Barriers, Moats, And Preserving Competition
Over this past winter holidays, I took a trip to New York City and caught up with a friend who works at the regulatory body for Taxi & Limousines in New York City. They have full jurisdiction to regulate the NYC Taxi and Limousine industry as well as the major ride-hailing companies. We discussed Uber and Lyft and the then recently imposed rules regarding minimum wages for the drivers. My friend made an interesting remark — “Uber and Lyft are not really fighting these rules compared to some of the other more up and coming ride-hailing services like Juno.”
The popular sentiment tends to lean on the notion that large companies do not like regulation of this sort. It is supposed to increase the cost of conducting business. Unfortunately, this is not always the case. Many times, large companies are some of the enablers and creators of regulation. Sure, the minimum wage rules in New York City pose a challenge to Uber and Lyft. However, they are a much greater challenge to any up and coming company seeking to usurp the market position of the incumbents. Uber and Lyft are doing to Juno what the Taxi industry initially did to them.
The market dynamics of the transportation industry reminded me a lot about the current discussions around Google, Facebook and the power of large tech companies, specifically as it relates to data protection and user privacy.
While many of the questions from Mark Zuckerberg’s hearings in front of Congress last year were pointless and at times laughable, there were a few members of Congress who were thoughtful about Facebook’s precise motivations for demanding regulation in the current climate.
For example, see the comments and line of questioning from Michigan Congressman Fred Upton:
Zuckerberg responded that plenty of competition exists in the space already. But in reality, Facebook and it’s ecosystem (What’s App, Messenger, and Instagram) account for most of the social media users around the world, outside of China. Furthermore, Facebook & Google account for most of the global advertising spend. All this has created an environment where misguided regulations around data protection and privacy have strengthened the market position of the incumbents.
Alex Stamos, Facebook’s former CISO, pointed out why the new General Data Protection Regulation (GDPR) passed by the European Union threatens new firm creation.
GDPR and similar regulations proposed here in the United States will make it difficult for new technology companies to rebuild social graphs. This greatly hinders a startup’s ability to take advantage of the very network effect dynamics that allowed previous social media companies to scale and grow quickly. Essentially, all the apps that grew to dominance today did a whole lot of shady things to get there. Now that they made it, they are going to pull the ladder away from everyone else at the bottom.
Additionally, there is a growing narrative that individuals and companies are pushing for a more ephemeral and encrypted world. This is part of the reason why Zuckerberg announced the recent push towards more privacy for 1:1 communication within Facebook. But I am not convinced that individual users really care that much about privacy. And I think Facebook knows this.
Individuals care about privacy in the abstract but in the specific moment they seldom think about it. There is a reason why users SSO into apps through Facebook or Google without really thinking about the consequences of those decisions; in those moments it all comes down to convenience. If the need for privacy > the service offered by the app that broke user trust, then the slope of users leaving such applications would be much steeper in the negative direction than it is currently. But Facebook and Instagram are still more popular than ever. Personally, I believe that the components of personal or sensitive information that we provide to online applications are a small part of the overall equation when it comes to the price elasticity of demand for said services. The economics of this can be its own article entirely which I do not currently have the time to cover.
Strategically, Facebook is cutting off the potential for future competitors because it’s raising the bar for every future social application to abide by the rules of ephemerality and encryption. The larger point here is that they already have all your data. The marginal gain of additional data is much less valuable to Facebook while that same data would mean the world for any small up and coming startup.
Essentially, the current misguided policy prescriptions are merely entrenching existing oligopolies. Privacy is a fundamental hallmark of a free and entrepreneurial society. Our right to err and fail privately gives us the freedom to experiment and build the future. However, there is a lack of concern for the founders and entrepreneurs in the garages and dorm rooms right now that may be working on the next generation of companies.
Regulation should be encouraging and protecting competition, not stifling it. But the exact opposite is happening. Current regulation proposals are threatening to give companies that already have all the moats in the world an extra set of weapons and strategic leverage against the long-tail of competition.
Time and again we have seen how powerful industries collude to change the game. Look no further than the heavily regulated financial and healthcare industries as examples of what happens when we allow decades of regulatory capture preventing necessary competition and free enterprise.
A moat purchased through powerful legal teams, effective lobbying, and skewed legislation that ensures an ever increasing barrier to entry for new competitors in the market is indeed the ultimate moat. Recruiting the state or federal government to defend your business model is hard to challenge.
The opportunity cost of the current dialogue around privacy regulations is the lack of dialogue around antitrust regulation. The United States is in dire need of updated antitrust regulation — regulation that aligns with the incentive structure of modern technology firms. The Sherman and Clayton Antitrust Acts of the late 19th and early 20th century were mainly designed for firms that dealt in physical supply chains producing tangible goods. The goal was to control for anti-competitive vertical and horizontal consolidation of firms in the respective industries’ loci and control prices for consumers.
And if you do not think the incumbency advantage is substantial and the lack of competition is damaging, think again.
I have been re-reading Ben Thompson’s take on Aggregation Theory and Antitrust from 2016 and his words are more important now than ever:
The firms of the previous century did not have the capabilities of aggregating demand the way Google, Facebook, and the other large tech companies do today. The internet takes the lowest friction virtuous cycle and compounds it at a speed that we have not adjusted to, yet. Providing free services (email, social networking, messaging) to aggregate demand creates enormous leverage in the overall business value chain. After all, business is a function of what humans want and need. Capture and control those wants and needs and you too can rule the world.
The danger of Aggregators goes well beyond just their ability to aggregate demand and make suppliers bend to their will. Their true superpower is limitless memory. These companies are incapable of forgetting. In fact, their business model depends on this. Facebook and Google know every version of you from the day you started using those platforms. Not only do they have a cross-section of your thoughts and ideas right now, but they have a longitudinal perspective that firms and manufacturers of the past simply did not have. Their knowledge about your past gives them an edge on your future wants/needs, future demand. Their approximation of your future demand has a tighter variance, which increases the value of their predictions and strengthens their market position. Again, a vicious feedback loop that is hard to stop.
This is something we should all be more concerned about.
The future roadmap of technology and innovation is in danger. We must not manufacture a complex regulatory structure that locks up data in the hands of a few big aggregators. It will erase the infinite possibilities for how that data can be used. There are ideas that we cannot even think or dream of right now and we must allow them to come to fruition.
