Too Many Economists Are Using a Flawed Theory To Defend Dominant Platforms’ Self-Preferencing Practices

By: David J. Balan (ProMarket/Econ One)

Congress is currently considering two bills whose purpose is to address dominant tech platforms’ potentially anti-competitive practices. The American Innovation and Choice Online Act (AICOA) prohibits “self-preferencing,” such as when Google favors Google-affiliated search results over unaffiliated ones, or when Amazon favors its own products sold on the Amazon platform over those of its rivals. The Open App Markets Act (OAMA) prohibits self-preferencing in app marketplaces (Apple’s “App Store” and Google’s “Google Play”) and requires that consumers be allowed to “side-load” third-party apps onto their phones rather than have to purchase them through the app marketplaces.

AICOA and OAMA respond to the concern that these practices might be a way for a dominant platform owner to leverage its existing market power to gain additional market power over goods and services advertised or sold on its platform. A related concern is that the practices might be a way for a platform owner to thwart the entry of potential rivals that may have eventually displaced it from its dominant position. In what follows, I refer to these possible anti-competitive outcomes as “expanding” and “extending” market power.

These concerns seem intuitive. If a firm owns a platform and also operates on that platform, and if its current or potential future rivals need to operate on that platform (which they likely will if the platform is dominant), then it seems obvious that the platform owner has the ability and the incentive to engage in self-preferencing and related practices to disadvantage those rivals. To use a well-worn metaphor, it would seem straightforwardly problematic to allow the platform owner to be both a player and the referee in the same game.

However, the “Single Monopoly Profit” (SMP) theory–famously associated with the Chicago School of economics and developed during the second half of the 20th century–purports to demonstrate that no such problem exists. In its strongest, most orthodox form, the key result of SMP theory is that a firm with market power in one market (such as a dominant platform owner) can do no better than to simply enjoy, for as long as it lasts, the “single monopoly profit” associated with that market power. Any attempt to use practices such as self-preferencing to expand or extend that market power must backfire, reducing profits rather than increasing them.

The logic behind SMP theory—as it applies to self-preferencing conduct—can be described as having two prongs (see here for a more detailed discussion). The first prong observes that any practices chosen by a platform owner that deviate from those that a neutral owner (i.e., an owner who does not also operate on the platform) would have chosen must decrease the platform’s profits. The reason is that the neutral owner chooses practices that maximize profits, which means that any different practices must result in lower profits. Self-preferencing is by definition such a deviation, so self-preferencing must reduce the platform’s profits. This prong is really just a version of the “no free lunch” idea (rightly) beloved of economists, and it is valid…

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