Daily Wrap and Flow

January 23, 1999 - Saturday

3:15 PM PST - How much does Mr. Maritz say Microsoft charges for IE?

Apparently Mr. Maritz is afraid of telling the truth in this matter.

I see comments about not charging separately for IE.  Well, in the Office suite, Microsoft Word does not have a separate price either.  But, Microsoft does sell Word separately because Word responds to a separate market demand just as a browser would and has save for Microsoft's illegal acts in forcing all consumers to buy IE.

I see comments suggesting that a free product might make sense.  But, spending half a billion dollars on R&D and then giving it away for free really does require some explanation (like it effectively removes a potential competitor from the market).  Removing a competitor like Netscape makes a whole lot more sense than what Mr. Maritz is suggesting here.  Is Mr. Maritz suggesting that giving away IE would make sense if that act did not preclude Netscape from earning substantial revenues by selling Navigator?  Does he really think that anyone is going to believe his claim here?

Is there something fundamentally flawed with the idea of selling IE competitively?  Does Mr. Maritz not believe in the free enterprise system where companies develop products in competition with each other and price their products so that consumers can pick and choose the products they deem to be most appropriate for their needs?  Is this idea foreign to Mr. Maritz?

For some reason, it is absolutely necessary that all Microsoft customers be forced to buy IE, install IE, maintain IE and in fact use IE.  For some reason, this must be the case.  Mr. Maritz's testimony does not identify what that reason is.  Nor does Mr. Maritz testimony explain how Microsoft can act to make certain that that result happens in fact.

Maybe his cross examination will bring out  why it is that all consumers must buy and use IE and which steps Microsoft will and has engaged in to make certain that that is the result in the consumer market.  His direct testimony skips any discussion of why that should be the case or how the result can be guaranteed for Microsoft.

Let's hear the strategic and tactical thinking involved here.  Let's hear why Microsoft would spend enormous moneys on IE and then claim to give it away.  A real good explanation is called for here.  If Mr. Maritz were applying for a job, he could do much better, right?  After all, he is a smart guy, right?  He can figure this out.
 

12:05 PM PST - Brief reply to Direct Testimony offered by Paul Maritz

This commentary is written primarily in response to the summary of his testimony.  His full direct testimony is also available.

Mr. Maritz first states that rapid innovation and strong competition exists in the computer industry.

This may be true for the industry as a whole.  However, for the purposes of this case, only the competition in the consumer OS market is really relevant.  In the consumer Os marketplace (the market in which Microsoft is alleged to have and abuse its monopoly), little or no practical competition exists. Yes you have OS/2, BeOS, Apple and even Linux.  But, all of those products combined offer very little real competition to Windows.  And, in fact, their inability to gain but a very small percentage of the consumer OS marketplace is proof that entry into the consumer Os marketplace is extremely tough and difficult.  Mr. Schmalensee in his direct testimony tried very hard to suggest that anyone could write an OS for this market and become instantly successful, but no one has been convinced by his false testimony to that point.

Mr. Maritz states that Windows faces intense competition from many sources.

It may be true that as Microsoft wants to compete with Unix and other systems in the enterprise market that some serious competition does exists.  But, so what?  Such observations do not justify Microsoft forcing consumers to buy IE.  Those consumers do not have the choice of running Unix instead of windows on their personal computers.  Just because Unix is available for enterprise applications does nothing to lesson the monopoly power that Microsoft can wield over consumers.

Microsoft likes to fabricate ghost stories about imaginary competition in its effort to force its raw power over consumers.  Consumers know which choices they have available to them and which ones they can not pick.  Mr. Maritz does too.  Mr. Maritz knows that consumers can not avoid the raw monopoly power of Microsoft to force them to buy IE.

Mr. Maritz does claim that Windows competes with so-called "middlewear" such as browsers and Java.  Well, I suppose it does, but neither the browser nor Java displaces an operating system.  Indeed, all consumers must buy an operating system for their computers whether or not they utilize a middlewear product.  Microsoft thinks its monopoly power in the consumer OS market is of such strength that it can preclude competition right now in the middlewear product area.  Their false claim not to have monopoly power is beyond acceptability.  It is illogical, bogus and disingenuous.  As they stand in court and say those words, it is just false testimony.  It is testimony that they themselves do not believe at all.  Their very acts prove the contrary.

The problem here is that Microsoft claims as its right the ability to bundle any other product it might choose to preclude any competitor it might choose.  It has already done this in the past with networking products, disc compression, numerous utilities and games and a GUI.  It claims to itself this right just by uttering the words that any application or program can be integrated into the OS and therefore competing technologies can be eliminated.  Microsoft's monopoly power can all be guarantee them this ability.  Intuit is on the bubble.  Real Networks is on the bubble.  The bubble for Stac and Lantastic has already popped.  Who is next?  This case is about browsers being eliminated as a product category simply as a result of the application of monopoly power.  The value of Java, being a cross platform solution, is being seriously harmed directly by Microsoft.  Microsoft continues to try to fragment Java so that its value as a cross-platform solutions is minimized.

Does Microsoft face competition from the industry.  The answer is that it does.  But, not in the consumer OS market place.  And, the antitrust laws are designed to prevent a company having monopoly power in one market from using that power to preclude competition in that market or gain a monopoly position in another market.

Microsoft is doing precisely what the antitrust laws are designed to prevent.  Those laws do not prevent Microsoft from entering the cross-platform market with their own technology.  Those laws do not prevent Microsoft from entering the browser market with an application and competing fairly in that market.  They only prevent Microsoft from using its raw monopoly power in the consumer OS market from precluding competition.
 

Mr. Maritz claims IE is a free product due to the competitive nature of the industry.

Well.  Maybe the cross examination of Mr. Maritz will draw out the difference between a "free" product and a product for which the price is not separately listed.  There is a very big difference.  Microsoft in its effort to avoid consumers complaining about buying an unwanted application has promoted IE as being "free".  However, Microsoft has already claimed to be charging OEMs more for Windows as features are added.  That concept is not a free concept at all.  That is simply charging more as additional products are included in the box.  Mr. Maritz even admits that Microsoft over time has always had a program in affect to constantly add products and functionality to the OS.  He mentions the GUI.  Networking also applies.  So does disc compression.  Defragmentation, etc.  Each time utilities and games are added to the box, the price for Windows goes up.  Or, at least it is not permitted to fall, which is really the same thing.

But, Mr. Maritz has failed to show much less prove that IE is free.  Remember my article on "How much Microsoft is charging for IE?"?  Well, when Microsoft does not price IE separately, that does not even suggest that the price of Windows does not include a figure to cover IE.  In fact, Microsoft's own financial reports required of the SEC clearly state that 20% of all OS revenue is attributed to so called "unearned revenue" which they claim includes IE.  They do not mention the Solitaire Game nor notepad.  They mention IE.

So. Mr. Maritz is testifying falsely when he claims IE is a free product.  It is not.  It is only a bundled product that all consumers are forced to buy.  Microsoft has even forced Apple to sell IE and stop selling Navigator.

Mr. Maritz's claim that IE is free due to competition is false.  It is not even a free product.  It is only a bundled product and it increases the cost of Windows.

Mr. Maritz claims that Microsoft's vision and work on Windows has provided great value and benefits.

So what?  Is this supposed to mean that Microsoft does not need to abide by the law?  Does he really suggest that if a company can show benefits to consumers at one time, that they should be exempt from abiding  by antitrust laws?  It does not matter if Microsoft is a non-profit corporation or a charity.

Maybe there is some hall of fame or museum that Microsoft should be permitted to put up a display.  But, this testimony is just not relevant to the case before the judge.

Mr. Maritz falsely claims that Apple picked IE because of technical reasons.

I guess Mr. Maritz knows better than Dr Tevanian about why Apple picked IE.  Mr. Maritz correctly points out how important Microsoft software is for the Apple platform.   Certainly, even a little bit of a delay in Microsoft applications being ready to market could cause enormous harm to Apple.  Anyone in the industry can see that.

The question is "What did Apple have to gain by switching from Netscape to IE?".  Mr. Tevanian said the technical differences were just not there.  Of course, as an possible defense in this antitrust case, Microsoft claims that the only reason anyone picks IE is due to IE being a technically superior product.  Why?  Because a free product could be considered predatory.  And, almost any other business reason (such as that suggested by the Apple situation in Microsoft slowing up development of applications for Apple) would be evidence of Microsoft using its monopoly power to remove Netscape from the industry.  (Not from the OS market.  Netscape does not have an Os to sell.  Never did.  But, from the entire industry.  Which since the merger, it has been essentially removed.)

Apple got nothing from Microsoft during this deal.  Yes. Microsoft invested in Apple.  But, Microsoft got shares for that investment.  That is an even deal, not a legal settlement.  At best, Apple did not have to incur the harm that would result had Microsoft delayed product development for the Apple platform.  But, the lack of a delay was simply the removal of the club from the head of Apple.

What did Microsoft get?  Microsoft removed Apple as a prime customer for Netscape.  Pure monopoly power play.  Pure play on the power that Microsoft has even over the applications for the Apple platform.

No one in the industry can possibly think that Apple had a choice in this regard.  Apple had to go with IE regardless of its merit.

(Might IE have merit?  I would hope so.  Anyone in the industry can easily understand that if they have a half billion dollar R&d budget and a guaranteed market for millions in sales, then a quality product could certainly expect to be developed.)

Of course Mr. Maritz, or at least someone at Microsoft, thinks that Microsoft can use all of its muscle to force the sale of IE, force an upcoming market for browsers to disappear and then stand up in a court of law and argue that the competition only lost because they did not develop as good a product as Microsoft has.  Perhaps Mr. Maritz can claim in court that if he worked for Netscape, he would approve the expenditure of half a billion in R&D when there was no market for such a product.  None. Do you think he may make such a claim?  Or, do you think he would only do so if his company has monopoly power and can force the sale of the product?
 
 
 
 

January 22, 1999 - Friday

5:30 PM PST - Direct Testimony from Paul Maritz, Group Vice President for Platforms and Applications,  released

I will be looking at this direct testimony and reporting on it.  I only hope that his testimony is more logical than that of Mr. Schmalensee.

4:10 PM PST -  I guess consumers should just shut up and get out their credit cards.

q.   And first without reference to the exhibit, answer the question whether based on your knowledge of the facts in this case, is it your opinion that integration of IE technologies into windows has been anticompetitive?

a.   No, it has not been.  It has provided consumers with functionality directly with the ability to browse.  It has augmented the attractiveness of Windows as a platform to consumers.

      It has provided ISV's--this is an important factor--it has provided ISV's with the ability to write internet-related applications easily by using the functions provided in a componentized fashion by Internet Explorer. So, consumers have been offered a choice, an additional browser that they may or may not use, and ISV's have been offered a set of capabilities that the Windows platform did not previously contain.

Huh?  How does this answer even relate to the question of procompetitive or anticompetitive activity?

All consumers are forced to buy IE and all this economist can think of are the benefits of using the program?  Or the benefits which allude to ISVs being subsidized by consumers being forced to buy IE?

His answer does not respond to the question.  The benefits obtainable from IE can all be realized without bundling IE into the OS.  The question asked related to whether the combination of products (bundle or integrated) is pro or anti competitive.

An economist needs to be able to ascertain if the consumer being forced to take IE is harmed because competition is precluded by the combination of products.  Combining products always does two things:  1) raises the cost of the combined product and 2) limits choice.

This witness ignores the economic question asked and runs off on an advertisement for a Microsoft product.

I would bet this witness would respond the same way if all consumers were forced to buy the entire product line from Microsoft without choice on their part.
 
 

3:25 PM PST -  The only "red herring" is being offered by Microsoft's economic witness

q.   Dean Schmalensee, I would like now to move on to a completely different topic and ask you this question:  Do you believe that the question of whether Microsoft has monopoly power in something called the PC Operating System Market is an important economic issue for the case that the plaintiffs have filed and as to which their economists have given expert testimony in this court?

a.   No, sir.  As I stated in my filed direct testimony, this issue is largely a red herring.  It is relevant to only part of what has been alleged.  For most of the case, the issue of monopoly power in a PC Operating system market is simply not relevant.

q.   And would you explain broadly why it is not relevant to most of the claims asserted in the case, as you understand it.

a.   The core allegations, as I understand them, are that Microsoft attempted to cripple Netscape or Netscape and Java as potential or actual platform competitors by its product design decisions by including Internet Explorer into Windows, by its--by foreclosing or Netscape from distribution or raising Netscape's distribution costs and by its pricing practices.  This has to do--at the core, has to do with Microsoft's ability to affect distribution of the product, not Microsoft's ability to price operating system software.

Well.  The witness here goes off on his canned corn analogy which is way off base.  If the guy building the supermarkets required all shoppers to buy 6 cans of his private brand of canned corn, then that monopoly would seriously affect the distribution of canned corn by competitors.  When Microsoft forces all consumers to buy IE using their monopoly power, the ability of anyone to sell a browser is all but eliminated.  This economist then goes into tooth paste but again not using a correct analogy.  All consumers are in fact forced to buy IE, install it, maintain it and in some cases actually use it.  If all supermarkets forced all consumers to buy a tube of tooth paste each time they shopped, then distribution of a competing brand would in fact be seriously affected.  Apparently Mr. Schmalensee can not see the obvious.  Microsoft has ruined the market for browsers.  For this economist to suggest that Netscape can still give their's away is a bogus defense.

The red herring offered by Mr. Schmalensee is the story about price controls or the lack of Microsoft charging a maximum price.  Not charging a higher price proves little or nothing.  Even Bill Gates suggests that market share in the browser market was of utmost importance.  He did not even mention selling IE for money in that context.

The issue in this case is whether Microsoft used its monopoly power to preclude competition.  It is true that the DOJ must first show that Microsoft has monopoly power.  But, that can be shown many ways.  Controlling price is one way.  Being able to bundle unwanted applications and forcing all consumers to buy them is another.  Proof such as that from the IBM witness that entry into the OS market is almost impossible is another.  Once monopoly power is shown to exist, then the conduct by Microsoft becomes an issue.  Then the question is whether Microsoft used that power to preclude competition.  For Mr. Schmalensee to suggest that monopoly power is a red herring is incorrect.  It is a primary burden on the part of the DOJ.  His suggestion that a high price must be proven to show that is false.  His suggestion that Microsoft does not have a monopoly because its price is low is also bogus.  The ability of Microsoft to force AOL, Intuit and Apple to discontinue doing business with Netscape via the exercise of their raw monopoly power is very strong evidence of monopoly power.  These companies are in fear of not doing as Microsoft says.
 

2:10 PM PST - Lack of barriers in one market do not necessarily apply to another market where barriers may very well exist.

Testimony, Jan 21 AM:

 q.  If there were a true applications barrier to entry into the operating-system business, do you have an opinion as to whether Netscape or Sun could succeed in competing in that business?

a.  Well, Mr. Urowsky, if there is an applications program barrier to entry, it applies to platforms, not just to operating systems.  It has to do with the need for any entity -- whether an operating system, or a platform, or middlewear -- that aspires to be a platform to attract ISV's.

      If Netscape had offered a set of API's -- had been or become a platform, it would have needed to attract ISV's to write for it in order to compete with Windows.  If  plaintiffs are right, an attempt to do that would have been futile and Microsoft need not have been concerned.  similarly, if Java is to realize its potential -- its cross-platform potential -- it needs to attract ISV's to write cross-platform applications -- to write in pure Java.

     If plaintiffs are correct and ISV's write only to the most popular platform, or primarily, or first to the most popular platform, Sun's attempt to persuade ISV's to write pure Java applications would be futile and Microsoft need not worry about Java and need not worry about Netscape.

Well, the facts are that Netscape has not in fact offered API's for the purpose of attracting ISVs.   This witness is saying that if Netscape did offer (and it did not) then that would be proof of the absence of barriers.  So, I guess the fact that they have not done so is proof of the vary barriers Mr. Schmalensee claims do not exist?

The other observation you have to make here is that both Netscape and Sun were focused upon cross-platform solutions.  This is a different market than a single platform one.  Clearly since Microsoft does not offer any cross platform solution, Microsoft does not present any barrier to the entry of cross platform solutions.  But, the ability to offer cross platform solutions does not prove that barriers do not exist in the consumer OS marketplace.  In that marketplace, ISVs are committed and entrenched.  In that market, significant barriers do exist.

It may be true that Microsoft considers cross platform solutions as offering competition but that does nothing to reduce the barriers to entry in the consumer OS marketplace.  In time, cross platform solutions may reduce the barriers to entry for an OS but the fact that the cross platform concept can attract ISVs does not prove barriers do not exist for the OS marketplace.

However, the vary fact that other technologies can in the future compete does place additional weight upon the necessity to enforce antitrust laws and prevent companies such as Microsoft from using the power it does have to preclude competition.  Nor does the possible competition from cross platform solutions excuse the acts of Microsoft designed to preclude such competition.  Microsoft is free to offer its own cross-platform solution if it wants to.  But, it can not use its power in the consumer OS market to preclude other companies from offering such technology.  This is precisely what it is trying to do.

Besides, Microsoft does not have the right to have a market which maintains high barriers to entry.  If cross platform technologies reduces those barriers over time, competition would be increased and that benefits all.  But, right now, barriers to entry are enormous.  Entry into another marketplace (cross platform) does nothing to reduce barriers in the consumer OS marketplace.  Corporations might benefit from cross-platform solutions but individual consumers are less likely to so benefit.  The consumer OS market is likely to be unaffected by cross platform solutions.  The consumer market is quite different than the enterprise market.
 

 q.  A final question on this subject.  Is Microsoft's level of pricing relevant to your analysis of whether there is an applications barrier to entry into the platform arena or into the operating-system business?

a.  If Microsoft were not concerned about entry, it would not price as it does.

The paranoia that Microsoft might have and how that affects pricing is just not relevant.  The presence of paranoia does not disprove a monopoly nor does it justify any act of which Microsoft is accused of engaging in.  Any act that Microsoft might engage in is very poor evidence that barriers to entry are low.  If Microsoft can find a single CEO in the computer software industry that will testify how easy it is to enter the consumer OS market and compete with Microsoft, they are more than welcome to call that person as a witness.  This is one situation where the absence of testimony is significant.  Of course, Mr. Schmalensee would suggest just the opposite.  He suggested that since he has not seen an empirical study on this point, no barriers must exist despite direct testimony to the contrary.

1:42 PM PST -  Mr. Schmalensee based his conclusion on the absence of evidence?

Testimony, Jan 21, AM:

q.  Now, using the definition you've just presented and in light of the explanation you've just given, would you explain why you believe that there are no -- that there is no applications barrier to entry into the P.C. Operating business?

a.  Because I have seen no evidence that suggests that applications -- excuse me -- that operating systems that are attractive have difficulty attracting ISV's.  Clearly an operating system that doesn't offer anything to ISV's or doesn't offer anything to end users won't attract people. The question is, is a more efficient entrant, somebody with a better product or somebody that might displace a leader -- are they unable to attract ISV's.  And I have seen nothing that suggests that.  In fact, there's evidence in my testimony that even an operating system with a relatively small base like Linux has attracted not only numerous ISV's, but large ISV's, based on its potential. So, yes, there is a cost.  No, nothing I have seen  suggests that cost is a barrier.

This is a typical example of how illogical Mr. Schmalensee's testimony is.  When he says he has seen no evidence regarding barriers to entry, I guess he forgot to read the testimony from John Soyring of IBM.  Did not Mr. Soyring not explain in rather plain English how difficult it was to compete with Microsoft despite that fact that OS/2 was a quality product?  Many have argued that OS/2 was even superior to any Microsoft product.  I guess this witness thinks that in the absence of an empirical study on this issue the opposite is true despite live testimony?

Does this witness really think that the ability of Be, Linux, Os/2 and the Mac to have some degree of success proves that practical barriers to entry into the consumer OS market are not enormous?

This witness is ignoring testimony presented in this case.  Mr. Fisher clearly pointed out that forcing IE upon all consumers not only precluded a potential competitor but also increased the barriers to entry for this market.  Can Mr. Schmalensee be so blind?  Cost no barrier?  How much has Microsoft spent developing IE?  Half a billion, right.  And how much do that spend yearly subsidizing ISVs?  A hundred million or so was the testimony as I recall.

And, this witness claims not to see any evidence that cost is a barrier to entry or that no barriers to entry exist?  I guess one could conclude that blind people do not make very good eye witnesses.
 

1:00 PM PST -  But, Microsoft is not being charged with over-pricing consumers

q.  Can you summarize in a couple of sentences your conclusion as to why Microsoft charges such a low price?

a.  Because -- yes, I can.  Microsoft is concerned, as any rational business, with its stream of profits over time.  And Microsoft must believe that holding today's price for Windows substantially below what might maximize today's profits is in its long-run interest.

    I don't believe this is done for charitable reasons.  I believe it is done -- and all the evidence I've seen is consistent with its being done -- primarily because Microsoft is concerned with, as it has been concerned with, the possibility of its being displaced as a leading platform.

    In addition, as his honor suggests, it's probably concerned with the fact that computation may be, to some extent, habit-forming, although, obviously the extent of that varies among individuals, but that's another instance of dynamics as Microsoft tries to expand the use of its platform today, in the expectation that that will put it in a better position tomorrow, as well as, of course, benefiting consumers today.

Gone is the claim that Microsoft is not a monopoly?  Also missing is any reference at all to competition in the consumer OS marketplace even though Apple could rightly be considered as possible short-run competition?

q.  And do you regard the circumstances you've just described, as an economist, as constraints on Microsoft's pricing?

a.  Oh, absolutely.  Microsoft's pricing is clearly constrained by elements left out of the simple, static, traditional market share analysis. This analysis demonstrates that there are appreciable constraints -- significant constraints on Microsoft's pricing today, and the evidence I've seen indicates that the main source of those is what we've been calling dynamic competition.

Is "dynamic competition" another word for ghost competition?  I do not think anyone is claiming that in the long run no competition could surface.  But, Microsoft's specific acts in bundling IE and sabotaging Java certainly reduce that possibility.

Microsoft is not being charged with over pricing for products.  They are being charged with using their monopoly power to preclude competition.  This answer (one that I do not necessarily disagree with) does not address the allegation made by the DOJ in this case.  However, this answer does disprove the suggestion by this witness that a low price is evidence of the lack of monopoly power.

However, if Microsoft really wanted to benefit consumers, they would not force the sale of IE upon everyone.  IE might be a nice product, but no product has such merit as to justify forcing everyone to buy it.  And no part of any product (APIs) has such merit as to justify forcing all consumers to purchase it so that ISVs can be subsidized and their cost of operation lowered when they write exclusively to the Windows platform.  Microsoft is acting to both preclude competition and further increase barriers to entry for future competitors.  No other conclusion can be reached in this case.

12:30 PM PST -  No one is suggesting that Microsoft has an "iron-clad" lock on the OS market.

q.  Professor Schmalensee, as a matter of common sense, does it make any sense to think of operating-system products or other software products as commanding prices in the multi-hundreds of dollars or thousands of dollars?

a.  Well, if you look in a catalog, you will see some that do.  This is not a novel notion.  My NERA colleagues pointed out to me this morning over coffee that the statistical system -- statistical package that they use on P.C.'s cost them $965.  Thumbing through a catalog of software products this morning, I found several that were in the vicinity of a thousand dollars.

    What I think isn't common-sensical is the notion that a firm that has an iron-clad lock on a very, very important software category, the operating system, only takes as its markup -- as its monopoly margin -- $50, or thereabouts, on computer systems costing in the thousands.  It wasn't many years ago when there was the rule that the computer system you really want costs $5,000.  Now it's probably closer to 3,000.  But the latest issue of Newsweek -- Newsweek's latest computer edition shows a Power Macintosh for $3800.  It's hard to spend that much on a Windows machine.  You could charge two or three hundred dollars for Windows, and it would make a small percentage difference in the system price.

    I think it's very common-sensical that a monopolist of the kind described here could charge many hundreds of dollars for Windows.  And it strikes me as  absolutely at odds with common sense that such a monopolist would settle for $50 a computer system.

As has been pointed out, the lack of Microsoft charging the highest price does not disprove monopoly power.  Bundling IE with the OS does provide evidence of that power.  Forcing all consumers to buy IE is very clear evidence of raw market power or monopoly power.  This is particularly so if you allocate a percentage of the Windows cost to consumers for IE.  Even the idea that Microsoft could invest half a billion in R&D for IE and then claim to give it away is a clear indication of their understanding of their ability to earn back that investment over time.

Mr. Schmalensee continues to attempt to prove a negative (Microsoft does not have monopoly power) with a single observation (a less than maximum price for Windows).  Economically speaking, this is baseless.  Even comments from Bill Gates disputes this assertion.

The fact that Microsoft might charge a $50 wholesale price for Windows does not disprove monopoly power.

What this answer also brings out is that many application packages for users do cost into the hundreds.  So, if one is going to argue that switching the OS is easy to do and costs little, a much more detailed evaluation is going to be required.  Remember, this witness has also testified that thousands of applications mean nothing about the difficulty in competitors entering the consumer OS market.  Yet I doubt that the $965 program used by NERA is available on any other platform.  It might be.  But, this is the same research group that is suggesting that just about anyone can compete with Windows overnight.  I think they themselves would have hard time showing that they could even switch to another platform.  Maybe NERA should provide evidence of just how many of those thousands of applications are available for the Mac, Os/2, Linux or even Unix.  And, how much they cost on those other platforms if available.

NERA and Mr. Schmalensee are suggesting that competition exists and barriers to entry are not a factor.  Perhaps they could present some proof of that rather than just false conclusions.
 

12:01 PM PST - The difference between short run and long run monopoly power

Transcript, Jan 21 AM:

q.  Dean schmalensee, would you describe what defense exhibit 2284 shows?

a.  2284 illustrates graphically the analysis that I sketched at the easel and it shows the -- particularly the short-run profit consequences of a price of $50 versus a price of $2,000.  Obviously, at a price of $2,000, the volume of sales is considerably lower here, but the profit is almost ten times as high. It's the magnitude of the difference here that is so striking -- 27 or 28 billion dollars of annual profit flow.  Again, variations on the  assumptions give a range of numbers, but they are always dramatically different, and this illustrates that graphically.

q.  And, again, what consequences flow, in your opinion, from the magnitude of the difference?

a.  That the dynamic effects omitted from plaintiffs' economists' description of this business must be very important. And, in fact, to finish the thought, they have the effect of significantly constraining current pricing -- pricing today.

What is being observed here is the difference between short run and long run power.  It may seem strange to suggest that a price of $2000 per copy of windows could "stick" today.  Well.  It is not quite so absurd as you might first think.  In my articles on the bubblegum deal and the jawbreaker deal, I tried to suggest to the reader that they evaluate how much it would cost to switch to another OS.  The idea is that if the switch costs more than the bubblegum, you would just buy the candy. You have to keep in mind that many applications that you currently use may not be available on another platform.  (Remember Mr. Schmalensee's testimony that the number of applications for window was somehow just not relevant?  Well.  It is highly relevant.)

If Microsoft did charge $2000 what would you do?  Could you switch to the Mac, OS/2 or Linux overnight?  If you did would you also switch all of your existing systems too?  Which applications could you move over to the new platform?  None?  All of them?  Will employees require retraining?  How much down time is there going to be?  Are you going to begin to support yet another platform and OS?  If you currently have 2000 PCs, are you going to buy 20 more and run a different system on them?

You see the difference between the short run and the long run is very significant.  This is why some economists suggest that in the long run no monopoly exists.  Well, in the long run, that may be true.  In the long run, Microsoft could not charge $2000 for a copy of Windows.  But, tomorrow you might be forced to pay that price simply because the alternatives available to you in the short run cost more than $2000 per system.  Hint: If the long run was the only time frame that counted, all antitrust laws and laws against unfair competition would be meaningless and of no relevance.

This is the real reason why a monopolist would not charge the highest price possible, accept a lower price today and use its raw monopoly power to simply preclude possible future competitors.  Microsoft bundling IE with the OS and not charging a very high price is highly logical activity for a monopolist to engage in.

This is why Mr. Schmalensee's testimony that a lower than maximum price disproves monopoly power is false.  This is also why it might make sense for Microsoft to give away IE, if in fact they are not charging for it.  I know they claim they give it away.  But, their own information contradicts that conclusion.  (see detailed discussion earlier)
 

11:00 AM PST - Even Bill Gates disproves Mr. Schmalensee's assumptions

Transcript, Jan 21 AM:

The court:  Why must you always assume that the monopolist maximizes the price?  Is that a technical definition?

A:  No, your honor.

The court:  It seems to me that you can think of reasons why a monopolist would not maximize the price in quest of a larger glory at some later time.

Heck.  Even Bill Gates (you know, the guy who claims not to understand much in this case) has been given credit for acknowledging that browser share was a very important goal.  In that statement, Bill Gates invalidates Mr. Schmalensee's conclusion that absence a showing of Microsoft charging a maximum price, Microsoft does not have a monopoly.  There are many non-price objectives that can in fact be achieved via the exercise of monopoly power that are very difficult to achieve in the absence of that power.  Charging a high price can show monopoly power.  But, the converse is not true.  The absence of a high price proves nothing.

Gosh.  Maybe Bill Gates thought that increasing barriers to entry and eliminating a potential competitor was much more important than a few more dollars in the short run?

10:35 AM PST -  Microsoft lawyers toss a few soft balls to Mr. Schmalensee

It is true that the re-direct of any witness is intended to reestablish any creditability that might have been lost during cross-examination.  For that reason you can assume that any questions that Microsoft might ask of Mr. Schmalensee are going to be rather self serving.  However, you can still draw a number of conclusions from reading this testimony.

Transcript, Jan 21 AM:

q.  Let's return for a moment to the question of monopoly power and let me ask you this question as straightforwardly as I can.  Do you have an opinion as to whether Microsoft has monopoly power over P.C. operating systems?

a.  Yes.  And my view is that it does not.

q.  And would you explain for the court the basis for that opinion?

a.  In broad terms, the basis is Microsoft's behavior. Monopolists restrict output and charge very high prices. They may improve the quality of their product, but one rarely sees a monopolist engaged in the sort of relentless innovation that Microsoft has done. Microsoft has charged low prices.  It's expanded output and it's improved the quality of its products dramatically over time. In particular, its pricing behavior is plainly inconsistent with monopoly power as alleged.

It is false to paint all monopolists as restrictors of output and chargers of the highest price.  It is absurd for an economist to suggest that any company (monopolist or not) is going to try to restrict output in a rapidly expanding marketplace.  It is also absurd for an economist to suggest that the highest possible price would always be charged.  It is also absurd for an economist to suggest that if one or both of these acts are not present that a monopoly has been disproved.  While Mr. Schmalensee's direct testimony downplays the impact of the "network effect", "tipping", "a large number of readily available applications for the OS", and a complex technological product, etc., in establishing and maintaining rather enormously high barriers to entry, the act by Microsoft in constantly adding to its technology does in fact increase the barriers to entry and thus is a natural activity to expect a monopolist to engage in.  Any monopolist would in fact engage in activities which serve to create additional barriers to entry by competitors.  The suggestion here that rapid innovation disproves monopoly power is simply false.  Rapid improvement in the product does not prove competition exists at all.  Evidence of actual competition is the only information that can do that. Mr. Schmalensee also avoids any discussion of the other acts engaged in by Microsoft as testified to by other witnesses (I.E. forcing Apple, Intuit and AOL to discontinue doing business with Netscape; bundling IE with the OS; spending half a billion dollars or more in R&D for IE and then falsely claim not to be charging for that product while at the same time forcing all consumers to purchase it).  Those acts all demonstrate not only monopoly power but also demonstrate that Bill Gates himself fully understands the power that Microsoft has invoked.

Mr. Schmalensee is flatly ignoring obvious acts and facts related to this case that prove Microsoft has monopoly power and indeed exercises it to further increase barriers to entry and strengthen that very power while eliminating possible competitors.

Does Mr. Schmalensee not know about these activities?  Does Mr. Schmalensee not understand the economic impact that such acts have upon the market?  Does Mr. Schmalensee really think that unless output is restricted or the maximum price is charged, no monopoly exists?  Unlikely.  He is just paid to present false economic testimony and to drawn conclusions which do not follow logically from the discussion of the facts of the case.  Mr. Schmalensee does not need to testify on the behalf of the DOJ.  But, he does not have to testify on the behalf of Microsoft either.  He could have been true to his understanding of the industry and monopoly power and choose not to testify at all.

q.  How did you come to the opinion that Microsoft's prices are low?

a.  I analyzed the implications for Microsoft's pricing of the assumptions that have been made by plaintiff's economists and I've found that the implications of those assumptions are dramatically at odds with what Microsoft actually does, on the additional assumption, of course, that Microsoft is a profit maximizing firm. That leads me to believe that plaintiff's economists' assumptions are wrong, because their implications conflict with reality.

Microsoft's prices are most likely not the highest price they could charge.  But, so what?  As indicated above, Microsoft has used its monopoly power in many non price ways.  Forcing Apple, AOL and Intuit to shut out Netscape is just one example. Using raw monopoly power to force all consumers to buy IE thereby raising additional barriers to future entry into the industry is another.  No high price evolved there, right?  At least if you actually believe that Microsoft is not charging for IE.  Remember that Microsoft could be charging $60 for the OS (retail) and $140 for IE (retail) instead of the announced price of $200 for the OS with IE "free".  Which is it anyway?

Mr. Schmalensee falsely assumes that if Microsoft is not charging the highest possible price, that somehow that is evidence that Microsoft does not have a monopoly.  This contention of his is unfounded.
 

January 21, 1999 - Thursday

6:00 PM PST - Microsoft's monopoly is not a "red herring",

Whether Microsoft has monopoly power is not a red herring at all.  Rather that determination is at the foundation of antitrust law.  Companies shown to have monopoly power are held to different standards of conduct than those who do not have such power.

The "red herring" offered by Microsoft is the false premise that if Microsoft does not charge the highest possible price, that is evidence of the absence of monopoly power.  That is illogical.  Monopoly power permits Microsoft to charge a whole range of prices.  Monopoly power also permits Microsoft to conduct a whole range of non price activities such as dictating to other companies what they must do or with whom they must do business.  Monopoly power permits Microsoft to bundle applications with its OS just as it has done.  Remember, Bill Gates threatened to bundle their browser as early as 1994.  At that time, he did not threaten a zero price only the bundling.

What Microsoft has demonstrated is the ability to set price in two markets (both the Os and browser application) effectively removing a potential competitor in the process.  This is a classic example of using monopoly power to preclude competition.  Microsoft can and will use this power to remove the Wordperfect Suite and Intuit from the market when ever it wants to do so.

Setting a high price such as $2000 is not the only indicator of monopoly power.  And, certainly Microsoft not setting that high price is clearly not proof of the absence of it either.

The absence of a monopoly or monopoly power can only be shown by the presence of actual competition.  For almost all companies, this is very easy to do.  Up until the effective removal of Netscape (free products do not constitute a true market), Microsoft had competition in the browser marketplace.  It would be fair to conclude that Microsoft still has competition in the Office suites although just barely.  In the Intel PC market it has practically none.  If you expand the market to include Apple, then Apple has about a 10% share.  Apple is competition.  But, even with Apple, Microsoft clearly demonstrates its monopoly power.  Microsoft even had enough power in the Apple marketplace to force it to sell IE instead of Navigator.

Mr. Schmalensee's claim that price is the only indicator of monopoly power or that a low price for Windows disproves a monopoly is just bogus.  Microsoft's acts prove it has enormous monopoly power.  What other company could cause Netscape to go away or drop its price to zero?  What other company could harm Java by forcing the distribution of a disparate version of Java?  HP might be able to write another version, but HP has no power to force all consumers to buy their version.  Microsoft does.  HP (or some other company) could write a browser and give it away free, but HP has not power to force all consumers to buy it.  No company has that power.  Microsoft does.  It is applying it as this case progresses.  All PC customers are being forced to buy IE right now.  $140 or zero, they are all forced to buy it.

That is what monopoly power is all about.  Brute economic force.

5:15 PM PST - Not charging $2000 for Windows is NOT evidence that a monopoly does not exist.

While charging $2000 for Windows might be proof of a monopoly, the converse is not true.  This suggestion is a fundamental flaw in logic.  (Remember the logic class at the University? A true statement does not mean that the converse is also true.  Pretty simple stuff for a professor.)

4:00 PM PST - Is $2000 for Windows unrealistic?

You can easily say so.  But, is it?  Mr. Schmalensee testified that if Microsoft really had monopoly power, they could charge up to $2000 for a copy of Windows.  Actually, I think he was talking about the wholesale cost to OEMs.  His logic is that that price is ridiculous and therefore Microsoft does not have a monopoly.  Well, if Microsoft did charge that much, certainly a number of customers would find alternative operating systems a better choice.  But, could or would you?

I wrote a couple of articles a few months back for the purpose of allowing individual consumers to ascertain how much they would have to pay for Windows before they would switch operating systems.

These articles, "the bubblegum deal" and "the jawbreaker deal" both bring out some interesting ideas.  If Microsoft did charge $2000 for Windows, what would you do?  Would you just pay it?  Would you switch your operating system?  Or, would you never upgrade again?  (keep in mind Y2K)

Both of these articles ask you to answer the same question:  How much would you have to pay for Windows before you would switch to another OS or stop advancing the technology you use?  Mr. Schmalensee suggests that the $2000 figure is ridiculous and therefore suggests that Microsoft does not have monopoly power.  Well.  He also gives a $900 figure.  But, his calculations are not what are important to individual customers.

The cost figure that measures Microsoft's present monopoly power is the cost individual customers may be forced to pay if they do not buy the Microsoft product.  The two articles mentioned above suggest you figure that out.

Which applications can you take with you?  Which applications will you have to re-purchase?  Will you have to learn how to use different programs for word processing, spreadsheet or data base work?  If you use your computer in business, can you get the necessary software to run your business on other platforms?  Linux, OS/2, Mac and Unix versions are available.  But, can you get the software to run your business on those systems?  If so, how much do they cost?  You can even buy AS/400 systems and software.  But, how much do they cost?  How much training will be necessary for everyone in your company to learn another system?  A system that they do not now know and understand?

A $2000 figure is a bit high.  That figure would cause many consumers to switch.  But, some would not or could not because the cost to switch might be higher than the $2000 figure.  This is an answer that each consumer must answer for himself.

But, keep in mind, Microsoft does not need to charge $2000 a copy for windows.  Practically speaking, it only needs to charge enough to cover bundled applications as required to preclude any possible competitor from threatening its monopoly.  Even Mr. Schmalensee admitted that Netscape was not a present threat.  Rather only a possible future threat to Microsoft's monopoly power.

Well.  Remember my comments on whether Microsoft was charging $60 for the OS and $140 for IE or just $200 for the OS and IE was free?  The money is the same either way.  And, Microsoft only needs enough raw monopoly power to raise the price of windows high enough to cover bundled versions of products competitors may be trying to sell in order to preclude anyone from selling products in the consumer software markets.

In other words, if Microsoft wants to preclude WordPerfect from the marketplace, if only needs to bundled Office with the OS and charge around $500.  In that case, unless you can in fact switch your OS for less than $500 (including any training costs associated with new applications and a new OS), you too can be forced to buy the Microsoft Office suite regardless of your needs and the market for WordPerfect goes away.  And, when the market for Wordperfect goes away, so does WordPerfect.  The CEO from Intuit, William Harris, fully understands this concept.  Microsoft only needs to charge a few extra bucks and bundle Money with the OS, and Intuit is all but history.

Do you think you can switch away from Windows for less than $500 in software and training costs?  Some consumers can.  Many can not.  Many business could easily find that they would have to pay Microsoft $2000 per copy of Windows because that price is the lessor of two alternatives.

What about software developers?  How much would software developers pay for new compilers and development systems plus training to learn a new and alternate system different than Windows?  Well, it costs real money even for professionals to change their OS.  It costs real money to support two or more platforms too.  This, of course, is part of the reason why the monopoly power held by Microsoft is so strong.  And, Microsoft can continue to subsidize ISVs for a long time to keep the cost to switch away from Microsoft high and undesirable.  Developers often support Microsoft simply because they are being subsidized using the money taken from consumers.  You really can not blame the developers for knowing a good deal when they see it.  If fact, this is most likely the main reason why OS/2 failed a few years back.  At least a number of developers will tell you that.

The truth is that Microsoft could easily charge a rather wide range of prices for Windows and consumers would have little choice.  You can figure it out in your own case.  You do not need to rely upon what anyone else says or does.  Just look at your applications, ascertain whether you can buy the same or comparable software for some other platform and estimate the costs to switch over.  But, be sure to include training and educational costs as well as possible down time. Once you have done that, you can decide in your case just how much monopoly power Microsoft can hold over you.  All of a sudden, you might realized that Microsoft may be able to force you to buy IE for $140.

But, if they use deceit and consumer fraud, they can also just overcharge for Windows and tell everyone that IE is a free product.  Sure.  It might be a free product.  But, it is just as likely that it is a $140 product.

In light of recent announcements regarding higher profits by Microsoft, which do you think it is?

Just yesterday, the economist admitted in court that he could not tell you how much Microsoft is charging for IE.  He claimed (perhaps falsely) that Microsoft does not even know how much profit is makes on Windows versus its applications.  All we know for sure is that Microsoft is extremely profitable and consumers are paying the price (for not having a choice).
 

3:08 PM PST - Microsoft does not keep records?

Transcript Jan 20, PM:

q.   And just to be clear, you were told that Microsoft doesn't have any records that show how profitable their operating system is, doesn't have any records that show what ancillary revenues or profits it receives, and you accepted that on face value; correct?

a.   Mr. Boies, they record operating system sales by hand on sheets of paper.  Under those circumstances, I accepted the absence of a detailed cost allocation system absolutely.

Well.  Perhaps Mr. Schmalensee has been kept in the dark.  But, before I would accept such an outrageous claim, I would require a rather significant investigation.  Microsoft Corporation is a publicly held company, is it not?  Microsoft's books are audited, are they not?  And, Microsoft Corporation is run by an individual known for his mastering of the details of all significant business transactions.  I find it very un-plausible that Microsoft fails to apply a common cost allocation system. I find it very un-plausible that Microsoft fails to ascertain which products are profitable and which are not.
 

12:38 PM PST - Microsoft paid Mr. Schmalensee to ignore possible antitrust activities?

q.  Okay.  Let me just go through some other examples of potential costs or lost revenue.  First, as you understand it, did microsoft pay money to ISP's and others to buy out contracts that the ISP's had with Netscape to distribute Netscape's browser?
a.  There were some payments made of that sort.  I think that's right.

q.  Do you know approximately what the total amount of those payments were?
a.  No, I don't.

q.  Did you investigate that?
a.  No.  I didn't investigate that.

How can this witness possibly conclude that success in the marketplace for IE is based solely upon a higher quality product when he intentionally fails to evaluate or even investigate acts by Microsoft to buy out Netscape contracts?  This is an "economic witness"?  This is a so-called antitrust witness?  But, when faced with knowledge of possibly illegal antitrust activity, he does not even investigate the facts?

It is beginning to sound like the only reason Mr. Schmalensee has agreed to testify is because he has allowed others to dictate what he sees and what he investigates such that his own testimony, by necessity, is invalid.  Microsoft has apparently manipulated this witness to such an extent that his own creditability has been in fact lost.  His head has been buried in the sand so that he can see no wrong committed by Microsoft in their exercise of monopoly power.

This witness has been told by someone to conclude that only technical qualities led to increased market share and to ignore all economic consequences or factors that might naturally result from the application of monopoly power to gain favorable contracts with ISPs and OEMs.  In other words he has been told to ignore the economic realities of the computer software industry.  His testimony points out time and time again that he avoided investigating key factors in determining the scope and extent of Microsoft's monopoly power.  That is crystal clear in his cross examination.
 
 

12:21 PM PST -  Why applications should not be part of the operating system:
 

Testimony from Jan 20, AM:

q.  Now, when windows 95 was first released to the retail market, it did not have Internet Explorer in it; is that correct?

a.  Right.  And when it was first released to the OEM market, it did, and we discussed that the other day.

q.  And what you're saying is the end of January of 1995, it was not clear whether the browser would be in either the OEM version or the retail version; is that what you're saying?

a.  My understanding as of that date is that it was -- that the browser part of the system was running behind the rest and there was some consideration potentially to -- at least it seems to be assumed here -- in releasing Chicago, so to speak, without OHare, in the first instance, in order to accelerate release of Windows 95. In any case, that seems to be the assumption embodied here.

There are two important observations to make from this testimony.  1) bundling IE with the OS was arbitrary (or at least not based upon any technical considerations)  and 2) applications and operation systems are separated for very good reasons.  Microsoft's attempt to bundle applications with the OS greatly complicates the process of getting products to market.  And, Microsoft's insistence upon using certain language calling IE something other than an application results in separate distribution efforts for the so-called enhancements.  This effort is nothing more than a fabricated attempt to avoid common terms in the industry to describe programs selectable by the user to customize their use of the computer (I.E. applications).  Microsoft is doing all of this just so that it can force the sale of an application by bundling it with the OS, preclude competition for such applications and eliminate potential competition.

All of this, of course, is an economic concept that the so-called economic witness hired by Microsoft is paid to not understand nor discuss.
 
 

12:15 PM PST - Microsoft continues to prove that the OS and IE are separate products.

From the testimony, Jan 20, AM:

q.  Do you understand what "OHare" refers to there?

a.  I love the codes.  "OHare" was internet explorer, and since Windows 95 was "Chicago," the link was geographic.

The link the witness is referring to here is the "link" between two products under development. Sounds like the single product idea is solely a fabricated antitrust defense.
 

11:40 AM PST - Mr. Schmalensee admits Microsoft has a monopoly?  Well, almost.

Testimony from Jan 20, AM:

q.  Okay.  However, one difference between whether a seller is a monopoly or a competitor is that if those customer relations deteriorate, then customers of a competitive firm have someplace else to go, correct?

a.  In a market in which there is effective short run competition, that's correct.

q.  And as you understand it, if an OEM gets unhappy enough with Microsoft so it would like to change suppliers, does it, in the present day, have anyplace else to go, as a practical matter?

a.  In the short run, I think we've been over this and the answer is "no."

Everyone knows that in the short run Microsoft maintains monopoly power.  Even this witness agrees to that.  The real question is just how strong are the barriers to entry for potential competitors.  Well, despite the direct testimony from this witness they are strong enough to all but eliminate any interest by anyone in the industry to offer direct competition to Microsoft.  This is why the direct testimony from Mr. Schmalensee is so comical.  He does discuss almost all of the factors which hold off any direct competition to windows but then falsely concludes that they have no economic affect.  Expert testimony is not supposed to be funny.  It is not supposed to be comical.  It is supposed to make sense.  If it is testimony from an economist, it is supposed to make economic sense.  Very little if anything that this witness has said makes economic sense.  This witness is only paid to argue defenses for Microsoft that are not even economic concepts.  His testimony as an economic witness is worthless.  So far, almost everything he has said supports the DOJ case and little or no testimony supports any economic arguments which might defend Microsoft.
 
 

11:15 AM PST - The economist witness from Microsoft is unaware of basic facts of the case

From the transcript, Jan 20, AM:

q.  Did microsoft charge for IE under any circumstances that you're aware of?

a.  None of which I am aware.

Both Netscape and Microsoft have sold copies of their browser in the retail channels.  I have seen them both priced at around $34 on the same day.  If you run quickly to the store, you may still find copies of these two applications available for sale. I assume that one or more of the Microsoft employees will confirm just how many copies of IE have been sold at retail.

And, of course, IE bundled with the OS also counts as retail sales of IE.

This witness is using semantics to avoid testifying to a basic economic fact that consumers are paying for IE.  No economist will take a promotional claim of a free product and conclude from that that consumers are not paying for a product.  Economically speaking that is a false conclusion.  Economically speaking a part of the sales price for the product is attributed to all bundled products.
 

10:15 AM PST - The cost of the browser war?

Did Microsoft really loose money in this war or has it just covered up its profits?

Well.  Microsoft just announced profits exceeding estimates.  So, what makes anyone think that Microsoft would invest a half of billion dollars of R&D on a product they could not sell?  Oh.  "But, it maintains the power of their monopoly", you say!  Well.  What Microsoft did does ruin the market for browsers and "yes" Netscape can hardly function in that market.  But, are we to believe the claim that Microsoft has given away IE when bundled with the OS, just because they said so?

Monopolist just do not have to give away products.  They have two choices.  Both of them work very well.  They can take two separately priced products (one dominate and the other worthless) and force the sale of both via a simple tape job at the store (I.E. a product bundle).  In other words, if the OS sells for $60 and IE sells for $140, Microsoft can simply sell both for $200.  Why?  Because almost all consumers must buy the OS and must buy IE if it always comes bundled with the OS.  This is a simple application of monopoly power in the marketplace.  This is precisely what Bill Gates threatened to do in 1994.

Or.  A monopolist can simply overcharge for the monopoly product and charge $200 for the $60 OS.  And, then yes, Virginia, they can give away IE for no extra charge.  Did they do this?  Which one did they pull over on consumers?  Well.  Maybe the next Microsoft witness will give us a hint or two.  Either way, Microsoft more than earns back its half of a billion dollars in R&D for IE and they should be able to cover miscellaneous expenses of $120,000,000 or so as Mr. Schmalensee testified to.

But, for an economist to get up on a stand and argue that IE costs them $620,000,000 million in losses when the company has just announced excess profits (even above estimates) is a bit ridiculous.  What Microsoft is doing is simply making false claims.  Economically speaking (and this guy claims to be an economist) Microsoft has lost nothing on IE.  Microsoft is just using deceit to sell products.  Microsoft is just saying IE is free to avoid putting consumers on notice about what they are being forced to buy.

Now.  The DOJ is not stupid here at all.  A free price on a product intended to preclude competition and protect a monopoly from possible competition is clearly predatory.  The DOJ may just be letting Microsoft hang itself on its own ropes.  This is fine for the DOJ and its antitrust action.  And, the antitrust laws are not consumer protection laws.  The problem is that all consumers are being harmed directly by the deceit propagated upon the consumers by Microsoft.  How much is the harm?  Billions and Billions.

Microsoft is not stupid to suggest IE is free.  Defending itself in court against predatory prices while forcing itself into another monopoly is more than "good business" if you want to call it that.

Telling the consumers the truth might result in a total rejection of the Windows 98 product and a loss of both the old and new monopoly positions in the OS and browser markets.

But, what do the consumers get?  Defrauded.

January 20, 1999 - Wednesday

4:40 PM PST - Microsoft's defenses do seem to be fading away

Of course IE and Navigator are similar if not comparable products.  IE on Solaris is also similar if not identical to IE on Windows 98 and NT and 95.  All of these browsers are very similar.  And, despite Mr. Schmalensee's contentions to the contrary Microsoft, all consumers and the industry can easily identify both the OS marketplace and the browser marketplace.  Microsoft could have made an OS out of IE, but they choose not to.  IE is a trademark for an internet browser, an application.  So far in this trial, all evidence points toward that conclusion.

Semantics do not change market definitions nor do they change the perceptions of the participants in the market.  Microsoft itself insists upon IE being an application when it distributes the IE branded product for Solaris, HP-UX, NT, Windows 95, Windows 3.1 and Apple.

The suggestion that any operating system and any browser are a single product is just a fabrication if you will.  A false legal defense fabricated in this case simply to avoid antitrust liability.  It has no other function.
 

3:30 PM PST -  Good Question:  Does Microsoft owe you money?

A refund on IE would be more interesting to watch.

Yes.  I know that Microsoft claims IE is free.

But, today in court it has been testified to that Microsoft has spent $500,000,000 in R&D for IE.

Guess who is paying that?  "Windows 98 customers" is the answer.  Everyone else gets it free.  But, Windows 98 customers must pay money.  Even Microsoft claims that it charges OEMs more for "added features".  Sounds like IE would at least qualify there.  Microsoft also claims up to 20% of all OS revenue (including NT and NT server) is allocated to "unearned revenue" which they claim includes IE.

So even Microsoft claims consumers pay for IE.

So how much is Microsoft really charging for IE?  Up to $140 per copy by some estimates.

Maybe the upcoming Microsoft witnesses will explain how revenue is really allocated between the bug fixes for Windows 95 and IE ($500,000,000 is no small bill to pay).

In the meantime, sign up for the refund on Feb 15, 1999.  That sounds only fair.

By the way, those terms in the agreement are there at Microsoft's insistence.

2:00 PM PST - Microsoft spends half a billion in R&D for IE but claims it has not sold it?

I will admit that Microsoft claims that it is not charging for IE.  But, a company reporting record profits is likely to be misleading its own customers when it claims to be giving away valuable products.  It also has not been shown that Microsoft is not charging for IE. Half a billion in R&D certainly deserves an allocation from the price for Windows.  Maybe we will hear some proof that Microsoft is not charging for the browser.  However, they claim to charge for added features.  And, their financial reports allocate revenue to IE.

Of course the only reason that all consumers must buy IE is because it is a superior product, right?

This so-called economist self qualifies himself to not only judge the quality of two products upon the market in a field in which he is untrained but then falsely concludes that the quality difference is the reason for the increased distribution.  Maybe he does not understand the words "forced sale"?

The only economic principal here is the forced distribution and the impact that has on a market for browsers.  But, then he is paid by Microsoft to ignore all economic reality present in this case.  It just goes to show that being an economist does not mean that your testimony is based upon economic evaluations.
 

12:25 PM PST -  Of course Microsoft only competes via price and features.

From the transcript Tuesday PM:

q.   And were you aware of any evidence of any limitations on the ability of Netscape to distribute its browser through OEM's?

 a.   I was aware that there is OEM testimony that says when IE is a very good product and is available, we are less interested in distributing Netscape. As I say, the lack of interest is certainly a consequence of competition and of the wide availability of  IE.

Is this guy really an economist?  Do you suppose he would consider the fact that 100% of all consumers are forced to buy IE (including Apple) that consumers might develop a lack of interest in competing products?  Or, do you suppose that would be too esoteric for an economist?  Even if IE were a part of Windows, it clearly is not part of the Mac OS.

q.   Are you aware of anything other than simply normal competition and the wide availability of  IE that affects the ability of Netscape to distribute its browser through OEMs?  And, if I could, I would ask you to start with either a yes or a no or I don't know, and then you can explain as much as you think you have to.

a.   As I understand your question, and you may be pointing to something that I'm just not simply picking up. The answer is no, I'm not.

I guess this points out the risk for an expert witness to allow a organization like NERA to control which material he reviews in preparing direct testimony. Actually this reply goes beyond that observation.  This witness is testifying falsely.  I guess everything Microsoft has done is defined as "normal competition" including the forced sale and distribution to 100% of the consumer software market.  (Oh. Almost forgot, this witness can not identify markets.)

12:10 PM PST - Huh?

Testimony from Mr. Schmalensee (Tuesday PM):

q.   Do I understand your understanding to be that if Netscape didn't use the OEM channel very much in 1998, it was simply because it thought other channels were a better way to go about distributing its browser?  Is that what you're saying?

a.   Yes, there was no contractual bar preventing them from using it.  They must have found other channels more effective.

This is an example of Mr. Schmalensee's warped reasoning.  Does he really think that only an explicit contractual agreement could prevent Netscape from distributing browsers via the OEM channel?  No one who understands the computer software industry would conclude this.

12:03 PM PST - Did Mr. Schmalensee write his own direct testimony?

If you read my column last week, you will remember that I suspected that Mr. Schmalensee did not write his own direct testimony.

From Tuesday PM:

q.   And how did you determine whether to read, for example, this deposition or some other deposition, or the deposition of your technical colleague from mit whose name I sometimes mispronounce?

a.   I asked people from NERA what issues were discussed in various depositions and which they recommended I read, and I don't remember the conversation about this one.

It now appears that someone at NERA decided or at least recommended which depositions Mr. Schmalensee should read in preparation of his direct testimony.  This admission is getting at the heart of my observations.

11:30 AM PST - Mr. Boies and I think alike (at least in part)

Question from Mr. Boies:  (Tuesday PM)

q.   And the reason I'm focusing on it is to try to focus on your summary conclusions as opposed to every one of the sentences in your entire direct testimony.  Now, with respect to this summary conclusion, I guess the first question I would have is:  are you aware of any evidence that's contrary to this conclusion?

Take a look at my assessment of the Schmalensee direct testimony as published last week.  I clearly stated that the detailed text of his testimony contradicted the very conclusions he drew from them.  I guess Mr. Boies would agree on this point.

11:00 AM PST - Mr. Schmalensee previously testified to acts considered by him to be predatory

Testimony from Tuesday PM:

q.   Just so that we are clear, the delaying interoperability testing and delaying introduction of the interface were two practices, among others, that you concluded were predatory and violated the antitrust laws; correct?

a.   Taken together, yeah, i concluded that their conduct, which included those two items, was predatory and violated the antitrust laws, that's correct.

This Q&A is interesting.  What Mr. Boies is trying to show is that Mr. Schmalensee testified in another case that a pattern of conduct by a party can be considered as "predatory" from the antitrust standpoint.  In the AT&T case mentioned, conduct included not performing implicit conduct.  That is, not doing something that would be implied or expected under the circumstances.

What Mr. Boies will argue later is that Microsoft in acting as it has toward Java was conducting predatory acts in violation of the antitrust laws.  Clearly the act by Microsoft to possibly violate the Java license or simply act under the contract but in a way as to directly harm the Java trademark, could be considered a act in violation of the antitrust laws.  This according to the prior testimony of Mr. Schmalensee, the Microsoft economist.

Clearly an act that has the known affect of diminishing the value of the Java trademark or the value of a cross platform solution in the industry can be considered as an antitrust violation.  Hint:  Those acts suppress competition.  The testimony here from Mr. Schmalensee supports the DOJ contention that Microsoft's acts toward browser competition and towards cross-platform competition to Windows violates the antitrust laws.  Mr. Boies has very skillfully used prior testimony from Mr. Schmalensee to establish this.

10:00 AM PST - Mr. Schmalensee is not sure that giving IE away made it more difficult for Netscape to sell its products?

Testimony from Mr. Schmalensee on Tuesday PM:

q.   Let me pick up where we left off.  Do you have a judgment as to whether or not combining internet explorer with the windows operating system grazed Netscape's costs?

a.   I have seen no evidence on the point.  I think it is plausible, as i indicated before the break, that it has made it more difficult, for plain old competitive reasons, for Netscape to get distribution through the oem channel, and that's an inference.  I haven't seen anything hard on that.

The question being asked is whether Microsoft bundling IE made it more expensive for Netscape to do business or not.  I think almost everyone in the industry would conclude that it made it almost impossible to do business.  Not to give away products, mind you.  That is a non-issue.  Nothing stops you from giving away products except absence of money to cover expenses.  But, any economist or participant in the industry clearly understands the obvious:  If all potential consumers are forced to first acquire your competitors products, it is almost impossible to sell yours.

Of course, this Microsoft witness chooses to claim he is unaware of this concept.  Or, claims to not see any hard evidence on this issue. Well.  This witness is paid not to find such evidence anyway.  He is only paid to argue that a zero price forced upon a market by a monopolist does not prevent competitors from selling their products.   (Whatever you do, never let this economist invest your money.)

9:30 AM PST - Mr. Schmalensee tries to distinguish between costs to switch the operating system.

While the particular Q&A on this issue is not too clear, it is apparent that Mr. Schmalensee testified in the late 70's that Data General had significant marketing power (if not monopoly power) due to the high costs that individuals consumers would face if they wanted to switch their operating system.  The reference here is to custom applications written by the customer.  Mr. Schmalensee falsely concludes that this is still not the case today.  Certainly many companies do in fact still write custom applications for their business needs.  OS/2 customers clearly do it.  Windows customers do likewise.  Mr. Schmalensee also tries to suggest that all consumers use only a small number of applications which may very well be available for use with alternative operating systems.  However, for an economists, he sure likes to hide the realities of the costs that must be incurred for a customer to actually switch.  He is referring here to the concept expressed in my articles "Bubblegum deal" and "jawbreaker deal".  He is falsely suggesting the cost is nil or very low.  It clearly is not nil nor low.  He may be able to adjust to using Mac software but few companies would even consider putting all employees through such a process.  His testimony on this point is devious and misleading from the economic standpoint.  This is just false testimony.  He is deliberately hiding rather significant costs that consumers must be faced if they might even want to consider switching the OS.

The other false claim he makes is that the thousands of applications available for Windows is not relevant.  It is absolutely relevant.  Why?  Because each one of those thousands of applications are highly significant for the customers that use that application.  If you are a dentist, you are very much interested in special billing software for such a business.  Mr. Schmalensee falsely claims that only the core office type applications are important here.  They are important.  However, his testimony offered to minimize the impact and importance of those thousands of applications only proves that he is ignoring highly significant economic issues directly related to the consumer OS marketplace and the difficulties faced by any potential competitor (I.E. barriers to entry are enormous).

Mr. Schmalensee's claim to the contrary is false testimony.

8:45 AM PST - Mr. Schmalensee admits that Microsoft harms consumers by forcing them to use IE

Testimony taken from the cross examination of Mr. Schmalensee:

Q.  I'm just trying to deal with your answer, Dean Schmalensee.  You gave me an answer and I'm trying to ask you a question about it. The answer that you gave me said that if the consumer still had complete freedom of choice and could still use another word-processing program without degradation, then there was no harm.  I'm simply asking you the converse of that.  If the consumer does not have complete freedom of choice, or there is degradation to using another word-processing program, has the consumer suffered harm?

A.  Let me see if I can give you an answer that will avoid our trying to agree on definitions.  If -- and let me be specific, and perhaps that will do the job.  Suppose I am a Wordperfect user.  Microsoft does what you describe.  And I prefer Wordperfect to Word.  And I find that the convenience of using Wordperfect, the speed, my ability to install it -- that in some obvious way I can't do as well as I could have done before, that's a harm.

This Q&A relates specifically to the previous evidence that Windows 98 ignores the customers choice of browser and runs IE for several browser functions.  The comparison here is important.  What Microsoft has done is forced Word to fire up as the word processor regardless of the choice made by the consumer to use WordPerfect. As indicated by Mr. Schmalensee this is a serious harm to consumers.  The harm is not so much related to the consumption of disk space nor the installation time required of a larger OS.  Rather it relates directly to the increased costs that must be incurred by all users in supporting two browser applications.  Microsoft forces one and thereby forces the customer to use only that browser or incur doubled support costs, etc.

The above observations also assumes that IE is in fact free.  As you recall, I find that conclusion unfounded (I.E. Microsoft itself justifies a higher cost for the OS to OEMs based upon "added features" and Microsoft financial reports also state that 20% of all OS revenue is attributed to "unearned revenue" which they claim includes IE).

The above discussion also does not account for the affect of blocking competitive products from the choice of consumers by forcing a zero price in the marketplace for those products (I.E. at one time both Microsoft and Netscape sold copies of their browser side by side in the retail channels).

7:45 AM PST - Very little of what Mr. Schmalensee says even makes sense

I guess when you are required to testify for a monopolist and he are required to try to provide support, there is little that you can say that will make sense.  Mr. Schmalensee's direct testimony (reviewed last week) was highly illogical.  Conclusions were not supported by the detailed testimony.  The detailed testimony supported opposite conclusions.

I am just not sure why Mr. Schmalensee, an economist, is even on the stand.  None of his testimony is creditable to support the claim by Microsoft that they do not have a monopoly.  None of his testimony is creditable to support the claim that barriers to entry in the consumer OS marketplace are anything short of enormous.  The only competition he has been able to point to either does not exist or may only exist in the future.  And, all acts being conducted by Microsoft within the past year or so only prove that Microsoft has acted illegally to preclude even the possibility that competition might arise.

It is one thing to not offer evidence voluntarily.  Bill Gates can act dumb if he wants.  But, Bill Gates is an obvious witness.  Mr. Schmalensee is not an obvious witness.  He is only paid to provide false and misleading testimony.  His testimony is illogical and devoid of economic reasoning relative to the computer software industry.  Indeed, Microsoft would have been better off if they did not call any economist at all as a witness rather than put Mr. Schmalensee on the stand and expect him to change reality through false testimony and false economic reasoning.
 

7:30 AM PST - What this case is all about?

Yesterday's testimony from Mr. Schmalensee demonstrates what this case is all about.

Microsoft thinks it has the legal right to force 100% of all consumers to buy Microsoft products with total disregard for their needs and desires.  Yet, it thinks everything is just fine if all other companies are permitted to give away their products without compensation.  After all, nothing can stop them from giving away their work.

January 19, 1999 - Tuesday

1:30 PM PST - Should Microsoft bundled Microsoft Word?

Certainly, all of Microsoft's arguments related to IE would likewise apply to bundling Microsoft Word with the OS.  The case for that bundle would be even stronger than that for the browser.  For one, everyone needs a word processor.  Second, Wordpad is already bundled, so expanding that product to include all of Word is not much of a step.  And, besides, all consumers would benefit, right?  Is that not the argument that Microsoft is making?  Does Microsoft not argue that all consumers are benefited by being forced to buy IE?  Being forced to buy Word is the same concept.

1:11 PM PST - Does Mr. Schmalensee think that economic concepts are only semantics?

The following is taken from an article published by the San Jose Mercury news written by David Wilson: 'In response to a series of questions from Boies about whether there was a separate browser market when Microsoft furnished it separately from its operating system, either via a download from the Internet or through the purchase of an add-on package, Schmalensee said, "Whether it's a separate product or an operating system upgrade is a question of semantics." '

I thought Mr. Schmalensee was an economist?

The ability to identify a market for browsers is not a semantical question at all.  It is an economics question.

The desire by Microsoft to distribute IE as an application for alternate platforms is not semantical either.  It is clear proof that Microsoft itself considers all browsers to be applications.  It is also clear proof that Microsoft wants to preclude any company from providing such applications on any platform.  Certainly, the economic impact or value in such acts has not escaped Mr. Schmalensee?  How can Mr. Schmalensee be counted upon to value anything that Microsoft has done if he insists that it is only a question of semantics?

This witness is ignoring economic principals simply because they do not favor Microsoft's legal position.  This witness is avoiding testimony regarding the very issues around which he bases his expertise.  He is an economists not an English professor.  The semantics are not important.  The economic affect of Microsoft's actions are what are important regardless of how you characterize them.
 
 

January 18, 1999 - Monday

2:00 PM PST - Converting Microsoft into an oligopoly may not solve the problem.

Judge Robert Bork has suggested breaking Microsoft into three companies with identical property.  This is one of the possible solutions however I do not think that solution would solve the problem in the industry.

For one the company may have to be split according to product lines to prevent significant product tie-ins from blocking competition from other companies.  Microsoft's policy right now is to design products so that they all require IE.  Unless the ability to dictate such a powerful tie in is prevented, competition for browsers or browser related services just is not likely to exist.  The problem is not limited to the connection between the OS and the browser.  If Microsoft ties the word processor with IE then the monopoly in the OS market will not matter much.

The only true solution may be both a horizontal split with the OS products and a vertical split will all other major product groups.

Again, the comparative analogy offered by Microsoft regarding a split is seriously incorrect.  Splitting Microsoft in three pieces is not comparable to splitting up the Chicago Bulls after two championships unless it is clear that the Chicago Bulls always cheated in their games.  In that case, splitting up the Chicago Bulls would be justified before they won their first one.  Microsoft continues to suggest that competitive industries provide some guidance to monopolized industries.  They never do.  And, they continue to suggest that Microsoft is only being charged because they have been successful or competitors have failed.  This is false reasoning suggested by Microsoft.  Neither thought process supports any decision that might be made by the court.  Only Microsoft's illegal acts that they actually conduct can do that.  If the Bulls play a fair game of ball, they can win as often as they wish.  So too with Microsoft.  As long as they do not violate antitrust laws or laws against unfair competition (or any other law), Microsoft can do as they wish.  However, if they violate the law, then they should rightly be held accountable.

11:30 AM PST - Does Mr. Schmalensee belong to the "Flat Earth Society"?

It would appear that he does.  Certainly I am not the only attorney from San Jose who thinks so.

The commentary from Richard Gray focuses upon the overall creditability of the testimony from Mr. Schmalensee.  He also points out the ease of clearly identifying the consumer OS marketplace.

Apparently Mr. Schmalensee is paid to confuse the economic issues of this case as much as possible. Certainly, nothing he has said so far either makes sense or helps the court to focus upon the issues of this trial.

11:00 AM PST - Microsoft witness is not careful enough about citing research material?

Apparently Microsoft's economists cited a poll for part of his testimony that not even Microsoft employees think is fair. Last week, Week Twelve, I suggested that Mr. Schmalensee did not draft his own direct testimony.  It is beginning to sound more and more like that is a correct conclusion.  NERA has apparently been retained by Microsoft to prepare a number of documents.  I Believe Mr. Schmalensee himself even cites NERA as being the source of some of this direct testimony.  While it might be appropriate to cite a survey, study or even other published material in direct testimony, it may be highly inappropriate to simply adopt a work written by NERA as Mr. Schmalensee's testimony.  This would result in the DOJ being unable to cross-examine the direct testimony of a witness. As far as I know, the true source of the direct testimony has still not been challenged as of this point.  Mr. Schmalensee has affirmed in court that the direct testimony is his testimony.  However, as I have pointed out previously, I suspect that this testimony was in fact prepared in part by someone other than Mr. Schmalensee.

Trial resumes Tuesday, January 19, 1999

Daily Wrap and Flow - Week Twelve
Daily Wrap and Flow - Week Eleven
Daily Wrap and Flow - Week Ten
Daily Wrap and Flow - Week Nine
Daily Wrap and Flow - Week Eight
Daily Wrap and Flow - Week Seven
Daily Wrap and Flow - Week Six
Daily Wrap and Flow - Week Five
Daily Wrap and Flow - Week Four
Daily Wrap and Flow - Week Three
Daily Wrap and Flow - Week Two
Daily Wrap and Flow - Week One