Lina Khan Leads the Government's New Attempt to Break Up Facebook

The FTC's narrative is that Mark Zuckerberg isn't very good at developing technology, so he built a monopoly instead. Will that story lead to a break-up? And how long will a trial and appeal take?

Hi,

Welcome to BIG, a newsletter about the politics of monopoly. If you’d like to sign up, you can do so here. Or just read on…

Today’s issue about the Federal Trade Commission’s new case to break up Facebook, which it filed two weeks ago after the judge dismissed its first complaint in January. There are a number of significant political and legal differences between this case and the last one, but the biggest one is that this complaint was issued under new Chair Lina Khan. The Facebook case truly belongs to her.

Also:

• ShortageWatch: What broken McDonald's ice cream machines tell us about the economy.

• Lessons from Afghanistan: How defense contractors are trying to trick Congress, again.

• How you can help the antitrust enforcers at the Federal Trade Commission crack down on unfair practices in the economy.

• The U.S. railroad regulator sort of blocks a merger.

• Is there an electronic signature cartel?

After last week’s piece on McKinsey and Afghanistan, I got invited onto TheHill TV’s Rising to debate the withdrawal with former Pentagon Press Secretary Alyssa Farah. It got pretty heated. I’d like to say we disagreed without being disagreeable, but that wouldn’t be true. You can watch it here.

Also, I’ll be speaking on September 17th at 3:30pm ET at the Human Flourishing Program at Harvard University. You can find more info here.

And now…

FTC attorneys work on the Facebook complaint. Photo credit to the Associated Press.

Lina Khan Goes for Facebook’s Throat

The Biden administration has been aggressive rhetorically on monopoly power, issuing an executive order and appointing important thinkers like Tim Wu and Lina Khan to key posts. But so far, the moves, while significant, have been mostly bureaucratic jujitsu, modest stabs at private equity, or new policy that has not yet had time for enforcement. Last week, however, Biden’s Federal Trade Commission, led by Khan, lowered the boom and asked a judge to break up Facebook.

This is not the first time the FTC has asked for a break-up. It filed a request to take Facebook to court for antitrust violations last January, under Trump FTC Chair Joe Simons. The first complaint went through the anti-competitive acquisition of WhatsApp and Instagram, and then Facebook’s cutting off of competitors like Vine from its platform, alleging these were illegal attempts to maintain its monopoly. It had a bunch of fun quotes, what are known as ‘hot docs,' when executives illustrated obvious anti-competitive intent over email, like Zuckerberg writing in 2008 that “it is better to buy than compete,” or Sheryl Sandberg emailing Zuckerberg with the phrase “This makes me want instagram more” after receiving a report that Instagram was taking market share.

In June, however, the judge, Obama appointed James Boasberg, tossed the first complaint.

The point of a complaint is to get to trial, which means that the agency has to describe how Facebook broke the law. After filing a motion to dismiss, if the judge says ‘yeah that’s a plausible violation of law,’ there’s a trial. If not, the judge dismisses the complaint. Boasberg said that even if everything alleged by the FTC were true, nothing described was actually illegal. So the commission, he said, had to try again.

The new complaint is 80 pages, and is an attempt to answer the judge’s objections. The underlying legal claims are the same as they were the first time - Facebook engaged in predatory schemes and illegal mergers to maintain its monopoly. In this new complaint, the FTC answers the judge and shows more clearly where lawbreaking occurred.

But the FTC far beyond legal reformulations, and put Lina Khan’s stamp onto the case. The key shift is in tone. Take the press release announcing the complaint. Here’s the headline for the press release for the old complaint in January: FTC Sues Facebook for Illegal Monopolization.

That’s bureaucratic. Staid. It’s a memo-speak, a plain omelette.

Here’s the new press release headline: FTC Alleges Facebook Resorted to Illegal Buy-or-Bury Scheme to Crush Competition After String of Failed Attempts to Innovate.

The new tone is aggressive, confident, almost brash. The FTC enforcement staff is walking tall, snapping necks and cashing checks. The new commission wants to drive a Range Rover, bro.

The Case Turns Partisan

Politically, this complaint reveals the schism among conservatives, and the challenge that creates for Khan. Despite conservative rhetoric about big tech, the Republicans on the commission refused to support the complaint. The vote among the five commissioners at the Federal Trade Commission was 3-2, as both Republican Commissioners, Noah Phillips and Christine Wilson, voted against bringing it. Republican opposition is not a result of anything Khan did; when Trump’s FTC brought the case, that vote was also 3-2; Phillips and Wilson voted against that earlier complaint, and Trump’s Chair had to rely on the two Democrats to get a majority.

This vote, on something so charged for conservatives, shows how much political capital Phillips and Wilson are willing to use to both protect big tech and to make antitrust partisan. They are joined by key leaders on the Republican side, House Judiciary GOP lead Jim Jordan, Energy and Commerce Chair Cathy McMorris Rodgers, and Republican House Majority leader Kevin McCarthy.

Jordan, McMorris Rodgers, and McCarthy are a phalanx of Republican leaders who are working to protect dominant firms. A few months ago, these three released an agenda ostensibly designed to take on big tech; in reality it was designed to ward off more serious legislation to break up big tech. Their basic view, which they noted in press materials, was that “the laws currently on the books can and should be used to break up Big Tech.” It is a self-evidently silly position to assert that antitrust laws are capable of dealing with big tech when their own allies on the commission refuse to vote for such a case. But Jordan et al are hoping conservatives don’t notice that their own FTC members are actually protecting Facebook. (And so far, they haven’t.)

Conservatives did not let Jordan go entirely unscathed, with right-winger Mike Davis revealing the hollowness of this agenda in a widely circulated policy critique. Nevertheless, the pro-monopoly contingent of the GOP is gaining power; at the last committee hearing where Khan testified, one Republican member after another attacked Khan for making the FTC partisan, when in reality, the Republican Commissioners simply vote against bringing cases against dominant firms. The Republicans, torn on big tech, do not even support the antitrust case against Facebook originally brought by Trump’s FTC.

How the FTC Will Take Facebook to Trial

The hurdles to overcome in this complaint were not political, however, but legal. The judge dismissed the first complaint because he said that the FTC hadn’t shown any violation of law. Boasberg ruled the commission didn’t define the market that Facebook monopolized, which means it didn’t show Facebook was a monopoly. Boasberg also noted the conduct the FTC alleged as anti-competitive - foreclosing competitors from its services - was legal. Come back, he said, when you’ve figured out how antitrust law works.

This new complaint is an attempt to do just that by plugging up these two problems. The first and most important problem is market definition. Last month, the judge was clearly annoyed at the FTC for putting basically one data point on market power, that Facebook had 60% of the market, but not mentioning much beyond that. This new complaint had a wealth of Comscore information showing Facebook dominance in social networking, using metrics Daily Active Users (DAU), Monthly Active Users (MAU), and time spent by users on social networking. In terms of time spent on social networking, Facebook has had an 80% share since 2012, for daily users it has a 70% share since 2016, and for monthly users it’s 60% since 2012.

How do we know this is the right way to measure the market? Zuckerberg himself asked for these exact metrics when evaluating competitors. Moreover, DAU and MAU are critical data points that investors seek every quarter to gauge the health of Facebook’s business. The FTC also pointed out that competition enforcers in Germany, Australia, and the U.K. have determined Facebook has a monopoly using these metrics.

The complaint also mentioned Facebook’s rivals, and explained why YouTube and TikTok are not competitors, but Snapchat is - Facebook’s products are designed to connect you to friends, so TikTok can’t substitute for it, but Snapchat can. Beyond market share, there was direct evidence, not only high and persistent profits, but the inability of users or advertisers to abandon the platform after clear quality degradations. Despite anger over Cambridge Analytica and various scandals, for instance, no boycotts ever stick, because there are no substitute products.

Facebook has a ‘ratchet’ where its users invest so much in sharing photos and videos, and adding friends, that they can’t switch services. (This piece, “Our Cancer Support Group On Facebook Is Trapped,” in which a cancer support group can’t leave FB even though their data is constantly harvested and used for targeted ads, makes the point.)

So that’s how the FTC fixed the market definition issue. The other legal problem stems from the consumer welfare standard, which is the antitrust standard enabling all behavior that might be efficient to be legal. In this case, the judge said that Facebook was allowed to kick anyone it wanted off its own platform for virtually any reason. The Facebook Platform, the judge argued, and all that data it allowed partners to use, belongs to Facebook, and if it didn’t have control, it would have no incentive to invest in improving its own services. (For nerds, he read a case called Aspen Skiing very narrowly and interpreted what is called conditional dealing as per se legal). Boasberg did carve out a narrow exception, saying that if Facebook changed terms on an existing partner and did so in a way that harmed itself, then that could be illegal, because that would be inefficient. In other words, the FTC would have to show that Facebook sacrificed its own profits to kill competition.

The FTC showed just that, noting Zuckerberg constantly talked up the openness of its platform as an essential benefit to Facebook, with its Open Graph platform used to share a billion pieces of social data each day by April 2010. Facebook incurred this loss “to achieve a longer-term goal,” wrote the FTC, which was “extinguishing potential competitive threats and maintaining monopoly power.”

So that’s how the FTC took care of those legal problems. There’s a lot more in the complaint, spicy points like the commission pointing out that Facebook routinely lies, and new stories like Facebook buying firms like Octazen, Glancee, and EyeGroove merely to shut them down and deny their services to competitors. The FTC also hinted, though did not explicitly state, that the lack of competition reduced user choice when it comes to different content moderation models, and undermined the ability of advertisers to have options for brand-safe places to advertise.

The requests for remedies was basically the same as the original complaint, mainly (1) break up Facebook with a spinoff of Instagram and WhatsApp, (2) end the restrictions on competitors using the Facebook platform, and (3) block future mergers. More to the point, it looks like the FTC answered the judge’s concerns, and it’s hard to see how this won’t go to trial.

FTC: Zuckerberg Is Incompetent at Everything But Monopolization

Aside from legal shifts, the new complaint has a much stronger and more aggressive narrative, noting that all of these actions were part of a single scheme by Facebook to mask its internal failures at building out a good mobile business at the crucial pivot point when everyone bought smartphones.

This technological transition point from desktop to mobile was the key moment when new entrants could have - and were in fact - chipping away at Facebook’s then-desktop monopoly. After dominating on mobile photos, for instance, Instagram was planning to build out a full social network to compete with Facebook. Instead, Facebook leveraged its desktop monopoly into mobile dominance, not with better technology, but with predatory behavior. (Something similar happened with Google, which is why the first key antitrust suits against that firm hinged on Android and Google’s leveraging of desktop to mobile search.)

The new complaint reads like a magazine article, and it portrays Facebook as bad at developing technology. The FTC quoted one Facebook executive asking, “[W]hy is mobile photos app development moving so slowly? We still are getting our ass kicked by Instagram.”) Attacking Facebook’s basic competence is an important narrative choice, because it frames Facebook as fundamentally an illegitimate product of greed and sloth, instead of as the product of an engineering genius who went a bit too far. Zuckerberg built a monopoly because he couldn’t build good products.

Does Any of This Matter?

While it’s exciting to see Khan put forward this new punchier complaint, it has already been three years since the Cambridge Analytica scandal. Any trial won’t start for at least a year, maybe two, and then there will be a remedy phase, and appeals. So we’re looking at 2024/2025 until Facebook is split up, if all goes well. (And hostile judges will likely mean it won’t go well; the Second Circuit just denied an FTC appeal on its 1-800-Contacts case.)

That’s just not fast enough to deal with Facebook’s concentration of power. And it’s obvious that none of the executives there are chastened or even concerned. After all, just last week, news came out showing Facebook may create an Election Commission, and a super-app for banking. They just don’t believe there is any meaningful law to check them, and will not believe that until they are split up.

But this antitrust suit isn’t the only thing going on. A speedier approach in parallel with this antitrust suit would be rule-making by regulators around the world, including the Federal Trade Commission. In addition, we need Congress to revamp antitrust laws to make them workable. New York state’s possible abuse of dominance bill would actually do that, and with Andrew Cuomo resigning as Governor, the prospects for that legislation are looking up. Individual tech-specific bills, and Federal antitrust laws, will likely be an answer as well. And then of course there are handcuffs; the Sherman Act is a criminal statute, and the Justice Department could try to use some on Facebook or Google officials for ad price-fixing.

One major risk here is the Republican Party establishment. For a few years, populists made headway there; conservative legal titan Clarence Thomas came out against Google’s power, and Trump himself was able to bring antitrust suits against Google and Facebook (even though he was very good for big tech). But now, there’s a counter-attack, and libertarians like Jim Jordan, if they gain more power, will try to destroy the FTC as an institution in order to protect dominant firms, using culture war arguments as a shield. That battle, which is taking place on the right, continues.

In a sane world, the remarkable allegations in these complaints would be enough to have Zuckerberg put in jail and Facebook restructured. Instead, a fearful judge forced the FTC to do a bunch more homework before even being able to bring Facebook to trial. We do not have a coherent state that can govern in any meaningful way, and not just in America, but across the West. By contrast, the Chinese government made a decision to restructure its tech sector, and within two years, it has basically done that. That’s not because the Chinese government is authoritarian, but because Chinese leaders understand, as Americans and Europeans used to, what it means to have a state.

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ShortageWatch: What Broken McDonald's Ice Cream Machines Tell Us About the Economy If you like McDonald’s ice cream, then you will know how often McDonald’s ice cream machines are broken. Employees are endlessly frustrated at how the machines randomly turn off or don’t work, as are franchise operators, and customers. Ice cream machines break down so often that staff often don’t even bother to notify McDonald’s franchise owners, who would ordinarily call technicians to fix it. McDonald’s corporate makes jokes about it, tweeting “We have a joke about our soft serve machine but are worried it won’t work," McDonald’s tweeted last year.

These problems are not just a result of normal machine wear and tear, but market power. The problem with these machines is they are bad quality and overly complicated. They are also expensive, at $18,000 apiece with costly maintenance contracts.

The firm that sells and maintains these machines is the Taylor Company, which is part of a larger conglomerate Middleby. Middleby has rolled up the food equipment space with dozens of acquisitions, and is a supplier to McDonald’s, as well as nearly every single major chain restaurant, for all sorts of equipment. It may not be an exaggeration to note that Middleby is in partnership with nearly every major franchise.

Back in April, Andy Greenberg at Wired wrote an astonishing story about a couple who offered a product that fixed this problem. They invented a gadget, called a Kytch, that connects to Taylor ice cream machines, and sends out real-time email and text alerts that helped workers prevent damage before it occurred. Taylor machines had sent out warnings phrased incomprehensibly, like “ERROR: XSndhUIF LHPR>45F 1HR LPROD too VISC;” by contrast, the Kytch would text staff or owners with warnings in plain English, so workers could intervene before the Taylor machines broke.

One would think that this story is a market success - look, a problem, and then look, a solution where some hustling firm makes money solving it. In fact, McDonald’s and the Taylor Company came out swinging. Both claimed that the Kytch caused safety problems, and McDonald’s corporate threatened franchises who used it. Why? As it turns out, it’s because the franchises have to sign lucrative repair contracts with the Taylor company to fix their machines, and the Kytch was a threat to that revenue stream. It’s possible that McDonald’s corporate gets a cut of this repair money, which means that the franchisor has a vested interest in making sure that franchises use machines that break down a lot and are expensive to repair.

As our economy struggles with shortages and inflation, it’s important to keep this story in mind. After all, this is a textbook example of a shortage - people can’t get ice cream that they want to buy, no matter the price. But it’s not a shortage due to a lack of sugar, cream, ice, vanilla flavoring, or any of the other necessary inputs, but purely a result of over-engineered fragile bottleneck systems designed to fail because someone with market power makes money from that failure. It’s similar, in many ways, to the shortage of plastic bags for making vaccines, in that it is intentionally driven by a monopolist seeking to exploit market power.

Fortunately, the right to repair movement, a broad social movement based on the idea that people should be able to repair or tinker with what they buy, has made a lot of progress in pushing policymakers. And yesterday, the Wall Street Journal broke the news that Lina Khan’s Federal Trade Commission is investigating the situation as part of their new initiative on right to repair. That’s excellent news.

It’s hard to turn around a society as big as the United States, and it’s easy to define us by our problems. But the government is beginning to stir.

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How you can help the antitrust enforcers at the Federal Trade Commission crack down on unfair practices in the economy. A month ago, the FTC began collecting stories from the public, asking businesspeople to highlight the ways dominant corporations abuse their market power through unfair contract terms. If you have experienced navigating unfair contracts and are interested in sharing your story with the FTC, please fill out this FTC form by September 30. My think tank, through our Access to Markets initiative, has rolled out examples of possible one-sided contract terms to help you figure out if you are experiencing anticompetitive conduct, and to help you put a name to this experience. The FTC will use this information to help inform their enforcement and rule-making work.

Lessons from Afghanistan: How defense contractors are trying to trick Congress, again. A few years ago, Congressman Ro Khanna led a campaign against a private equity firm named Transdigm, which had discovered a business model designed to exploit a flaw in defense contracting regulations that Bill Clinton inserted. Transdigm is a roll-up of companies that sell after-market monopoly suppliers of aerospace parts needed for old air equipment. Because these firms usually are sole source providers, Transdigm can increase prices radically, as well as cut quality.

How radically? Well, according to the inspector general of the DOD, TransDigm routinely overcharged the Pentagon by as much as 4,000 percent.” The firm earned excessive profits “on nearly every spare part audited, selling a $1,700 cable assembly for $7,800, a $300 connector for $1,100, and a $650 motor rotor for $5,500.” Its gross profits in sales to the U.S. military are 54.5%, an extraordinarily healthy margin for any business.

Transdigm’s model is like Martin Shkreli’s approach to pharmaceuticals; Shkreli would buy a sole source producer of generic medication and jack up prices. When Transdigm was exposed, it was embarrassing. The firm’s CEO was dragged before the House Oversight Committee, and ultimately pledged to return $16 million of overcharges. But it didn’t matter, because the House didn’t follow through. Today, Transdigm continues to buy firms, and its stock price is near a record high.

Though profitable, Transdigm isn’t a particularly powerful firm, but a leech sucking blood from the U.S. taxpayer. So why hasn’t anyone cracked down? The answer is that the flaw Transdigm uses is exploited by far more powerful and connected firms, like Raytheon and Boeing. It’s called the commercial items exception, and to understand it requires explaining how contractors and Bill Clinton corrupted language itself.

During the Cold War, the Defense Department had immense power over suppliers. It could request cost information, as well as place price restrictions on what those firms could charge, where they could produce their products, and cap profits. The Pentagon even had the ability to reverse-engineer key parts and do its own production, and could repair its own equipment.

But in 1994 and then 1996, Bill Clinton’s administration, led by the immensely noxious contracting specialist Steve Kelman, not only encouraged a massive wave of consolidation among contractors, but changed the law so that the Pentagon couldn’t place restrictions on suppliers, as long as whatever they were selling was available on the commercial market. The logic was that perhaps for a nuclear submarine and specialized components, strict contracting rules make sense, but for, say, pencils, the DOD should be able to buy them off the shelf.

Naturally, this logic only made sense if the word ‘commercial item’ actually applied to items for sale to the public. But in fact, commercial meant anything that contractors could sneak by procurement officials, like military aircraft, classified electronics, rockets, or replacement parts by Transdigm. And this definition isn’t just about price, but also technical data rights and the ability to repair equipment. (Remember, the failure to be able to repair its own stuff is one reason the Afghan army fell apart so quickly, and is a routine problem for the U.S. military today in terms of readiness.)

Congress periodically tries to narrow the commercial items definition in the annual defense authorization bills. In 2013, Congress established a group inside the Defense Contract Management Agency to help procurement officers figure out whether an item should be commercial. Though not particularly aggressive, contractors see this group as a threat to their pricing power. The DCMA is sort of like antitrust enforcers a few years ago; not good, but occasionally useful in checking a monopolist.

Naturally, defense contractors are now trying to kill even that modest check on their power. A source passed on this lobbying document with proposed report language for the National Defense Authorization Act of 2022 that would remove weak oversight over sole source contractors - no pricing rules, no right to repair, nothing. The metadata shows the document was created by James Steggall of Collins Aerospace.

This provision punishes the DCMA by giving them a bunch of paperwork to do, hassling them to shut down the effort to curtail price gouging. As the West opens its eyes to what a disaster its military and diplomatic institutions have become, it’s time to reflect on the people who profited from these arrangements. What a capable fighting force looks like, dependence on Transdigm shouldn’t be part of that picture.

The U.S. railroad regulator sort of blocks a merger. I’m learning more about the Surface Transportation Board, which is the Federal railroad regulator that has largely been toothless and allowed enormous consolidation and price hikes in the space since the 1980s. Surprisingly, however, the STB just temporarily blocked Canadian National Railway attempted $30 billion acquisition of the Kansas City Southern, and is considering more assertive regulation to stop various forms of price gouging.

This change is part of the overall anti-monopoly shift among regulators. And it makes sense politically; shippers are super mad, paying billions more per year than they should be paying, if they can get shipping services at all.

Is there an electronic signature cartel?

From a reader.

Hi Matt,

One more idea of a market dominated by large companies that collude to keep the prices high: qualified electronic certificates for document signing.

Almost the same technology is used to issue SSL certificates for websites that would like to have encrypted communications between the main servers and their users. Every internet banking solution uses SSL certificates. In this area a certificate cost a few dozen to hundred dollars. Letsencrypt for example is making these certificates free.

For advanced or qualified electronic signature the same technology is used (with a small modification). These certificates are like the SSL ones fungible and 100% substitutable between providers. Yet on the document signature field, the certificates can reach from $7k to $120,000/year. The pricing is also quite hidden so that you have to go through the sales process. The companies practicing this are Entrust, Globalsign and most of the companies from (Adobe Approved Trust List https://helpx.adobe.com/acrobat/kb/approved-trust-list1.html ). Yes, this happens with Adobe's knowledge.

With the increased adoption of electronic signatures in the EU, there are a few European companies that brought their pricing down and made it more accessible, so a few options start to emerge. For the US, UK and Canada the cartel practice seems to be undisturbed.

Best,

Victor

I don’t understand this market. If you do, send me more info.

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Thanks for reading. Send me tips on weird monopolies, stories I’ve missed, or comments by clicking on the title of this newsletter. And if you liked this issue of BIG, you can sign up here for more issues of BIG, a newsletter on how to restore fair commerce, innovation and democracy. If you really liked it, read my book, Goliath: The 100-Year War Between Monopoly Power and Democracy.

cheers,

Matt Stoller

P.S. A little birdie told me that the mayor-elect of New York city, Eric Adams, has hired the Boston Consulting Group to run his transition on technology issues. Blech.

Speaking of the joy of management consulting, here’s one reader’s experience with McKinsey. If you’ve had run-in’s with the Bob’s, send me your story.

“The McKinzoid sense of humor is stunted. Once, in one of a series of feckless, stultifying meetings organized by McK consultants - deck chair rearrangements in a sinking biz jet development program - I told this light bulb joke during a break: How many surrealists does it take to change a light bulb? Answer: a fish.

The youngest McKinzoid, a massively earnest recent college grad, looked puzzled, thought for 500 milliseconds, and then she announced: “That’s not funny. It doesn’t make any sense!”