Journal of Competition Law and Economics Advance Access published online on December 9, 2007
Journal of Competition Law and Economics, doi:10.1093/joclec/nhm031
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CONSUMER COORDINATION IN THE SMALL AND IN THE LARGE: IMPLICATIONS FOR ANTITRUST IN MARKETS WITH NETWORK EFFECTS
Network effects occur in markets when consumers receive mutual benefits from consuming the same good. Markets with network effects that have generated particular policy concerns include the information and communications technology and electronics (ICTE) industries. Many economists and legal scholars argue that the presence of network effects creates a form of market failure known as "network externalities" and recommend new forms of antitrust and regulation targeted at particular firms in the ICTE industries. The debate over network effects is likely to have major consequences for these industries, with effects comparable to landmark antitrust cases involving IBM, AT&T, and Microsoft. This article provides a comprehensive examination of network effects that addresses the legal, economic, and technological basis for this phenomenon. The article develops a general framework for examining consumer coordination in markets with network effects. The discussion demonstrates that consumers can coordinate their consumption decisions to obtain the benefits of network effects. When there are small numbers of consumers, as Coase argued, low transaction costs allow the formation of informal agreements and formal contracts that are economically efficient. When there are large numbers of consumers, the market offers many mechanisms of spontaneous order in the sense of Hayek. The article refers to Coasian negotiation as "coordination in the small," and to Hayekian spontaneous order as "coordination in the large." The discussion demonstrates that consumer coordination, both in the small and in the large, results in efficient consumption of network goods and adoption of new technologies. Market institutions are fully capable of addressing network effects. Antitrust policy based on correcting market failure due to "network externalities" is likely to impact both competition and innovation adversely. Network effects do not provide a sound basis for antitrust policy.
* Elinor Hobbs Distinguished Professor of International Business, Professor of Management Strategy, Kellogg School of Management, Northwestern University. E-mail: jems{at}kellogg.northwestern.edu. I thank Jonathan Baker, Gary Biglaiser, and Geoffrey Manne for helpful comments. Prepared for the George Mason/Microsoft Annual Conference on the Law and Economics of Innovation. I thank participants at the conference for useful discussions.