At first glance, the Microsoft breakup order last week looks like a throwback to an earlier era. At a time when big telecommunications, finance, entertainment and other new-economy industries are consolidating into a handful of post-industrial global giants--and when government is deregulating and privatizing almost everything in sight--here's Washington imposing the heaviest of heavy hands, slicing up the very icon of American technological prowess. Or maybe it's just another example of what I've been calling a new era of regulation by litigation; Microsoft joins cigarettes and guns as subject to court-imposed sanctions when the normal paths of legislation and regulatory-agency rule making are politically blocked.
But I think the Microsoft case can be better understood as a harbinger of a new kind of role for government in the emerging "new economy"--even if the company wins on appeal and escapes a breakup. Rather than regulating particular markets, government will be setting the contours of property rights as they apply to new ideas, and thus defining the new economy.
At the core of the case is Microsoft's ownership of its Windows operating system, a piece of software that's become the de facto standard by which much of the world's information technology is linked. Think of Windows as the pavement on the information highway. U.S. District Judge Thomas Penfield Jackson found nothing wrong with Microsoft owning the pavement. He didn't order that Windows be licensed free to all comers; Microsoft can continue charging a toll. But the court determined that Microsoft cannot limit highway access only to Microsoft cars, trucks and SUVs. To do so, said Jackson, would discourage innovation elsewhere in the economy.
By splitting Microsoft into a Windows "pavement" company, and another company making the software applications that will travel on the highway, the judge has set a boundary to Microsoft's property right in Windows. Ideally, the boundary will give the first company a strong incentive to continue improving Windows and the second one a strong interest in developing a lot of cool applications, while also creating more opportunities for other software developers to make a lot of money doing their own things. The hoped-for consequence: more innovation.
The government--wielding antitrust law--used to be concerned about a different problem: companies that got so big, or merged into such huge combinations, that they could raise their prices higher than they would if faced with real competition. The object of antitrust enforcement, in short, was to keep consumer prices as low as possible.
The Microsoft case isn't really about how much consumers pay for the technology they buy. After all, the prices of most hardware and software have been dropping for years. This case is about the pace of innovation.
Why the shift in the focus of antitrust? Because the economy is changing so quickly that mere size or dominance of a given market poses less of a problem than ownership of a system of inter-connectivity, such as Windows, that may discourage invention. The shift in antitrust is part of a larger shift in the role of government in response to the new economy. The old economy centered on large-scale production. Businesses prospered if they could make and sell more of a particular product, at a lower cost per unit, than their rivals. Large-scale production yielded efficiencies that, in turn, generally benefited consumers with low prices and spurred economic growth. But large-scale production also had some less salutary consequences--not just the possibility of monopoly power that artificially raised prices but also, occasionally, onerous working hours, unsafe working conditions and environmental pollution. Hence the major bone of contention between business and government in the 20th century: "command and control" regulations that prevent such excesses--regulations sometimes designed and enforced clumsily, whose costs to business rivaled or exceeded their benefits to the public.
Large-scale production is still with us, of course. Despite all the hoopla, the old economy remains significantly larger than the new. Most people continue to be engaged in making or delivering things that don't change much from year to year. And--no surprise--the government is still doing a lot of old-fashioned regulating, including traditional antitrust enforcement.
But the terms of competition are changing, and with them, the function of government. The new economy is centered on innovation rather than production scale. And the things that are being sold in the new economy aren't just tangible products or services but also new ideas--ways to accomplish certain objectives (communicate with friends, invest in the stock market, buy books, find the cheapest and most reliable supplier, write this very article) better, cheaper or faster. Don't think about a technology as a particular gadget. Think about it as an idea, a new and better way to solve the problem.
The key competitive question--on which the future of countless companies, as well as the speed and trajectory of the emerging economy depend--is who has the right to profit from a new idea and by how much? "Intellectual property" is the phrase most often used to describe this right, and it's usually encased in boring old terms like patents, copyrights and trademarks. But as technology increasingly drives competition, these old legalisms are taking on vibrant new lives. Billions of dollars are riding on who gains a patent or copyright to what, the definition of a trademark or trade name, and the exact boundaries of such rights.
The Microsoft case arose under antitrust law, but the intellectual property at issue--the thing of value whose ownership limits were being questioned--was Microsoft's copyright to its Windows operating system. How far did that right extend? Microsoft claimed it went very far indeed, all the way to requiring computer manufacturers that used Windows to include with it all sorts of Microsoft applications--Internet browsers, e-mail and so on. Judge Jackson disagreed. He decided that Microsoft had no property right in its bulked-up version of Windows. If it had, that would discourage the development of other intellectual property.
Here, precisely, is where government (in this case, a federal district court judge) is shaping the contours of the new economy. Boundaries around new intellectual property aren't like the boundaries in the old economy of bricks and mortar, producing tangible goods and services. In the new economy, edges and limits aren't well established. Often, they're not there at all. Should a private company be entitled to copyright the map of the human genome? How about a patent on a newly synthesized fragrance? On a new means of conducting an auction over the Internet?
Government has to answer these new questions in order for the market to function, and for businesses and individuals to be able to predict how their actions today may influence their futures. It's less a matter of a government "intrusion" into the marketplace, as Bill Gates scornfully described Jackson's order, than of government defining the rules of ownership and exchange where none exist. But the criteria for the new property--what's mine, what's yours, and what can be sold or licensed--can't be found in logic or analysis alone. Decisions will depend on the values society places on such things as innovation, tradition and privacy.
Ideally, Congress or state legislatures would set out the broad principles, leaving specific applications to agencies and courts. Yet so far, almost everything has been left to the courts. The number of patent-related lawsuits has exploded, from 800 in 1980 to more than 2,100 in 1997 (the last date for which such data are available). It will probably fall to the courts to map such uncharted intellectual property terrain as who owns the human genome and new forms of life. Already judges are struggling to decide delicate questions of property rights in embryos. And you can safely expect a torrent of lawsuits to codify a domain of personal privacy.
The final outcome of the Microsoft case won't be known until it works its way through the federal court system. But whatever the result, last week's decision marks a major step in the transformation of government from regulator of the old economy to definer of the new--an inevitable change, as the American economy moves from large-scale production of things to the continuous creation of new ideas.
Robert Reich, U.S. secretary of labor from 1993 to 1997, is University Professor of social and economic policy at Brandeis University, and national editor of the American Prospect.
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