Ohio's sad legacy of antitrust: John Sherman to Betty Montgomery

By James A. Damask
web posted July 1998

Picture this: an upstart computer company comes under fire from the U.S. Justice Department for alleged antitrust violations. Its strident CEO - the highest-paid man in America - vigorously denies that his company forced customers to purchase the newest software package under a product "tie-in" arrangement prohibited under the Sherman Antitrust Act. The Justice Department, claiming that the company has gained monopolistic power - some 90 percent of the market - through its high-tech computing, files suit and wins. The federal government continues for decades to legally harass the company.

Bill Gates? Microsoft? Windows 98? 1998?

Guess again. Thomas J. Watson. IBM. Punch cards. 1936.

In International Business Machines v. United States (1936), the U.S. Justice Department charged IBM with violating sections of the Clayton Act, which regulates so-called tie-in sales, and sections of the Sherman Act, which regulates "monopoly." Thomas J. Watson, founder and chief executive officer of IBM, raised the ire of antitrust lawyers at the Justice Department by contracting with lessees to require the purchase of IBM's punched cards for its computing machines. Watson (who made the astronomical sum of $365 000 in 1936) refused to change the agreement until forced to do so by the federal government.

The federal government's antitrust prosecution did not end there. The 1936 antitrust action lead to further prosecution beginning in 1946, and did not end until 1982. As IBM found out - and as Microsoft may soon discover - government antitrust prosecution on vague charges of "anti-competitiveness" is a never-ending ordeal that stifles innovation and rewards less-efficient rivals.

Ohio leads the (wrong) way

The U.S. antitrust push began with John Sherman, Republican U.S. Senator from Ohio from 1861-1877 and 1881-1897, who proposed the 1890 Sherman Antitrust Act.

Ohio's antitrust legacy continued with Ohio's attorney general battling the Standard Oil Company in Ohio v. Standard Oil Co. (1892). Ironically, according to economist George Reisman, this case is cited as "evidence" of the terrible effects of trusts and of private "monopoly" in general, even though the U.S. Supreme Court admitted that at Standard Oil prices decreased and production increased - precisely the opposite of purported trust behavior.

In other words, even though John D. Rockefeller and Standard Oil pushed down the cost of oil from 58 cents per gallon to 5.2 cents and the cost of kerosene from 26 cents to 8 cents per gallon - all the while improving the quality of the product - he was considered a threat to consumers.

Ohio's current attorney general, Betty Montgomery, recently joined 19 other states and the U.S. government in filing a motion against Microsoft in federal court. Together, they are charging that, like IBM and Standard Oil before, Microsoft's success in its market - a 90 percent market share, creating billions of dollars in wealth and employing over 25 000 people worldwide - constitutes, according to U.S. Judge Stanley Sporkin, "a potential threat to this nation's economic well-being."

Bad economic theory = bad law

The argument against Microsoft is based on a disproven and fallacious economic assumption: path dependency. According to this assumption, consumers make early purchases of technology - like Windows 95 - and are "locked in" to choices that may turn out to be unfavorable. People then find themselves stuck with an inferior product and unable to change. This implies that markets (and therefore individuals) cannot be trusted. Government, according to the argument, must then intervene and regulate markets in order to produce an "efficient" or "better" outcome.

The point of the path dependency argument is that luck supposedly causes an inferior product to defeat a demonstrably superior product. As society becomes more and more technologically oriented, luck - not entrepreneurial activity - will play an increasing role in progress. Thus, Microsoft Windows 95 (the argument goes) became the dominant operating system through sheer chance, not talent. Concludes market skeptic Brian Arthur in Scientific American, "once random economic events select a particular path, the choice may become locked-in regardless of the advantages of the alternatives."

Market-oriented economists, however, have long-recognized the nature and role of competition in breaking out of technological "lock-in." Nobel Prize- winning economist Friedrich Hayek notes that competition is an entrepreneurial process of discovery and adjustment under conditions of uncertainty. Entrepreneurs - not government - see new profit opportunities and discover new ways of doing things. Profits are the reward for successful discovery, while losses are the penalty for erroneous decisions.

IBM revisited

In IBM's case, markets ultimately triumphed over government allegations of monopoly. Assistant U.S. Attorney General William Baxter dropped the government's case in 1982, finding it "without merit." This was after the United States government had indicted IBM for "illegal monopolization" of the computer systems market and had tried IBM in court for over six years, producing 104 000 pages of trial transcript and costing IBM over $200 million in attorneys fees between 1968 and 1973 alone. The federal government's regulation of IBM's punch-card business, regulated under a 1956 consent decree, would continue to be regulated by federal judge David Edelstein until an appellate court ended his 39-year-reign in 1995 - long after anyone was still using punch-cards.

But any citizens fearful of a resurgent and monopolistic "Big Blue" during the 1980s, however, could rest assured that capitalism would be providing IBM fervent competition. The year before the federal government dismissed its antitrust case against IBM, a 25-year-old entrepreneur was incorporating his software company, engaging in entrepreneurial discovery, and releasing his first product - Microsoft DOS 1.0.

His name: Bill Gates.

James A. Damask is the Director of Research for The Buckeye Institute for Public Policy Solutions, a Dayton-based nonprofit, nonpartisan research and education organization of Ohio professors and scholars.

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