Monday, 9 September 2013

Time to reform the Microsoft Monopoly

Windows software is used by many of us every day but is it right that we have to pay the price for Microsoft’s follies?

One reason why economist are always plugging reforms is that they often enable greater competition which is good as it pushes firms to offer better products for lower prices.  The opposite of this is monopolies who dominate a sector of a market resulting in higher prices and lacklustre products.  There is one monopoly in particular that Your Neighbourhood Economist loves to hate – Microsoft. 

Over 90% of the world’s computers run a version of Windows (including the one that this blog is being written on) which provides Microsoft with a captive audience and allows it to charge high prices for its products generating bucket loads of profits.  However, the failure of Windows 8 and a host of other products shows that Microsoft does not have a great track record in terms of customer satisfaction – it seems to prioritise extending its empire above anything else.  But the influence of Microsoft is even worse than that and here is why.

The dominance of Microsoft comes through a phenomenon known as a network effect.  This is where a product becomes more useful (and valuable) to each user as more people use the product.  The software products from Microsoft have become the global standard for exchanging documents between computers and this has locked everyone into Microsoft’s software with few other options outside the mainstream.  The same phenomenon can be seen elsewhere with Twitter and Facebook but the ease of switching does not result in user being beholden to one provider of a service such as has been shown with the rise and fall of MySpace. 

Economic theory shows that it is optimal for firms operating as monopolies to charge higher prices than normal to extract maximum profits from its consumers.  Microsoft seems to be doing a good job of this and generated US$23 billion in surplus cash in the past fiscal year from revenue of US$78 billion.  Some of this cash would go towards making improvements to its software products but a substantial portion is also spent on extending its influence to other areas.  Its first big foray was bundling of its own web browser with its other software in the late 1990s to shut out a rival in the shape of Netscape.  But this proved to be the first of many costly strategic errors as Microsoft ended up with a hefty legal bill after being found to have abused its dominant market position.

Microsoft has struggled to get its foot in the door in a range of burgeoning Internet markets such as online searches and social networking but it has lacked the market nous of rivals such as Google and Facebook.  It has also been left trailing in the wake of Apple and Google in terms of software on tablets and smart phones with electronic manufacturers cautious about dealing with Microsoft.  This is because Microsoft’s profits on its computer software have come at the expense of the firms that make the hardware and the market for computers as a whole with sales of PCs expected to decline by around 10% in 2013.

Microsoft comes across as a company from a different era, lacking a consumer focus and being unable to innovate fast enough.  It seems to have more of an engineering mind-set with new product development as not one of its strong points – its only one popular offering has been its Office software over twenty years ago which was first pioneered by Apple.  This is perhaps best personified by its Windows 8 software, which was an attempt to use its free reign in PC software to rescue its fortune with tablets and phone by imposing the same touch-screen format on PCs as well but instead further alienated consumers due to its being ill-suited for use on computers.  Such a slip-up with its main product would be the death of most other firms but Microsoft lives on.

One of the basic notions behind capitalism is that a prospering company is good for the whole economy as it’s presumed to be providing a product which is in demand.  But Your Neighbourhood Economist would argue that Microsoft fails this test.  Its position in the PC market means it’s more like a tax which many PC buyers have no choice but to pay hurting both consumer and computer makers with few benefits – Microsoft uses its market ascendancy for a series of failed attempts to gain footholds elsewhere.  This will be the likely conclusion of its purchase of Nokia’s mobile phone business with Microsoft’s previous venture into hardware, its Surface tablet, resulting in a US$900 loss in the previous fiscal year.  Its rivals could not be more different – Apple generates almost religious fervour in its products while Google invests money in such far-fetched schemes as driverless cars and glasses doubling as wearable computers which could benefit society well beyond its mainstay business of online searches.

Having made the case that Microsoft has monopoly control and that this is resulting in higher prices with scant benefits for consumers, the only thing that remains is deciding what should be done.  One line of thought could be to strip Microsoft of its ownership of its Window software due to its market abuse and allow other firms to provide their own versions.  But there is a notion in economic theory that innovation deserves financial reward to ensure that firms will take risks in developing new products in the hope for a pay-out in the future.  So even though many who invested in Microsoft have already been richly rewarded, the company does deserve some financial compensation. 

With this in mind, Your Neighbourhood Economist would argue for a licensing agreement whereby other firms would get access to the technology behind Windows software and are able to add improvements to attract their own customers.  This is because the software from Microsoft is so widespread that it is part of digital infrastructure needed to do business and allowing such key infrastructure to be managed by one firm has been problematic.  This possible solution is similar to the way in which other monopolies have been dealt with in the past – phone companies who have gone to the trouble of laying down cables are no longer allowed to monopolise the market and must offer up the use of the cable to other firms but at a fee.  Microsoft’s time has come and gone but we should not all have to suffer because of it.

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