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Unit 6: Boundaries of Competition Law: IP and Network Effects - Coggle…
Unit 6: Boundaries of Competition Law: IP and Network Effects
In classical economic theory, it is assumed that the valuation of a product remains constant as more number of people use it. However this does not apply to certain products such as platforms, that generate more value to to he platform as more people start joining. When a consumer gains utility and the valuation increases depending on the the number of users in a platform, it is a network effect.
Pricing for goods exhibiting network effects will take into account the benefit that a given user will have on the other user valuations' of the product, and therefore the optimal pricing strategies for such products are very different.
Direct Network Effects: A positive direct network effect where existing users benefit from additional users joining the same side of the network. The network also becomes more attractive to the users, like a communication network. g. Languages, telephone networks, social networking.
While the size of a network maybe the indicator of its quality, more important is the number of relevant users. As the network grows, it may not benefit certain users, these network effects are "localised".
Indirect Network Effects: Greater number of users of a particular good can help innovation of complementary products. For example, the operating system and the nature of apps.
With indirect effects, the benefits of interconnection come through interoperability. This relates to the ease of producing complementary goods for more than one network.
Cross-market effects : In relation to cross-platform effects, the platform is considered to be an intermediary that brings two groups of consumers together - buyers meeting sellers, advertisers meeting potential purchasers, payment mechanisms.
where cross-market effects exist, the price on one side is not necessarily reflecting the cost of the serving side. Free online content is provided to consumers so that the organisation can build a base which can then be sold to advertisers.
Jean and Tirole's point about transaction platforms and how prices take into account the sum of both (or all) sides. Profit maximising price of A will be lower if 1) more strongly B responds to A, 2) the more profitable sales are to B and 3) the more price sensitive A is.
Antitrust is often related to patents, these are exclusive rights granted for inventions in relation to products or processes. The motivation for patent protection is for the inventor to gain from monopoly profits as a reward for the innovation itself.
When a manufacturer innovates, there is consumer surplus and total welfare increases
If there was no attempt to innovate, consumer surplus as well as welfare would be 0. Although the inventor may appear to be making a large amount of profit, this is not true since there is an expectation to break even at the very least.
Standard Essential Patents are those that must be accessed to comply with industry standards.
Advantages:
interoperability and direct network effects
scale economies
increased incentive to enter and innovate
Product quality
Reduced risk and early adoption
Increased downstream adoption as products that operate on the same standard become easily substitutable
Lower transaction costs for buyers and sellers
Disadvantages:
Elimination of inter-technology standards
Delayed adoption of future technologies
Higher cost access to non-standard technologies
Anti-competitive spillovers from the standardisation process
SEPs could cause hold up problems, some producers might get stuck with unusable technology.
Hold out problems that relate to failure of securing a fair return on investment
Merger between monopolist complementary good-producers may have desirable pricing effects causing as prices will fall.
Cournot Effect and Double Marginalisation : Similarly consider two suppliers that have patents required by each other - very similar to the problem of double marginalisation in a vertical setting.
Interconnection and Interoperability : share network benefits by providing users to interconnect and/or interoperate. Networks are interconnected when a user in one network can access rival networks. Example, mobile telephone networks.
The degree of interconnection can range anywhere between closed garden proprietary networks to total interconnectivity and interoperability. Where there is total compatibility, there are pros and cons : 1) networks do not have to compete aggressively to obtain critical mass to take advantage of the network effects, and 2) markets are less likely tip to a dominant network since smaller networks can better compete.
Even where interoperability exists, it may be only partial because the user accessing another network will incur a greater cost relative to using services on the same network.
Incentive to interconnect:
far more for smaller networks, by denying compatibility, a larger firm will have less to lose: What the DOJ says
However, interconnectivity has the potential to build overall demand across the network. Industry developments can lead to compatible networks.
A decision to interconnect will therefore take into account the following factors:
maintaining an incompatible network would provide an important advantage based on network size.
sharing a network can give rise to latent demand and complementary products.
the cost of interconnection
regulatory environment
Critical Mass and "Tipping"
Critical mass is when a network has sufficient number of users via penetration pricing, a scale sufficiently large to induce complementors to develop products for the network, a network that is far ahead of any rival network
Whether a market is susceptible to tipping depends on a number of factors: a) strength of network effects, localised v. global (uber and airbnb), b) network compatibility - if networks are interconnected and compatible, they are much less likely to tip. , c) Switching costs and ease of multi-homing, d) tipping expectations, e) disintermediation
A firm's decision to maintain an incompatible network may not always be harmful :
a firm's incentive to innovate maybe driven by the hope that successful platforms would have high and durable market shares, can give rise to strong competition and induce incentive to offer lower prices so market may tip, if tipping effects can be unravelled easily, effects of tipping on market power maybe limited.
Market definition
Application of SSNIP in markets that exhibit network effects will be affected since price to any one set of consumers will affect not only the demand of those consumers, rather also of others.
If the price increases on one side, some users might switch away. This would be the first round effect. Users on side B value those on A, the decline on side A will lead to reduction in demand for B. This is a second round effect.
In case of a direct network effect, a price rise would cause some customers to leave the network. A second round effect will cause more customers to leave the network and as a result, the value of the network might decrease overall.
In case of a virtual network effect, a price rise will cause some consumers to leave and there will be a second round effect of fewer complementary goods being produced.
Are markets separately separately defined for each side, or platform as a whole or a combination of the two.
There are different schools of thought for this:
competition authorities focus on one side or both sides of the platform separately, while they may not distinguish very clearly what market they are talking about.
Some commentators say that the sides of the platform can be thought of as a single network and the price chosen will maximise profits for all sides of the market. Therefore the HMT will comprise of looking at a single price, sum of prices on both sides of the market.
Relative prices matter, so summing up may not be appropriate.
A possible rule of thumb is to distinguish between those that are transaction platforms and those that are not: where they transact with each other (ebay) and those that dont (advertising funded media platforms) - price offered to one side will therefore not only determine the usage of that side but also the other side.
In mergers, demand interdependencies need to be considered when calculating diversion ratios.
Intervention in markets that exhibit network effects
interventionists who believe that tipped markets consist of dominant markets
laissez faire believe that the most efficient is monopoly outcome where the consumer benefits from the network effects.
Merger Policy: whether dominant firms must be prevented from acquiring start ups with strong network effects
Regulation in digital markets :
gatekeeper role
gatekeeper firms can acquire potential entrants and gain entrenched position
they can engage in exclusionary behaviour by a) self preferencing, b) preventing multi-homing, c) denying interoperability
Three ways in which firms could collect cumulative low royalties : cross-licensing, patent pools and FRAND commitments.
Cross licences are agreements between two companies to grant each other the right to employe each others patent with an understanding that there will be no patent infringements.
Patent pools where two or more companies hold patents that apply to products necessary to make a given product. In a patent pool, multiple patents are licensed in a package.
FRAND commitments warrant access to SEP based on terms that are fair, reasonable and non-discriminatory.
An optimal FRAND royalty rate will have a lot of competing objectives to meet:
Prevent SEP holders benefiting from market power
PErmit SEP holders to retrieve a fair amount of returns on investment
Ensure royalty stack is not too high
Distribute proceeds of the royalty stack
Ex Ante Competitive Rate : When SEP holders bid for their standard rates, the lowest rate to access SEP wins the "competitive rate" title.
Find comparable benchmark rates, however there maybe issues:
they may be in patent pools
rate maybe a part of a larger agreement
agreements may have different royalty structures
may not be SEPs
Different circumstances
Find a comparator that is biased upwards or downwards after getting an "adjusted rate".
Other methods:
top-down approach: cumulative royalty rate for the entire suite of SEPs, then distributing it appropriately among SEP holders.
Theoretical method to allocate value is the "shapley" method
Shapley method: how much value each patent brings when combined with the other. The probability of it coming first multiplied by single output and the probability of it coming second multiplied by combined output.
Some high level competition concerns re. cooperation:
Dampened competition (allows competing suppliers to come together)
Excessive prices (may allow SEP holders to charge very high prices)
Exclusion of rival technology
Foreclosure of the standard to the downstream firm - a standard setting body might establish terms that gives rise to discriminatory terms for downstream users. If firms have downstream holdings, they may act in a way to obtain exclusive access for their downstream owners.
Likely to restrict competition
Other methods:
bottom-up approach: values an SEP as the incremental value of the patented technology compared to its next best alternative at the time that the SEP became an industry standard.
Reverse payments can be anticompetitive:
sham patent (originator can pay a little more than the duopoly profit for the generic player to stay out of the market) and the originator keeps the difference
-ironclad patent
probabilistic patent
For example, let Se and So be the respective beliefs of the strength of the patent by the entrant and the originator. Let H be profits of Originator under monopoly and L under duopoly, and E be the profits until the end of the life span of the patent.