INDUSTRIAL POLICIES IN A HISTORY-FRIENDLY MODEL OF THE CO-EVOLUTION OF THE COMPUTER AND SEMICONDUCTORS INDUSTRIES

1
INDUSTRIAL POLICIES IN A HISTORY-FRIENDLY MODEL
OF THE CO-EVOLUTION OF THE COMPUTER AND
SEMICONDUCTORS INDUSTRIES

• Franco Malerba, Richard Nelson, Luigi Orsenigo
  and Sidney Winter

2

• The analysis of the effects of industrial
  policies is often based on static, equilibrium
  models, with agents characterized by complete
  rationality. Moreover, such analyses consider in
  most cases, one specific industry, without fully
  taking into account the effects that public
  intervention might bear on related industries

3

• growing literature on industrial dynamics, with
  heterogeneous agents, increasing returns and
  path-dependency
• even within this literature, policy implications
  have been by and large neglected, particularly as
  formal models are concerned.

4
Antecedents

• The Schumpeterian trade-off
• Network externalities
• Blind Giants, Narrow Windows and Angry Orphans

5
Microsoft case

• competition is not within the market, but for the
  market temporary monopolies, provided that the
  entry of new potential monopolists offering
  potentially superior new technologies is not
  blockaded.
• Thus, antitrust policies should consider not only
  the immediate effects of the existence of a
  monopolist and of its actions but also the
  predictions of alternative possible futures
  (which might be very hard to predict indeed)

6

• efficacy of alternative policy measures designed
  to combat monopoly (if deemed appropriate on
  efficiency and political grounds), to promote
  industry growth and technological change.
• In general, little is known about the efficacy of
  industrial policies in dynamically related,
  co-evolving industries.

7
Aims

• Exploring the effects of alternative policies on
  the dynamics of two vertically-related industries
  in changing and uncertain technological and
  market environments.
• make or buy decisions
• dynamics of market concentration in contexts
  characterized by periods of technological
  revolutions punctuating periods of relative
  technological stability and smooth technical
  progress.

8
History-Friendly Models

• CLOSER RELATIONSHIP WITH HISTORICAL AND EMPIRICAL
  ANALYSIS
• INDUSTRY-SPECIFICITIES
• PUT MORE RESTRICTIONS ON MODELS
• DERIVE TIME-PATHS, NOT SIMPLY LIMIT PROPERTIES
• FORMALIZE AN APPRECIATIVE ARGUMENT
• REPRODUCE A QUALITATIVE HISTORY PROBING A
  THEORY, NOT REPRODUCING REAL TIME SERIES
• BASIS FOR GENERALIZATIONS
• TOOL FOR THEORETICAL, HISTORY-FREE INVESTIGATION

9
VERTICAL INTEGRATION AND SPECIALIZATION THE
CONCEPTUAL APPROACH

• Differences in firms capabilities and role
  played by the nature of the knowledge base in an
  industry.
• Through learning firms accumulate over time
  capabilities in specific technological,
  productive and market domains.
• Such competencies take time to be developed and
  are then typically sticky and local.
• Established capabilities may adapt only slowly to
  changes in technology and demand and new
  capabilities more in tune with the new demand or
  technology may be necessary.
• When products are systems with various components
  and subsystems, the capabilities of coordination
  and integration of these capabilities may be
  relevant. This may provide an advantage to
  integrated firms.
• The growth and dynamics of competencies in each
  one of two vertically related industries
  influences the evolution of the other sector and
  shapes the dynamics of vertical integration and
  specialization

10
Competencies and selection

• The time dimension
• ompetencies take time to be developed and the
  previous history of the processes of construction
  of those capabilities often is important in
  determining what firms can and cannot do.
• decisions to specialize and to vertically
  integrate are not symmetrical
• if a firm decides to discontinue the development
  and production of certain components, it might
  find it difficult to resume such activities later
  on and in any case time and efforts are required.
  Thus, these decisions are not entirely flexible
  as time goes by.
• distribution of capabilities the type and
  competences of all the other industry
  participants play a major role in affecting the
  decision to integrate or specialize.
• market selection amplifies the impact of
  capabilities on the vertical scope of firms.
• If specialized firms have superior capabilities,
  selection will push for grater specialization and
  vice-versa
• market selection decreases heterogeneity among
  firms.
• The process of capability development over time
  depends on the vertical scope of an industry
• Specialized firms that compete with other
  specialized firms accumulate knowledge and
  competence differently from vertically integrated
  firms.
• In turn, the process of capability development
  affects the rooster of potential entrants.
• .

11
The history

• 3 ERAS
• 1. late 1940s and early 1950s the era of
  mainframe computers and transistors.
• Early 1950s entry of already existing firms
  IBM, the Bunch (Burroughs, Univac Rand, NCR,
  Control Data, Honeywell), GE and RCA. In Europe
  and Japan, Philips, and Siemens.
• IBM emerges as leader

12
Vertical integration and specialization in the
transistor era

• At the very beginning of the industry, most
  computer producers were not integrated.
• second half of the 1950s and the early 1960s
  introduction of transistors and beginning of the
  semiconductor industry
• The largest firms (IBM, RCA and GE) were totally
  or at least partially vertically integrated.
• The smaller firms purchased components on the
  market.

13
Integrated Circuits

• 2. The invention and development of the
  integrated circuits enabled further improvements
  in mainframe computers and reduced barriers to
  entry in the mainframe industry, stimulating the
  entry of new competitors to IBM.
• ICs opened the possibility of designing
  minicomputers
• Governmental anti-trust suit carried on for 13
  years by the American Justice Department against
  IBM
• June 1982 IBM unbundles its software and
  peripherals

14
Integrated Circuits (ctd)

• With the introduction of integrated circuits IBM
  became fully vertically integrated into
  semiconductors.
• As a vertically integrated company, IBM produced
  the new system 360. By the end of the 1960s IBM
  enjoyed a market predominance of 70 in the
  worlds general service computer market.
• Other mainframe producers also partially
  integrated into integrated circuits.
• Three basic reasons for vertical integration
• integrated circuits embedded system elements and
  thus required close co-ordination between the
  system and the component producer in the design
  and development of both components and systems.
• semiconductor designs became more and more
  strategic and key for system development, and
  therefore their design, development and
  production was kept in-house for fears of leakage
  of strategic information.
• the rapid growth of the mainframe market and
  later on of the minicomputer market (1960s and
  1970s) generated fears of shortages of various
  key semiconductor components among some of the
  largest computer producers.

15
Microprocessors

• Microprocessors enabled significant improvements
  in mainframes.
• They made it possible to design personal
  computers.
• Personal computers opened up a new demand which
  had not been touched by mainframes small firms
  and personal users.
• The great availability of low-priced high power
  computer components, led to the beginning of the
  microcomputer industry.
• Apple Computer, Radio Shack and Commodore were
  all non-vertically integrated specialized in
  microcomputers.
• In 1978 the whole personal computer market was
  practically ruled by those three firms which
  enjoyed together the 72 of the worldwide market.
  
• However already by 1980, new start-ups were
  entering into the market with an increase in
  competition and an intensification of selection.
• In 1980 IBM decided to enter the production of
  microcomputer.

16
IBM, Intel and Microsoft

• IBM strategy was to establish a common standard
  in the market through the production of a
  successful microcomputer (the PC) as the company
  did with the launch of the 360 system in the
  mainframe market.
• IBM decided to buy its own components,
  peripherals and software from outside suppliers
  instead to build them internally.
• IBM needed to speed up microcomputer production
  and did not have advanced internal capabilities
  in this respect. Moreover, also the software had
  to be developed independently from the hardware.
  Only the assembly of the minicomputers parts was
  supposed to be undertaken at IBM
• IBM decided to choose Intels 8-bit older chip
  rather then the state of the art chips of
  Motorola or its clones which were much more
  powerful (and used by the most of IBM
  competitors)
• IBM required Intel to sign a standard
  nondisclosure agreement and, in addition, stated
  that Intel should licence the chip out so that
  the IBM productive plant in Florida could be sure
  of a second alternative source.
• IBM also turned to Microsoft for the standard
  operating software MS-DOS. IBM agreed to let
  Microsoft licence its software products to
  others, because IBM aimed to lock the emerging
  market to its operating software.
• In this way, however, Microsoft and Intel were
  able to conquer the respective software and
  microprocessor markets in few years.

17
The PC Market

• The huge unanticipated demand for microcomputers
  quickly transformed the microcomputer industry
  established and start-ups companies swarmed into
  the minicomputer market because it was relatively
  easy developing or cloning the PC.
• In the late 1984, as output began to catch up
  with demand, an industry shake-out occurred.
• With time, IBM role of coordinator of
  decentralized technical progress by various
  suppliers weakened, because a shared
  technological leadership emerged with Intel and
  Microsoft.

18
Vertical Disintegration

• Vertically integrated computer producers--
  including IBM-- exited from large scale
  production of semiconductor components.
• Dis-integration took place because the new
  demand for semiconductors coming from personal
  computer producers had grown greatly in
  response, a variety of highly advanced components
  were introduced by several merchant
  microelectronics firms.
• A key firm -Intel- emerged as the industry
  leader for microprocessors, thus determining a de
  facto standard in the semiconductor industry to
  which computer producers, out of necessity,
  complied.

19
The Model An Overview

• At the beginning of the simulation, a given
  number of firms enters the market and begin to
  design and sell computers.
• Computers are defined as a mix of
  characteristics, i.e. cheapness and performance.
• Computers makers are born specialised and buy
  components on the marketplace from specialized
  component suppliers. The design of semiconductors
  is based on the available component technology,
  i.e. transistors.
• Component firms sell their products to computer
  producers (as a function of the quality of their
  semiconductors) and to an external market, which
  is not explicitly modeled.
• Computers are sold to heterogeneous groups of
  consumers as a function of their achieved merit
  of design. At the beginning, component technology
  makes it possible to design computers
  mainframes - the characteristics of which appeal
  to consumers relatively more interested in
  performance rather than in their price.
• Computer firms sales are also influenced by
  phenomena of inertia and brand-loyalty
• By investing profits in RD firms improve the
  quality of their products. Some firms grow,
  others lose market shares and eventually exit.

20
Integrated Circuits

• Technological discontinuities in component
  technology.
• First, integrated circuits- become exogenously
  available.
• This new technology allows for the entry of new
  semiconductor firms.
• As they invest in RD and the new technology
  improves, they will gradually become more
  efficient than competitors belonging to the older
  generation, eventually displacing them.

21
Microprocessors

• After some more time microprocessors are
  introduced and again new component firms enter
  the market.
• Microprocessors make it possible not only to
  design better mainframes but also to design a new
  typology of computers which appeal to new groups
  of customers relatively more interested in the
  cheapness rather than in the performance of the
  machines.
• A new generation of computer firms enters the
  industry, opening up a new market personal
  computers.

22
Vertical integration

• The decision to produce component in-house should
  in principle be driven by considerations related
  to the relative achievable quality of the
  components designed in-house as compared to those
  offered by the specialist suppliers.
• However, computer firms can only conjecture about
  the quality of the components they might end up
  designing.
• The decision to vertically integrate is led
  (probabilistically) by the relative size of
  computer firms vis-à-vis (the largest) component
  producer.
• If computer producers are larger enough as
  compared to extant suppliers, they can fund a
  much larger flow of RD expenditures and achieve
  better quality.
• fears of supply shortages may induce vertical
  integration. Again, this is likely to be the case
  if semiconductor firms are small.
• The decision to vertically integrate depends
  probabilistically on the age of the component
  technology
• Early stages risks of getting stuck in an
  inferior trajectory
• Established trajectories the probability that
  new, superior generations of components may be
  frequently invented by component suppliers is
  lower.

23
Specialization

• Vertical disintegration is driven by a
  comparison between the merit of design of the
  components produced in-house vis-à-vis those made
  available by specialised semiconductors
  producers.
• This is likely to happen in the early stages of
  the development of a new component technology and
  as semiconductor producers grow big enough to
  sustain a high level of RD expenditures.
• After signing a contract, the computer producer
  is tied to the component firm for a given number
  of periods.

24
The Model

• Computers
• Computers are defined as a point in the space of
  characteristics, cheapness (i.e. the inverse of
  price) and performance.
• As a consequence of firms RD investment, the
  characteristics of computers of a given type
  improve over time.
• The position of a particular computer design at
  any time defines its merit of design (Mod) or
  quality. In turn, computers result from the
  combination of two main inputs, systems and
  components.
• The level of the merit of design, Mod, is given
  by a CES function
• (1)
• with A gt 1, 0 lt t lt 1 and r gt -1. The elasticity
  of substitution is 1/ (1 r) .
• Mainframes PCs.
• No diversification

25
Demand for Computers

• Customers of computers are characterized by
  their preferences about the two attributes that
  define a computer design - performance and
  cheapness.
• There are two customer groups big firms and
  small users
• Each customer group consists of a large number of
  heterogeneous subgroups. Within a particular sub
  group customers buy computers valuing its
  "merit", compared to other products. In addition,
  however, markets are characterized by frictions
  of various sorts, including imperfect
  information and sheer inertia in consumers
  behaviour, brand-loyalty (or lock in) effects
• (2)
• The propensity Li of computer i to be sold to a
  group of customers at time t is defined as
• (3)
• where Sit-1 is the market share the probability
  Pri of the computer i to be sold to a group of
  customers at time t is given by
• (4)
• From this firm if selected - the submarket buys
  a number of computers equal to Mit.

26
The market for components

• Systems are designed in-house by computer firms,
  while components may be also bought by
  specialized producers of semiconductors.
• three different component technologies
  transistors, integrated circuits and then
  microprocessors
• At the beginning of the simulation and at the
  time of each technological discontinuity a new
  cohort of firms (12 in this version of the model)
  enters the market, producing components with the
  latest available technology.
• The demand for components, faced by component
  specialized firms, comes from two sources
• External demand, not modeled explicitly
• demand for components from computer firms which
  have decided to outsource component production
  (specialized firms).
• When a computer firm decides to outsource
  components production, it starts to scan the
  market for potential suppliers. Suppliers are
  chosen by computer firms on the basis of a
  ranking of the merit of design of the components
  produced by each supplier. Given uncertainty and
  imperfect information, this choice is partly
  stochastic.

27
Market for components

• Specifically, a specialized computer producer
  will sign a contract with a component producer
  selected by using a probability function that
  considers the technical quality of the
  components the higher the quality of the
  component , the higher the probability of signing
  a contract with a computer producer.
• (5)
• where LitCOMP is the propensity of component
  producer i to be selected and Pri,t is the
  probability of a supplier to be selected.
• A component firm which signs a contract sells a
  number of components which is related to the
  proportion to which components and systems
  combine in order to build a computer (in the
  current parametrization, the proportion is one to
  one). After signing the contract the computer
  firm is tied to the component supplier for a
  certain number of periods. When this period
  expires, a new supplier might be selected, using
  the same procedure, if the firm still decides to
  buy component on the open market.

28
Firms behaviour and technical progress

• Firms start with a given (randomly drawn) mod and
  they start to sell make profits and invest in
  RD spending.
• Price is obtained by adding a mark-up, m , to
  costs which in turn are derived from the merit of
  design achieved by a computer. The price of
  components charged by component suppliers is
  determined symmetrically by adding a fixed
  mark-up to unit production costs.
• RD expenditures are calculated as . a constant
  fraction of profits
• Technical progress double draw scheme. In each
  period firms draw the value of their Mod from a
  normal distribution. The number of draws that any
  one firm can take is set proportional to its RD
  spending
• In each period, the values of the Mod obtained
  through the firms draws are compared with the
  current Mod, and the higher among these values is
  kept. Thus, more draws increase the likelihood to
  get a higher Mod for both systems and components.
  

29
Public knowledge

• The extent to which technical progress is
  possible for each firm, given their RD
  investment depends in turn on two variables the
  level of publicly available knowledge and the
  value of the Mod achieved by the firm in the
  previous period
• Public knowledge is specific to each basic
  component technology and it grows exogenously
  over time. When a new technology is introduced,
  its corresponding level of public knowledge is
  lower than that reached by current technology,
  but then it grows faster and at a certain time it
  overtakes the public knowledge of the older
  technology. The rate of growth of public
  knowledge starts to slow down as time goes by.
  An integrated computer firm decides to adopt the
  new technology when the mean of its own
  distribution becomes inferior to the level of the
  public knowledge of the new technology.
• The mean of the normal distribution from which
  the values of the merit of design (Mod) of system
  or component are taken, is a linear combination
  of the Mod at time t-1 of firm i and of the
  level of publicly available knowledge, PK, at
  time t
• And
• tgttmcK, lim and nu are parameters and tmck is the
  date of introduction of the new component
  technology.

30
RD

• Integrated producers enjoy some coordination
  advantages as compared to specialized producers
  As a consequence, the productivity of their RD
  efforts on components is enhanced by a spillover
  effect
• cCOMPm is the difference between the price of
  component in the open market and its actual cost
  for the producer it represents savings gained by
  self-production. An integrated computer firm
  allocate these resources to component RD.
• Specialized computer producers invest all their
  RD on systems and obviously do not enjoy the
  coordination advantages.
• Component suppliers spend all their RD on the
  development of components.

31
Vertical Integration

• Probability of integration
• Let
• where
• AgeOfTechK ( K TR,IC,MP) t (Starting time of
  Technology K) Qit is the sales of the computer
  producer biggestQt COMP is the sales of the
  largest component producers and w is a parameter
• Then
• where B is a parameter. If the probability of
  integration is bigger than a number drawn from a
  uniform distribution (0-1), integration occurs.

32
Specialization

• The probability of specialization for each firm
  is
• where maxModCOMP is the higher component Mod
  available on the market.
• Then
• A is a parameter and if Prob(Specialize) is
  bigger than a number randomly drawn by a uniform
  distribution, specialization will occur.
• A specialized computer firm may also decide to
  change its supplier, if a better producer has
  emerged in the market. The procedure for changing
  supplier follows the same rule for the
  specialization process.

33
Exit

• Computer firms the variable
• Eit (1-e)lshr eshareit
• is computed, where lshr is the inverse of the
  number of firms active in the market at the
  beginning of the simulation (i.e. the market
  share that would have been held by n equal
  firms), shareit is the market share of firm i
  at time t and 0ltelt1 is a parameter. Then, if Eit
  lt E, where E is a constant threshold, the firm
  exits.
• The rule governing the exit of the semiconductor
  producers is different and simpler. The
  probability of exiting of any one firm is an
  increasing function of the number of consecutive
  periods in which it doesnt sell to a computer
  producer.

34
Standard simulation

• Assumptions
• the size of the external market is relatively
  small in the case of transistors and integrated
  circuits and significantly higher for
  microprocessors
• lock-in effects in demand are very important for
  mainframes and much less so for both PCs and
  components
• the introduction of microprocessors allows much
  higher improvements in component designs as
  compared to the older technology this
  technological discontinuity is much sharper than
  the previous one.

35
The Standard Simulation Results

• A dominant firm emerges quickly in the mainframe
  industry and becomes vertically integrated.
• In the semiconductor industry, concentration
  first rises as demand from computer producers
  exert strong selective pressures and firms leave
  the market. The decrease of the number of
  mainframe producers gradually softens competition
  and the Herfindahl index declines in the
  component market. Concentration begins to grow
  again as a vertically integrated monopolist comes
  to dominate the computer market component
  suppliers are left with no demand from the
  mainframe firms and exit continues.
• At the time of the introduction of integrated
  circuits, new semiconductor companies enter the
  market and concentration drops sharply.
• The dominant mainframe firm remains vertically
  integrated, because the external market is not
  large enough to sustain a significant growth of
  the new entrants and of the quality of their
  components. The absence of a demand from the
  mainframe producer induces a shakeout and
  concentration gradually increases in the
  semiconductor market

36
The age of microprocessors

• Microprocessors constitute a major technological
  advance as compared to integrated circuit and a
  large external market supports a significant
  improvement in the quality of the new components.
  
• the PC market opens up, generating a substantial
  new demand and fuelling further advances in the
  merit of the components.
• The computer leader decides to specialize
• Competition in components large external market
• The establishment of a monopoly in the supply of
  components contributes however to maintaining
  competition in the PC market, since all firms get
  their microprocessors from the same source.
• In the last periods of the simulation, as the
  microprocessors technology matures, the
  incentives towards specialization become slightly
  less compelling and, in some simulations, the
  mainframe firm and some PC producers decide to
  vertically integrate

37
History-Friendly Simulation Results
38
Effects of public policies in a dynamic setting
key variables

• a) the strength of increasing returns
• b) the timing of the arrival of the technological
  discontinuities and their magnitude
• c) the degree of heterogeneity of agents, in
  particular as it concerns consumers
• d) the interactions between the upstream and
  downstream industries.
• Policy ineffectiveness
• Indirect and unintended effects

39
Supply side policies

• Fostering the diffusion of knowledge
• support for public basic research
• Antitrust
• support the entry of new actors

40
Demand side policies

• support open standards so that lock ins are
  avoided
• use public procurement in a selective way, so
  that the most advanced technologies are
  supported
• use public procurement as an additional market,
  in order to provide larger markets and
  opportunities for firms growth and innovation.

41
policy ineffectiveness

• cumulative nature of the market. Small initial
  advantages tend to grow bigger over time and
  catching up is almost impossible.
• Leaders do not only have a static advantage
  they run faster than laggards.
• From leveling the playing field to positive
  discrimination? policies should make competitors
  able to run faster than the monopolist, and not
  just remove static disadvantages.

42
Investment in basic research

• Increase in the rate of growth of public
  knowledge
• Faster integration in transistors and integrated
  circuits increase in integration in the
  microprocessors era better computers induce
  higher demand and faster firms growth
• Great increase in the rate of technical change

43
Favouring circulation knowledge

• Firms can draw from existing techniques
• Little effect on concentration in mainframes
  (high bandwagon)
• Concentration decreases in PCs and components
• Increase in the rate of technical change

44
Antitrust

• Antitrust intervenes when a firm has a market
  share gt 90 and breaks the monopolist in two
  companies.
• No effect given strong lock-in effects, a new
  monopolist emerges very quickly
• Antitrust intervenes also by reducing lock-in
  effects
• Effects
• competition in mainframes
• Slower vertical integration
• Concentration grows in components market in the
  age of transistors and integrated circuits
• Competition and specialization in all markets in
  the microprocessor era
• No effects on the rate of technical change

45

• timing of antitrust policy Early intervention
  has almost no effect because a new monopolist
  emerges very soon. Late intervention generates
  a duopoly, because increasing returns on the
  supply side were fading away by that time.
• small and transitory effects.

46

• cumulative nature of the market. Small initial
  advantages tend to grow bigger over time and
  catching up is almost impossible.
• Leaders do not only have a static advantage
  they run faster than laggards.
• From leveling the playing field to positive
  discrimination? policies should make competitors
  able to run faster than the monopolist, and not
  just remove static disadvantages.

47
Support to entry of new firms

• doubling the number of firms entering after
  each discontinuity in the computer and in the
  component market No effect
• twelve new firms enter each market every forty
  period. In this latter case, new firms enter
  having the average merit of design present in the
  industry.

48
periodic entry

• no changes in mainframes.
• In microprocessors, periodic entry does not
  change the leadership of the largest firm, but
  reduces industry concentration by greatly
  increasing the number of firms that are active
  and survive in the industry.
• bandwagon effects are weaker than in the
  mainframes market new entrants in the component
  markets compete with a leader which is still
  building its dominant position and they are
  therefore able to survive. The later cohorts of
  entrants, though, find it increasingly difficult
  to compete.

49
Timing

• Why can the entry of new firms as contrasted
  with an increase in the initial number of firms
  - limit the tendencies towards monopoly even in
  the long run? If increasing returns are
  sufficiently weak to allow for a gradual process
  of concentration, the early new cohorts of firms
  enter with a level of the Mod which is higher
  than that attained by initial laggards and
  sufficiently high as compared to what has been
  achieved by the emerging leader, to provide them
  with a chance of surviving.

50

• Moreover the market size for microprocessors is
  rather large, because it is composed by the
  demand coming from the specialized mainframe
  producers and PC producers, and by the external
  market, so that the survival and growth of
  successful new firms is possible.

51
Support for entry of new firms in microprocessors

• Herfindahl index

52
Support for entry of new firms in microprocessors
MP average Mod (avMod) and best mod (BEST MOD)
53
Reduction of lock-ins and support for open
standards

• Reduce bandwagon
• The effects on concentration are significant. The
  Herfindhal index in both the mainframe and
  microprocessor markets drops significantly. As a
  consequence of the reduction in concentration in
  microprocessors, also concentration in personal
  computer is lower, because no microprocessor
  leader is present boosting the growth of some PC
  firms

54
Support for open standards Herfindahl index
55
Support for open standards integration ratio
56
Selective public procurement

• In the age of transistors and integrated
  circuits the best component firm gets additional
  sales from the external market
• Concentration increases in component market
• Slower integration
• When public procurement stops the leading
  mainframe producer regains a major size advantage
  vertical integration takes place again - public
  procurement has to be permanent

57
Selective public procurement simulation

• transistors and integrated circuits Herfindahl
  index

• transistors and integrated circuits best mod

58
Permanent public procurement

• In the transistor period, the mainframe industry
  is not highly concentrated yet and not strongly
  vertically integrated more transistor firms
  survive
• In the integrated circuit period, concentration
  in mainframes is already very high. The effect
  of public procurement is to reinforce the
  existing leadership in components.
• Lower vertical integration

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Unintended consequences
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The creation of open standards in computers
leads to the emergence of concentration in
components

• open standards and elimination of the bandwagon
  effects reduces concentration in all industries.
• lower concentration in mainframes entails a
  reduction in vertical integration and an increase
  in the demand for microprocessors from the
  previously integrated large mainframe producers.
  
• a de-facto standard concerning the interfaces
  between components arises, showing itself in the
  form of the emergence of a bandwagon in component
  demand.
• This market-driven increase in bandwagon in
  microprocessors created by the additional demand
  from large specialized computer producers
  generates concentration in the microprocessor
  markets.
• unintended consequence of policy.

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The creation of open standards in computers leads
to the emergence of concentration in components
63
Antitrust policy in computers leads to the
emergence of a monopolist in a related system
market and the disappearance of a the merchant
component industry

• an antitrust policy breaks the mainframe
  monopolist in two
• one of the two producers diversifies into
  personal computers,
• a new large producer enters this industry with a
  relevant brand name.
• Because of its size, reputation and marketing
  capabilities, this producer is able to increase
  the level of the bandwagon effect in the personal
  computer industry and become the leader in this
  industry. This is a first unintended consequence
  of public policy.
• In addition, the new personal computer monopolist
  may become vertically integrated into
  microprocessors.
• This may lead to the disappearance of the
  microprocessor industry, if there are no other
  external markets for semiconductors. This is the
  second unintended consequence of the policy

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Antitrust policy in computers leads to the
emergence of a monopolist in a related system
market and the disappearance of a the merchant
component industry
65
Open standards in systems lead to the emergence
of a merchant component industry

• highly concentrated computer and PC industries
  (high bandwagon) with large vertically integrated
  firms
• no external market for components no component.
• policy of open standards in mainframes and PCs
  decreases the bandwagon effect and increases
  competition.
• switch to specialization emergence of an
  independent merchant component industry

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Conclusion

• policy in dynamics, interdependent markets,
  characterized by heterogeneous agents, cumulative
  technical advance at the firm level, major
  technological and demand discontinuities and
  demand with lock-ins and network effects
• Potential policy ineffectiveness
• Side effects
• Unintended consequences
• Pharmaceuticals and patent protection