ANALYSIS: The critics are wrong; it’s time to regulate the internet

In a number of recent articles, the Broadcasting and Telecommunications Legislative Review Panel Report (or “Yale Report”) has been criticized for one of its key recommendations – bringing all media communications entities under the jurisdiction of the Broadcasting Act. This is the recommendation that is intended to include all online services, such as Netflix and similar foreign online services, within the Canadian broadcasting regulatory system.  

Each of these criticisms are slightly different, but all follow two similar themes. The first is that the Internet is “free” and should remain that way. The second is that the Internet must remain free to remain innovative.  

I maintain that these opinions are misguided in their belief and have the situation exactly backwards. The current reality is that the Internet is no longer “free” but is instead heavily monopolized by a small number of enormous technology giants.  It is fair to say that the Internet was designed to be “free and open” and perhaps it was for a decade or more.  However, that time is over and regulation is now necessary. Furthermore, I believe that it must be regulated in order to create the opportunities for innovation. 

This article will appear in three parts. Today, I will discuss the reasons why I believe that the Internet is no longer “free and open” as has been suggested by some. I’ll also lay out my thoughts on why some regulation will be required in order for innovation to continue.  Later, I will look specifically at the new online platforms and how they might be regulated if Canada is to maintain a ‘Canadian’ broadcasting system or something similar in the future.

Is the Internet a free and open system?

The belief which says the Internet is free and open comes from its origins: It was designed as an individual node-to-node linking system. Most of the science that led to its development was funded by the U.S. government and in particular the Defense Department through the 1960s, ’70s and ’80s. The goal was to develop a communication system that had multiple links and redundancies so it could not be fully destroyed in the event of nuclear attack.

In 1990, while working at the CERN laboratory, English scientist Tim Berners-Lee developed the system now known as the World Wide Web on top of the existing technology, as a node-to-node linking system that would eliminate hierarchy in communications. The private commercialization of the World Wide Web started shortly after that and the tech boom of the 1990s was born. Many start-ups, from the early browsers, search engines, social media platforms to online businesses have come and gone; companies like Netscape, AOL, MySpace, Friendster, Broadcast.com and thousands of others grew rapidly and either perished or were absorbed into others. These go-go years in the 1990s were the period for open markets and pure entrepreneurial innovation – at least until the dot-com market crash in 2001.

It has been nearly 20 years since the dot-com crash. One thing that has not changed is the persistent belief held by many it is still the 1990s and the Internet is still open and free. Ask a CEO at a major tech company about competition and they will say it’s “one click away” or that someone in their basement is working on the next version of their product. This is the promise of innovation from Silicon Valley. The important question is: is this reality or myth?

In his book, The Internet Trap, Matthew Hindman explores this question and concludes that it is a myth. Hindman observes that on the Internet, small advantages compound over time, creating significant and lasting competitive advantages. Sites with higher traffic can innovate faster, improve load times, lower search costs, create overall stickiness and are then locked in by network effects. He concludes “once a winner emerges the market becomes highly inflexible.”

“Markets have become more “winner takes all” than anything resembling free.”

We can see this in most key areas of the Internet. Google dominates the search business with almost 90% of the market share. Facebook dominates social media. No company’s dominance of online shopping is more obvious in this time of COVID-19 than Amazon. Markets have become more “winner takes all” than anything resembling free.

Yet the myth persists. As Hindman puts it, “despite these increasingly obvious facts, the Internet is often portrayed as a magical fairyland of frictionless commerce and perfect competition.” Furthermore, it is not the companies themselves that are necessarily so special nor is it always the product. Google dominates search but comparatively, it has failed with its social media product Google+. Microsoft’s Windows mobile operating system was reputed to be the superior product but they couldn’t gain a significant market share over Android. Microsoft also spent more than $12 billion dollars on their Bing product in an attempt unseat Google as the top search engine, yet it barely exceeds 10% market share. As Hindman notes, in terms of financial investment “it is easier to build a manned space mission than a modern search engine.”

Monopoly power on the Internet

It is the nature of the Internet that monopoly power compounds over time and once locked in it may be impossible to dislodge. Network effects are powerful and once they reach a critical mass are difficult to unseat, especially when combined with data learning and artificial intelligence. The largest network obtains the greatest amount of data and is therefore in a market position to perpetuate and strengthen its control. Small effects over time compound to become enormous competitive advantages. Some might blame the product or their market efforts or both, but this misses the crucial fact that a leadership position on these Internet effects – network effects combined with data learning – will over time make a company or product almost unassailable to competition, particularly from start-ups.

Silicon Valley understands the power of Internet effects and knows where to invest. This is why most Internet investments are now focused on companies that are looking to “disrupt” market verticals. Essentially, these companies are attempting to apply digital technology to traditional markets. Some of the best-known examples are Uber, DoorDash and Airbnb. These and other “Unicorns” – a name given to companies with billion-dollar valuations with little or no earnings – are the darlings of the Valley investment funds. These valuations are justified on the belief that the Internet effects – when secured in a market – will lead to an uncontestable market position that can be forever exploited to the benefit of the shareholders.

Peter Thiel, the co-founder of PayPal and Palantir and then an investor in Facebook, best articulates this business strategy. In his book, Zero to One, Thiel writes, “whereas a competitive firm must sell at the market price, a monopoly owns its market, so it can set its own prices. Since it has no competition, it produces at the quantity and price combination that maximizes its profits.” Thiel then differentiates the monopolies he is referring to from the “illegal bullies or government favorites” of the past. Instead he says, “By ‘monopoly’, we mean the kind of company that’s so good at what it does that no other firm can offer a close substitute.” Thiel then cites Google as such an example.

Thiel’s view on Internet monopolies has been the standard refrain against regulation for more than two decades now; that somehow, Internet companies are different than the bad “illegal bullies” of previous eras, whether it was the railroad, steel and oil magnates of the Gilded Age of the 1870s or those of the past decades. He believes the Internet is something new and should not be brought be under government control, just as the three former commissioners have said.

I think this belief is deeply flawed, defies common sense, our understanding of human nature and the past 150 years of economic history. Thiel might be surprised (although I doubt it) that the U.S. Justice Department and state governments currently have other thoughts about Google. According to CNBC:

“The states’ investigation has been mostly focused on Google’s online advertising business, according to the report, though CNBC previously reported that its scope had expanded to include both search and its Android mobile operating system. Even if some states bring a suit against Google related to its ad business, it’s possible others could choose to pursue separate cases following different legal theories. The DOJ’s probe has focused on Google’s ad business, but also more broadly on allegations that it has used its dominance in the search market to squash competitors, according to the [Wall Street] Journal.”

While this is still an ongoing investigation, the regulator in the European Union has had similar issues with Google. In 2019, the European Commission “hit Google with a fine of 1.49 billion Euros for ‘abusive practices’ in online advertising, saying the search and advertising giant broke the EU’s antitrust rules and abused its market dominance by preventing or limiting its rivals from working with companies that had dealt with Google.”

The idea Internet companies would somehow behave differently than other types of companies is simply without credence. These companies must be subject to the same rules and regulations that have tried to keep markets competitive and consumers protected for generations. It is not just with respect to monopolies. Thiel and other investors have been arguing for years that many of society’s other rules regarding workplace and other community norms simply should not apply to them.

Competition law and innovation

One interesting and forward-thinking recommendation from the Yale Report says the CRTC and the Competition Bureau be mandated to work together on matters relating to broadcasting and telecommunications.

The role of competition law in our economy has diminished in the past 40 years. Starting in the 1980s there became a gradual movement away from previous understanding regarding the importance of protecting competition. An excellent review of these changes comes from Columbia Law Professor Tim Wu, known more commonly for his defense of net neutrality. In his book, The Curse of Bigness: Antitrust in the New Gilded Age, he reviews the changes in competition law since the 1870s. The book title comes from Louis Brandeis, former Associate Justice of the United States Supreme Court, who was a great champion of competition laws. He famously asked the question, “Shall the industrial policy of America be of competition or monopoly?” Wu argues we need to return to the principles established by Brandeis and others in that time.

The problem in Brandeis’ time was the same as now. Concentrations of corporate power were not just a danger to the economy but also to political institutions and society as a whole. This is Brandeis’s “curse of bigness.” Wu points out, “as business gets larger, it begins to enjoy a different kind of advantage having less to do with the efficiencies of operation, and more to do with the ability to wield economic and political power, by itself or in conjunction with others…in other words, a firm may not actually become more efficient as it gets larger but may become better at raising prices or keeping out competitors.”

“This is called, “kicking the ladder down after you have reached the top.”

This is where the corporation uses its market power to thwart competition and kill innovation. The best example, says Wu, is the anti-trust case United States v. Microsoft Corporation, 253 F.3d 34 (D.C. Cir. 2001). The U.S. government accused Microsoft of illegally maintaining its monopoly position in the personal computer market primarily through the legal and technical restrictions it put on the abilities of PC manufacturers and users to uninstall Internet Explorer and use other programs such Netscape and Java. The key claim in the government’s case was that Microsoft was using its market power to push the browser competitors out the market so that Microsoft could control the gateway to the Internet.

As Wu describes the case:

“Microsoft was a monopolist with over 90 percent of the market share, engaged in the destruction of a small company with the goal of acquiring a new monopoly in a new market. Nonetheless, critics of the antitrust attacked [head of antitrust action at the Justice Department] Klein for bringing suit. Tech markets are too complicated or ‘fast-moving’ for the law to catch up and understand. The government would kill the golden goose… But the facts, as they came out, strongly favored the Justice Department. Microsoft’s motives were made clear by its internal memoranda; and Microsoft had great difficulty coming up with anything but the pretextual reasons for tactics it employed against Netscape.”

As Wu laments:

“In our times, with minimal anti-trust enforcement, Microsoft would have been in a perfect position to control the future of the internet, just as (founder Bill) Gates had planned. Small firms, like Google, Facebook, Amazon, and others were all dependent on the web browser, over which Microsoft now had a monopoly. To take just one example, it is highly doubtful that Google would have achieved dominance in a world where Microsoft could dictate what search engine was being used on every computer in the world, we would all be using Bing.”

Likewise, Matt Stoller points out in his book, Goliath: The 100-Year War Between Monopoly Power and Democracy:

“The Microsoft suit had two critical impacts on the development of the American political economy. Microsoft never dominated the Internet the way it had the personal computer, because it was never able to leverage its hold over the browser market to control how users interacted with third-party websites. It did not block a new company dedicated to selling books called Amazon and new company with an innovative search engine called Google from accessing customers through Internet Explorer.”

Now that Google is in a dominant position it fails to acknowledge the role regulation played in allowing it the opportunity to be successful. This is called, “kicking the ladder down after you have reached the top.” Once a company achieves a dominant market position it calls for a “free market” by which it means a market where it can use all of its power against competitors. What we should seek instead is a competitive market where opportunities exist for other companies to compete, create differentiated products and spur innovation.

Another problematic area is corporate acquisitions. Wu discusses the situation with Facebook, which has avoided anti-competitive actions simply by acquiring any potential competitor. In 2010, Facebook faced its first serious competition from a company called Instagram, which it promptly acquired, along with a number of other start-ups including WhatsApp. In all, there have been 67 unchallenged acquisitions and counting over the past decade. Google’s acquisition of YouTube also went unchallenged. As the acquisitions continue, the concentration of power of the Big Tech companies becomes even more dominant.

Wu and Stoller are both concerned we have forgotten our history with monopolies and are ideologically unprepared to deal with them. However, there is reason to believe that the lessons of the past few decades – especially since the financial crash of 2007-2008 – are starting to create a strong revival for competition law. We particularly see that in the European Union, which now leads in developing regulations – particularly regarding the Internet and digital technologies.

It is difficult to see how Canadian regulators can play a leading role in blocking these international acquisitions. However, the Yale Report is clearly correct in recommending that the Competition Bureau and a re-imagined CRTC work together to solve these issues in the Canadian market. Competition law is due for a revival as our economy more and more resembles that of the Gilded Age in regards concentrations of power, rising inequality of incomes and conditions.

The rise of the internet digital platforms

The challenge for regulators when it comes to broadcasting will be the new Internet digital platforms. By platform, I refer to the proprietary platforms that are designed to bring together consumers and sellers of individual products. These platforms are data and algorithmically driven and designed to scale to meet the consumer need for large quantities of products. The most familiar global platforms in the entertainment space are Netflix, Amazon Prime, Apple, Disney +, CBS-All Access, HBO Max, Hulu and Peacock. Other new platforms include Tubi, PlutoTV, Roku, Xumo and SamsungTV with many more on the way. The challenge will be in coming up with rules and regulations that allow Canadian companies to continue to do business, to grow and to innovate on these platforms.

It is not just a Canadian issue – it is both a problem and an opportunity for everyone doing business on the Internet. The problem, of course, is these are big, proprietary platforms. They aren’t Google-sized, yet. But even still, smaller companies have no bargaining power. That said, the opportunity they present is incredible for Canadian companies.

Hemat Taneja is the managing partner of the Silicon Valley firm General Catalyst. Its investments include Snapchat, Stripe and many more companies. What Taneja sees is that these platforms provide an opportunity for entrepreneurs. He sees the advantage they provide is to give a small company scale because the platform carries so much of the infrastructure cost of the business, which he calls “unscaling”. In his book UnscaledHow AI and a New Generation of Upstarts Are Creating the Economy of the Future, he says, “unscaling is possible because entrepreneurial companies can rent scale and profitably address global markets while remaining small and focused. But it is true that those unscaled companies will need to rent their scale from platform companies, and some of those platforms will be huge.”

This is clearly true in the broadcasting and digital distribution business. Content owners can now scale their businesses globally on these platforms in way that was unimaginable only a decade ago. The challenge is these platforms are quickly gaining a strong position in the market. Very soon, it will be necessary for all content owners to have access to them. Taneja calls this the “monopoly platform issue.”

He notes these companies – Apple, Alphabet (Google), Amazon and Facebook are global and therefore difficult to regulate. Furthermore, the artificial intelligence they can provide will be so good because of their scale it would not make sense to break them up. Instead, Taneja suggests they must “enable the creation of free markets or risk getting regulated.” In other words, they must provide the fair opportunity for entrepreneurs to access and do commerce on their platforms and provide the information necessary to do so.

“This is the best time to lay the foundation for a new system that allows these services to flourish but maintains a strong Canadian position within them.”

It is important to understand we are in a critical period with the digital platforms. This is an explosive period for growth and innovation with new platforms such as HBO Max and Peacock having launched just in the last month. This is the best time to lay the foundation for a new system that allows these services to flourish but maintains a strong Canadian position within them.

We don’t know where the battle between these major platforms will leave us in the long term, but the history of the Googles and Microsofts of the world shows the Internet does not play by a different set of business rules. It is not inherently “more open”, “more innovative”, less resistant to anti-competitive conduct or domination than any other business sphere. In fact, due to the network effect, it may be more susceptible to some types of dominance, misinformation, illegal conduct and erosion of cultural identities and languages than older types of communication, where we were mostly concerned about the ownership and monopolization of the wire to the home and access for content providers through that bottleneck.

Our experience with the Internet so far is that there is no reason whatsoever to hold back on appropriate regulation in this sphere just because “Internet”. If we continue down this path of non-regulation in our cultural sector, we will be throwing out the many decades of hard work that it took to build a Canadian system that is the envy of many other countries around the world. The subheading to the Yale report is “Time to Act”. I think they were being diplomatic. The time to act was about 10 years ago. We can only hope our timidity has not left it too late.

Brad Danks is CEO of OUTtv and adjunct professor of law at the University of Victoria.