This article is written by Shishank Shaw, pursuing a Certificate Course in Competition Law, Practice And Enforcement from LawSikho.
With the advent of the internet, the world has witnessed vast technological advancement. At the forefront of this advancement are the tech giants of the world; Facebook, Apple, Google, and Amazon. (FAGA) who are the gatekeepers of the internet. Google owns 90% of the search or search engine market Amazon captured 74% of all e-commerce transactions, Facebook owns WhatsApp and Instagram, the most frequently and popular social media app on the planet. Google’s parent company Alphabet is a market leader in the market of digital maps. Such high levels of concentration are due to the features unique to the digital markets, which allow them to scale at an enormous rate.
The current antitrust law and authorities have failed to address the challenges posed by digital markets. At the turn of the millennium, there was intense debate amongst the antitrust enterprise. They were in a dilemma on whether the tools developed during the bygone era of brick and mortar could tackle the challenges posed by the upcoming digital era and is there a need to evolve their tools to address the digital markets. The consensus reached was that the basic doctrine was supple enough to be applied to the new era of markets and the enforcement agencies should adopt a defendant-friendly, hands-off approach. This pro-defendant position is deeply-and dangerously-flawed. Economic theory, empirical research, and extant judicial and regulatory authority all contradict the prevailing views regarding power, conduct, and efficiencies in digital markets. Far from being self-correcting, digital markets facilitate the creation and maintenance of uniquely durable market power. Digital markets are conducive to complex anticompetitive strategies that have largely escaped regulatory scrutiny.
In this article focuses on what is tying, when and why tying and bundling practices are undertaken by the players in the digital market, the economic theory.
What is a Tying or Tie-in arrangement?
Suppose A is a retailer of phones and B is the local distributor of mobile phones in a marketplace. Both A and B are players of two different stages of the production chain i.e., A is responsible for selling phones to the final consumer, and B is responsible for supplying mobile phones to retailers. Any commercial agreement between the two is an example of a Vertical Agreement. Thus, vertical agreements are agreements between two enterprises belonging to different stages of the production chain or different industries.
Tying arrangements are a type of Vertical agreement
Tying, or a tie-in, ordinarily involves the practice of conditioning the sale of one product (the tying good) on the sale of another (the tied good).
Suppose in the previous example, B decides to supply a popular smartphone xPhone (tying product) on the condition that it must be bought with a xWatch (tied product). A’s primary business is to sell smartphones now if he wants to sell Xphone he is forced to purchase the smartwatch along with it. This effectively reduces his autonomy of what he can purchase and sell in his shop.
Types of tying
There are several types of tying and a firm may undertake tying in several forms, but the most common ones are:
- Technical tying; where the firm limits the compatibility of its competitors product (Apple Watch can only be used with an iPhone).
- Contractual tying; which obligates the consumer to purchase the products together (Amazon Prime subscription which ties Amazon Music and Prime Video).
Conditions for effective tying (Tie-in)
There are two ingredients to make a tie-in arrangement effective, they are:
- The seller or service provider must command a strong market share/ power in the tying goods or services market.
- The arrangement conceived by the seller or service provider must either reduce existing competition or prevent new competition in the tied goods or services market.
(IL)legality of Tying
Before moving forward, it is important to recognize that competition law is a non-traditional law. Traditional laws like contract law, marriage law etc are influenced by morality, customs and principle of equity, justice, and good conscience. Competition Laws on the other hand, are rooted in economics theories which have a huge influence on them, as the theory evolves so does the laws. Keeping that in mind the treatment to Vertical agreements by competition authorities have evolved in time. There are two eras which have influenced the treatment of Vertical agreements by antitrust authorities.
Pre-Chicago School treatment of Vertical Agreements vis-à-vis Tying
The early cases of tying and bundling were marked by “An intuitive theory of leveraging”.
According to this theory, a dominant undertaking could spread its market power from a dominated market to another competitive market in order to establish a “new or second monopoly in this market”. Eventually, the undertaking engaged in tying and bundling could obtain two monopoly profits; due to the doubling of the deadweight loss, consumer welfare would decrease. Tying and bundling was, thus, seen as an instrument to harm consumers by monopolizing a still competitive market.
In the United States, tying and bundling agreements evoked great scepticism among judges which was best illustrated by the 1949 Standard Oil case where the US-Supreme Court held that “tying agreements serve hardly any purpose beyond the suppression of competition”.
The Attorney General’s Committee to Study the Antitrust Laws, 1955 concluded that “the purpose of a tying contract is monopolistic exploitation since tying and bundling practices artificially extend the “market for the ‘tied’ product beyond the consumer acceptance it would rate if competing independently on its merits and on equal terms”.
In Fortner Enterprises, the US Supreme Court stated that “tying agreements generally serve no legitimate business purpose that cannot be achieved in some less restrictive way”, therefore “the presence of any appreciable restraint on competition provides a sufficient reason for invalidating the tie.”
A similar approach was seen in Europe where the lawmakers were sceptical about the anti-competitive dangers of tying and bundling. Ultimately, both US-American Judges and European Lawmakers opted for the Per Say approach to Vertical Agreements vis-a-vis Tying practices. The per-say approach assumed that every vertical agreement to be illegal and harmful to competition and the onus was on the defendant to prove the contrary.
The Chicago-School Approach and birth of Rule of Reason Analysis
Scholars like Robert Bork, Aaron Director and George Stigler questioned the intuitive theory. In essence their theory claimed that a monopoly could realise its profit only once and the business practice of transfer of market power could not increase profits. This is illustrated by an example:
A company offers two services: Tickets to Taj Mahal (Market A) and Guided tours in Agra (Market B). Note that this company is a dominant player in market A and functions in a competitive market B. Let’s say the marginal cost for the tours are Rs 20.
The company now decides to bundle its services together at INR 100 i.e., they cannot be bought on a standalone basis. Now the consumers will purchase the bundle only if they attribute a higher value to visit Taj Mahal than the Agra Tour i.e., consumers who are willing to pay at least INR 80 to visit Taj Mahal would buy the bundle.
Here is the interesting thing: the company can charge Rs 80 without tying the guided tour as it is a dominant player in that market and consumers will have no choice but to pay the price and thus this makes no economic sense for a market dominant company to leverage its market position to enter another through tying and bundling as it can earn the same amount of profit. This principle is called “One Monopoly Profit Theorem”.
The Chicago School gave birth to the Rule of Reason analysis which changed the court’s approach towards tying and bundling. According to the rule of reason, tie-in agreements analysed by the competitive authorities in order to perceive whether it is illegal under the respective antitrust statutes, this increased the efforts to prove tying and bundling arrangements as anti-competitive.
Unfortunately, no theory is perfect and the Chicago School’s one monopoly theorem had some major drawbacks. Theories are based on assumptions and the said theory was based on some restrictive assumptions like:
- The tied or bundled products must be used in fixed proportions;
- The competitiveness in all related markets must be fixed;
- There must be a strong positive demand correlation between the tied or bundled products.
Along with this, their theory was deeply rooted in neoclassical price theory which had unrealistic assumptions like:
- Consumers are perfectly informed.
- Marginal Costs of the firm is equal to Marginal Revenue earned.
Relaxing any one of these would make tying and bundling anti-competitive thus making the One Monopoly Theorem redundant.
Several Scholars like Michale Whinston and Barry Nalebuff through their respective papers ‘Tying, Foreclosure, and Exclusion’ and ‘Bundling as an Entry Barrier’ have concluded that:
- Tying and bundling agreements signal a monopolist’s will to engage in aggressive pricing in a non-dominated market which led to an increase in barriers to entry and;
- Tying and bundling may deprive new market entrants and thus foreclose competition in the non-monopoly market and such practices are more attractive in markets where the marginal costs are low.
Findings of Calton/Waldmann’s paper showed that a dominant entity might engage in tying and bundling as a means to raise future barriers to entry into the dominated market. Their markets for this study were undergoing rapid technological changes and the striking feature was network effects.
On retrospection of their study we find the behaviour of players in digital markets closely resembles their findings and can be used to study digital markets.
Nonetheless, we cannot ignore the fact that the Chicago school’s theories had an immense impact on the Antitrust enforcement agencies. US courts while adjudicating Vertical agreements shifted its practice of Per-Say to Rule of Reason which is the status quo approach of competitive authorities across the globe till date.
Economics of Digital Markets
Digital markets significantly deviate from the presumptions of the Chicago School. In fact in the economic literature, it is a fact that digital goods unlike analogue goods are non-rivalrous i.e., the consumption of the good by one consumer does not prevent the simultaneous consumption by another. These goods fall into the category of infinitely expansible goods as their quantity can be expanded without incurring additional cost. This means the marginal cost of producing digital goods is practically zero. This phenomenon is called ‘Zero-price’ strategy.
The digital market displays an imperfection to competition which is “network effects”. This is also present in digital goods. Network effects essentially is the utility a user derives by consuming a good depends on the number of other users present in the same network. Example would be any dating app, more the number of users using the app (in the same network), more is the utility (finding a match) it provides to its users.
Nature of a market has an immense impact on the players which in turn defines the level of competitions. Digital markets at the moment have extremely “high barriers to entry”, which coincidentally is a feature of a monopoly market. Since there is a sole player in the market, there is little incentive to innovate by the monopolist as well as any new player that may enter the market. This is displayed in digital markets, where the mere presence of the tech giants in any given market hinders and stifles innovation.
These characteristics along with “feedback loops” increase the incentive of an enterprise to practice tying and bundling. The nature of digital could make technical tying easy to implement and its design can be used to limit the interoperability with its competitor’s product. Like for example you cannot use some specific features of Airpods while using an Android phone.
Identifying Tying in digital markets;
Tying in digital markets are significantly harder to define because of their subtle nature. Essentially the yardstick of defining tie-ins is the existence of two distinct products, but this line is blurred in the complexity of digital markets.
This was debated in the EU’s Google Shopping case, where the generic and specialized shopping search services of Google were two distinct products or not.
Identification of tying conduct is not easy in digital markets. Using the example of Airpods, its incompatibility with android phones raises the question whether it is a deliberate action by Apple to keep its customers in its ‘ecosystem’ or is it impossible due to technical reasons.
The consumer’s bias can be exploited by the players in the digital market by ‘nudging’ them into purchasing certain goods or services together. Actions like pre-installing their own apps, (Android phones with Google suite of apps) giving preference to their own services in the application store, or preventing the user’s choice over default apps (Safari being the default web browser in their products) all rely on the consumer’s tendency to retain and use the default option.
Hence, it is still a work in progress on what constitutes tying in digital markets as this concept is still evolving.
Anti-competitiveness of tying in digital markets
Tying can have the effect of foreclosing competition in the digital markets, each of these apply to certain characteristics of digital markets which, as described above, cause them to depart from the economic ideal of a perfectly competitive market making the Chicago school theory insignificant.
A firm may use network effects to foreclose competition through tying. Take the example of WhatsApp pay. Millions of Indians use WhatsApp to communicate with their dear ones, carry on business etc. Using the nudge theory, the users are more likely to use WhatsApp pay when they want to send or receive money because of the seamless integration with the app and being the default payment system. They no longer need to use its rivals like Paytm or Google Pay (GPay) because of the added steps for the same task.
Tying can also be used to prevent entry of its competitors. Apple Pay (tied product) is exclusive to iPhones (tying product). If a user wants to use Apple Pay for better security, stability etc the person is forced to purchase an iPhone. And by the nudge theory, Apple Pay being the default payment system the user will not be interested to install its rival GPay. There is no demand for Apple Pay without an iPhone.
Tying can be used to leverage a monopolist position in one market to enter another market and subsequently foreclosure competition in the non-monopoly market. Using the WhatsApp Pay example; WhatsApp is a dominant player in the digital messaging market. WhatsApp Pay is a new entrant in the digital payments market. Note the market for digital payments is highly competitive with players like PhonePe and Paytm. By tying payment service with its messaging service, it can foreclose the competition in the payments markets and potentially take the market share of its rivals like PhonePe, GPay and Paytm.
All these situations do not fit into the Chicago School theories as described earlier. Firms in digital markets gain additional profits from the non-monopoly market thus incentivising firms to practice tying which can be seen in the given case laws.
Classic Case law of Tying
United States v. Microsoft 1998
The first landmark case with regards to digital tying, Microsoft got into trouble with its antitrust authority; The Department of Justice.
The Department of Justice (DOJ) sued Microsoft Corp. for tying its operating system Windows with the internet browser Internet Explorer. The theory of harm focused on how a company could use a tying strategy to protect its dominance in the tying product market. Microsoft was accused of limiting the expansion of Netscape Navigator (a competing internet browser) because the underlying middleware (Java) used a programming language which allowed applications to run on multiple operating systems. In other words, the competitive threat was that an eventual Netscape success would have represented an incentive for developers (and users) to use Java, with the risk of creating the basis for the growth of new operating systems.
Microsoft settled the case with the DOJ, which in part obligated the company to share its Application Programming Interfaces (API) with other companies.
Microsoft v. Commission
Microsoft abused its market power by deliberately restricting interoperability between Windows PCs and non-Microsoft workgroup servers, and by tying its Windows Media Player (WMP), a product where it faced competition, with its ubiquitous Windows operating system.
This illegal conduct has enabled Microsoft to acquire a dominant position in the market for work group server operating systems, which are at the heart of corporate IT networks, and risks eliminating competition altogether in that market. In addition, Microsoft’s conduct has significantly weakened competition on the media player market.
The ongoing abuses act as a brake on innovation and harm the competitive process and consumers, who ultimately end up with less choice and facing higher prices.
For these very serious abuses, the Commission imposed a fine of € 497.2 million on Microsoft.
Recent Case Laws
European Commission Google Android case (2018)
The European Commission has fined Google €4.34 billion for abuse of dominance, the Commission found that Google has imposed illegal contractual restrictions on Android device manufacturers and network operators. The Commission found that three types of restrictions sought “to ensure that traffic on Android devices” was directed to the Google search engine, strengthening its dominance in the market for general internet searches.
- Illegal contractual tying: Google made access to its app store (the play store) conditional on the pre-installation of its Google Search app and Google Chrome browser on Android devices. This resulted in two instances of illegal tying (of the Google Search app and of the Google Chrome browser). The pre-installation of apps reduced the incentive for both manufacturers and users to download competing apps, harming competition.
- Illegal payments: Google made illegal payments to device manufactures and mobile network operators to ensure exclusive installation of its Google Search app. This foreclosed competitors from the market.
- Preventing manufacturers from installing unapproved versions of Android, an open-source operating system. This restriction hindered the development and distribution of alternatives, as it meant that manufacturers were required to use Google’s Android operating system.
The relevant product market in this case did not include “non-licensable” operating systems such as Apple’s operating system (iOS). Such systems were only considered indirect competitive constraints on Google, given that device manufacturers do not switch between the two.
A similar case Google V CCI Case No. 07 of 2020; the Competition Commission of India (CCI) ordered an in-depth investigation into alleged abuse of dominance by Google in the mobile operating system market. The CCI had conducted a preliminary investigation into Google’s behaviour in relation to its Android Mobile Operating System and found that Google may have abused its dominant position by requiring Android device manufacturers to preinstall Google Mobile Services (GMS). This conduct was alleged to have prevented development of and access by rival mobile applications or services, and thus infringed section 4 of the Competition Act, 2002. The investigation is ongoing at the moment.
Microsoft v Slack EU
Slack Technologies, Inc has filed a competition complaint against Microsoft Corporation before the European Commission. Slack is contesting that Microsoft is abusing its dominance; violating the European Union Competition Law. According to Slack, Microsoft has tied its Teams Product (video conferencing app) with the Office suite; force installing it for users. Currently the complaint is being reviewed by the European Commission and contemplating to open a formal investigation into Microsoft.
Harshita Chawla v. WhatsApp and Facebook
In this case, the antitrust watchdog of India, has held that the integration of the UPI Payment system WhatsApp Pay with WhatsApp does not constitute ‘tying in’ as it lacks coercion. It was contended that WhatsApp being a dominant player in the market for smartphone-based OTT messaging service in India with a user base of 500 million. This integration will give WhatsApp an upper hand in the market of online payments, thus abusing its dominance by using its dominance in one market to enter another. Yet the Competition Commission of India held a contrary view. It accepted that WhatsApp and WhatsApp Pay are two separate products that are being offered together but the users did not have to mandatorily use WhatsApp Pay and they are free to use other platforms like Paytm and GPay that offer similar services. CCI dismissed this case as it did not constitute tying in the traditional sense and the critics have criticised this judgement because of the problematic stance of CCI on Tying in the digital market.
LawSikho has created a telegram group for exchanging legal knowledge, referrals and various opportunities. You can click on this link and join: