

Vickers, John (2009), “Competition Policy and Property Rights,” Stackelberg Lecture, University of Milan, Bicocca, 16 September.

 


1. The CFI judgement has been criticised by many economists, including even those that were in favour of its final outcome, for its lack of coherent economic reasoning. See Vickers (2009).

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Topics:  Competition policy

Tags:  browsers, Microsoft, Firefox

Full Professor of Economics, University of Venice

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