NCPA - National Center for Policy Analysis

"Network Effects" Challenge Antitrust Theories

June 9, 2000

New communications technologies are prompting serious minds to rethink traditional theories of market competition and monopolies. The government's current attempt to break up Microsoft has only added urgency to the debate.

Federal Reserve Chairman Alan Greenspan, for example, reportedly sees financial markets eventually converging into a single operating form. But a single financial market causes him no particular concern, because it would be both "the result of competition" and "the enhancer of competition."

  • The relentless push toward monopoly is increased by something economists call "network effects."
  • In information businesses, the desire for everyone to be part of the same network is intense.
  • For example, schoolchildren like to use America Online Inc.'s instant messaging service because all their friends use it, while computer users like Microsoft's Word software because it makes it easier to trade files with other users.
  • In a recent speech, Treasury Secretary Lawrence Summers illustrated the network effect by using the fax machine as an example: if there is only one fax machine "it is best used as a doorstop," while if there are 100,000 there are "10 billion possible connections."

In other words, scarcity may drive up the price of certain items -- diamonds, for example. But in a network world, the scarcity principle is turned upside down. The more users a software maker finds for his product, the more value it will have for each user, and the more incentive there is for the maker to write related software.

Source: Alan Murray, "For Antitrust Cops, Microsoft Signals Need to Junk Old Models," Wall Street Journal, June 9, 2000.


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