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The case for breaking up Facebook and Instagram

It’s not too late to create a meaningful check on the power of Mark Zuckerberg’s company.

Kevin Systrom, chief executive and co-founder of Instagram, announced this week his plans to leave the company. (Jeff Chiu/AP)

When the founders leave a tech firm, it’s a big moment — a symbol that something important has changed, usually at the heart of the company. This week, as Instagram founders Kevin Systrom and Mike Krieger prepare to leave the popular photo-based social media site, which Facebook bought for $1 billion in 2012, there’s little doubt that change is coming — and not for the better.

Facebook is widely expected to refashion the firm into a fully integrated sub-unit of Facebook — which, given Facebook’s record, suggests minimal privacy and maximized advertising. But it’s also clear, in retrospect, that the Instagram acquisition helped reinforce the dominance by Facebook of the social-networking world.

A key question has been lost in coverage of the transition: Just why is Facebook in control of Instagram, its greatest natural competitor, in the first place? Isn’t antitrust law supposed to stop companies from buying off their rivals to achieve market dominance? The answer is that we — the Obama administration’s antitrust enforcers — blew it. Our standards for assessing mergers, fixated on consumer prices, were a poor match for the tech economy and are effectively obsolete.

A fixation on consumer prices just doesn’t work for “attention merchants” — those firms that give away “free” products in exchange for time and attention and resell their audiences to advertisers. If a better analysis is used, it becomes clear that the Facebook acquisition of Instagram was illegal to begin with. Fortunately, it is not too late to fix the error. The antitrust authorities have the power to undo the merger and restore real competition.

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Let’s return to 2012 when Facebook and Mark Zuckerberg, in the midst of taking his company public, faced their first real competitive threat. Two young men, Krieger and Systrom, both engineers, the latter a photography buff, had rigged up a mobile photo app (with nice filters) and attached it to a social network. It was a simple but ingenious idea, and within two years the app had 30 million users. It would grow to 70 million users by the end of 2012, with a growth rate exceeding Facebook’s at its prime.

What made Instagram especially dangerous to Facebook was that it was strong where Facebook was weak. Instagram was native to mobile; Facebook was struggling on that platform. And photo sharing was incredibly fast and easy on Instagram. As business writer Nicholas Carlson observed, Instagram “allows people to do what they like to do on Facebook easier and faster.” Perhaps even more alarming, Instagram appealed to a younger demographic and had a cachet that Facebook was starting to lose.

In short, Instagram threatened to do to Facebook what Facebook did to MySpace in the early 2000s — rob it of the young and restless who do so much to drive the future. As tech writer Om Malik wrote at the time, Facebook was scared because it “knew that for first time in its life it arguably had a competitor that could not only eat its lunch, but also destroy its future prospects.”

Facebook could have risen to the challenge by improving its product. Instead, it bought its competitor and eliminated the threat.

When a firm attempts to buy a competitor, especially a fast-growing and innovative challenger like Instagram — alarm bells are supposed to ring in Washington, D.C. Ever since Standard Oil became an oil-refining monopoly by acquiring all of its rivals in the 1870s, the federal government has regarded the building of market power through acquisitions with deep suspicion. Yet the Federal Trade Commission approved the merger without conditions. And this was no one-time lapse: The commission would soon allow Facebook to buy WhatsApp, another dangerous competitor.

What happened? In retrospect, the agencies did not have the tools to understand the markets or the stakes. That’s because, over the last 30 years, the merger review process has become narrowly focused on whether consumer prices might rise following a merger. The process involves teams of economists making predictions about those prices. The approach has its flaws even in traditional markets, but in the tech industry it’s a non-starter.

In the case of Facebook and Instagram, the agencies confronted two firms that did not charge users, instead competing chiefly for time and attention. As Instagram hadn’t begun to sell ads, the antitrust agencies were unable to see a problem. The British competition office even went so far as to publicly assert that the companies were not competitors at all. It takes many years of training to reach a conclusion this absurd.

In part, those findings reflected the lasting influence of 1990s-style thinking about the Internet. Even into the 2010s, it was believed that “cyberspace” was still a realm where barriers to entry were all but nonexistent; competition was always a click away. Monopoly was simply impossible on the Internet; a firm would be lucky to last five years, or so everyone thought. That is, until Google, Facebook and Amazon proved everyone wrong about lasting Internet dominance.

Without Instagram competing for Facebook dollars or taking a serious run at its core user base, Facebook has been free to assert its market power, by piling on more ads for users, jacking up its advertising rates and also invading privacy without fear of people fleeing for an attractive rival — even if it remains “free.” (Yes, Snapchat is a direct competitor to Facebook, but as things stand, it’s the only serious competitor.)

I criticized Google. It got me fired. That’s how corporate power works.

But it’s not too late to reverse the merger. While it is not typical practice, the government is free to undo a consummated merger that violates the law, especially when there is reason to suspect regulators didn’t understand the markets well enough at the time of the actual merger. (A prominent example was the 2010 unwinding of Whole Foods’s 2007 acquisition of the Wild Oats brand and stores.) In fact, the Supreme Court has approved breakups as long as 40 years after the original merger.

Establishing better standards for the review of tech platform mergers means supplementing economic analysis, not abandoning it. It means assessing competition in attention markets in fresh ways: In such markets, as economist David Evans argues, the relevant metric is user time, not price.

Regulators also ought to make reasonable predictions as to whether firms may become future competitors, even if they are not present competitors — a doctrine largely neglected since the 1980s. Finally, enforcers need to be highly sensitive to the elimination of “mavericks” — firms like Instagram poised to pose an existential challenge to the incumbent.

Analysis along these lines would have led U.S. and European enforcers to block the merger, allowing Instagram to emerge as Facebook’s principal competitor, promoting the process of competition as intended by the antitrust law.

As this analysis suggests, the case for the breakup should be relatively clear. Today, we can measure the effects of the lack of competitors to Facebook, in terms of higher prices and lower quality.

It is true that sometimes a breakup can undo benefits and efficiencies achieved by a merger. But when it comes to breaking off Instagram, it is hard to see what those might be. What seems more obvious is that an independent Instagram would be in a position to fashion itself into the full-fledged competitor to Facebook it was on track to becoming six years ago.

It can do that by offering things people seem to want, like fewer privacy violations, less advertising and a greater resistance to Russian efforts to throw American elections. (On the same logic, the WhatsApp acquisition should be nullified, as well.) Instagram could play, in the social media market, the role Lyft plays for Uber in the ride-hailing market, offering an alternative that people feel better about using.

The stakes here are more than merely economic. Domination of an important industry like social networking yields political as well as economic power. The American system places faith in competition as an answer to that kind of unchecked private power. It is not too late for Instagram to challenge Facebook. Perhaps Systrom and Krieger can return to the company to lead the charge.