COMPUTERS

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A HISTORY FRIENDLY MODEL OF THE CHANGING
VERTICAL SCOPE OF FIRMS IN OF THE COMPUTER AND
SEMICONDUCTOR INDUSTRIES F. Malerba, R. Nelson,
L. Orsenigo and S. Winter
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Understanding the determinants of specialization
and vertical integration in related industries
in uncertain and dynamic environments,
characterized by technological
discontinuities. Major factors capabilities,
technical change and market size Co-evolutionary
processes
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• 1. The history of the industries
• The conceptual framework
• History-friendly models
• The main structure of the model
• The baseline simulation
• Counterfactual analyses
• What did we learn?

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• Focus on
• - the history of the American industry
• standard components
• vertical integration of system producers into
  component RD and production (upstream vertical
  integration)
• We will not discuss
• Second sourcing
• Intermediate organizational forms (such as R
  networks and partial integration)

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• A BRIEF HISTORY
• OF THE COMPUTER AND SEMICONDUCTOR INDUSTRIES
  (1950-1985)
• Three main periods examined
• Mainframes and transistors as their main SC
  components
• Emergence of IBM as monopolist in mainframes
• b. Introduction of the integrated circuit (IC)
• c. Introduction of microprocessors (MP) and
  birth of the personal computer (PC) industry

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Vertical integration and specialization patterns
Early in the history of the computer industry,
most computer producers were not vertically
integrated. Then some became vertically
integrated. With the introduction of the
integrated circuit, IBM was fully integrated into
IC, because of coordination advantages (IC
embedded system elements), fears of leakages of
strategic information and security of supply
reasons. With the introduction of
microprocessors (MP), IBM and other vertically
integrated producers dis-integrated from the
large scale production of standard semiconductors
and moved to specialization, because they faced a
major technological discontinuity and quite large
and competent MP firms.
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• From history
• COMPETENCES
• accumulation of competences in specific
  technological or market domains (IBM, Intel)
• coordination and integration capabilities
• TECHNOLOGICAL DISCONTINUITIES
• if major, there is destruction of
  established competences
• SIZE OF FIRMS (which affects RD expenditures and
  security of supply)
• SIZE OF DEMAND
• MARKET STRUCTURE of two vertically related
  industries

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A capability-based, dynamic appreciative theory
of vertical integration and specialization
1. Competence accumulation in specific
technological and market domains 2.
Competence destroying technological change
3. Coordination and integration
capabilities Ref Malerba-Nelson-Orsenigo-Winter
ICC 1999 Jacobides-Winter SMJ 2005
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Capabilities take time to develop Decisions to
specialize and vertically integrate are not
symmetrical The distribution of capabilities
among all industry participants are
relevant Market selection amplifies the effects
of capabilities on the vertical scope of
firms The identity of firms affects the
development of capabilities
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Lets consider a system industry Capabilities
and technical change interact in specific
ways. When technical change proceeds along a
well defined trajectory, vertical integration of
system producers will take place if component
capabilities and system capabilities are related
in terms of knowledge or if the capabilities
of coordinating and integrating components and
systems into new products are important. When
technological change in systems has a major
discontinuity, vertical integration may take
place because of the misalignment of the
capabilities of system producers and component
producers (for example, because of the a slow
responsiveness in the development of new
capabilities in new components by existing
component producers) .
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The opposite holds for specialization When
technical change proceeds along a well defined
trajectory, specialization of system firms may
take place when component and system companies
are quite different in their knowledge and
competences. When technological change in
components has a major discontinuity,
specialization of system firms may take place if
totally new capabilities are needed for
developing new components and entry is relevant.
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However also MARKET SIZE may become a major
factor affecting vertical integration and
specialization. Think of the market for PC and
the derived demand for semiconductor Or think of
American military procurement For example, in
addition to a market for components related to
large systems, an additional large external
markets for components may support the growth
and the specialization of component suppliers,
which can therefore develop their capabilities
and become quite innovative compared to
vertically integrated system firms. Relatedly,
the absence of external markets, make components
producers quite dependent on the decision to
integrate or specialize by the existing system
industry.
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Also the emergence of a powerful MONOPOLIST may
have a role in integration and specialization Hig
h CONCENTRATION in the system industry may lead
to vertical integration in periods of
incremental technical change if system producers
are confronted with an ATOMISTIC component
industry (because of security of supply
reasons). On the contrary, a FRAGMENTED system
industry confronted with a MONOPOLISTIC component
industry may have a drive for specialization
(because of the large size of the R-D expenditure
of the component monopolist).
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• All these factors are closely related
• and cannot be examined in isolation.
• So vertical integration and specialization are
  the result of the CO-EVOLUTION of competences,
  technological change, and the size of markets.

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HISTORY FRIENDLY MODELS (HFM) HFM intend to
enhance the understanding of particularly
interesting and important phenomena HFM are
simulation models HFM are models which aim to
capture in stylised form qualitative theories
about mechanisms and factors affecting industry
evolution and technological advance They do not
aim to match the quantitative values observed
They do not specify the model parameters as
close as possible to actual empirical values
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HFM aim to explore whether particular mechanisms
and forces built into the model can generate
(explain) the patterns examined HFM are guided
by verbal explanations and appreciative
theorizing HFM are evolutionary boundedly
rational agents behavior guided by routines
learning and capabilities as key variables
historical processes competition and selection
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HFM establish both runs that match the
qualitative features of historical patterns and
runs that do not match the historical patterns
(counterfactuals analyses). They allow to
explore the role of specific factors and
mechanisms in industry evolution They tackle
several key questions in industrial
organizations and economics of innovation in a
dynamic and empirically-grounded setting
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THE MODEL
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Computers have a mix of chacteristics cheapness
and performance Computers use semiconductor (SC)
components SC components are sold to computer
firms and to an external market At the
beginning of the evolution of the computer
industry SC component technology- transistors-
makes possible to have mainframes which are sold
to big users (which are more interested in
performance than in cheapness) First
technological discontinuity in SC components
integrated circuits (IC) Entry of new SC firms
producing IC Mainframe producers adopt IC in
mainframes Second technological discontinuity
in SC components microprocessor (MP) Entry
of new SC firms producing MP MP are used in
mainframes and in the same time they open a new
market personal computers (PC). The new PC
market appeals to a new set of consumers
-individuals- who are more interested in
cheapness than in performance.
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• SPECIALIZATION AND INTEGRATION DECISIONS
• In the model
• VERTICAL INTEGRATION decision is led by
• - the relative size of the computer firm compared
  to the largest SC component producer
• the age of the SC component technology
• SPECIALIZATION decision is led by
• Comparison between the quality of SC components
  produced in-house and the quality of SC
  components available on the market

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COMPUTERS

• Merit of design M of computers

C components S systems
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DEMAND FOR COMPUTERS

w cheapness z performance s
market share
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DEMAND FOR COMPONENTS


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FIRMS BEHAVIOUR AND TECHNICAL PROGRESS

• PROFITS
  
• PRICE
• RD OF INTEGRATED FIRMS
• FIRM DRAWS
• MEAN OF NORMAL DISTRIB
• PUBLIC KNOWLEDGE

O cost
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VERTICAL INTEGRATION

A time from each discontinuity q
size
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SPECIALIZATION

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EXIT
Exit if E i,t lt E L inverse of the number of
firms active in the market at the beginning of
the simulation E constant
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THE HISTORY-FRIENDLY SIMULATION - Mainframes and
the emergence of IBM IBM vertically
integrates in SC components - Integrated
circuits (IC) Entry of new SC firms
IBM remains vertically integrated -
Microprocessors MP Entry of new MP firms
and a large external market for MP - A new
computer market (PC) emerges for different users
(individuals) PC producers remain
specialized and buy MP - A dominant
microprocessor firm emerges in SC industry IBM
dis-integrate
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History Friendly Simulation
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• TESTING THE MODELCOUNTERFACTUALS
• Does lack of external markets lead to more
  vertical integration?
• Do no demand lock-ins in mainframes lead to more
  specialization ?
• Do no demand lock-ins in semiconductors lead to
  more vertical integration ?
• Does a minor technological discontinuity in
  microprocessors lead to more vertical integration?

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No external market for SC
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No lock-ins effects on Mainframes
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No lock-ins effects on Microprocessors
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MP is not a major discontinuity
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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

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Antitrust simulation
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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, but
  decreases sharply in the era of microprocessors
• Slower integration
• No effects on the rate of technical change

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Selective public procurement simulation
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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
• Enormous increase in the rate of technical change

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Investment in basic research simulation
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Favouring circulation of knowledge

• Technical change is less cumulative at the firm
  level
• No effect on concentration in mainframes (high
  bandwagon)
• No change in integration
• Slight decrease in the rate of technical change
  in mainframes

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Favouring circulation of knowledge Simulation
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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
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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

• 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
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• CONCLUSIONS
• 1. The history-friendly model is able to
  reproduce the main stylized facts of competition
  and vertical integration in the computer and
  semiconductor industries
• Specialization and vertical integration are
  functions of competences, technological change
  and size of markets
• Co-evolutionary processes are relevant
• Specific conditions affect the vertical scope of
  system firms
• - Size of external markets
• - Magnitude of technological discontinuities
• - Lock-ins effects in demand
• 5. Policies inefficacy propositions and
  unintended consequences