Living Economics

Battles of Standards
Winners in the battle among proprietary standards can keep out competitors and lock in existing customers

Among the achievements of the First Emperor of China were the standardization of the Chinese written language and the standardization of the gauge of road tracks. Once standardization took hold, scribes did not have to waste time learning more than one language and carriage builders did not have to stock axles of different widths. But it also drove a lot of people who were trained in the outlawed standards out of their jobs.

In the modern times, the battles of standards rage on at every junction of technological change. The most notable example was the battle of dominance between the Betamax and the VHS format of videotape recording. Currently, the fight for dominance between the Blu-ray and HD DVD high-definition disc formats is heating up*. A lot of money is at stake in any battle of standards. The winner becomes a monopoly that can lock in their captive customers. To the victor goes the royalty from licensing the standard and the pricing power. While the battle between standards is being fought, most potential buyers would postpone purchase for fear of buying into a losing standard. In the end, it is the early adopters who ultimately decide which standard will win out.

Although competing standards offer more choices, users and third-party suppliers of accessories care more about having one standard than which standard. Incompatible standards simply perpetuate user confusion. If users could have their own way, they would prefer an open standard. With an open standard, they could enjoy wider choices and lower prices from competing producers. But the standards contenders care more about their own proprietary standards than having one common open standard. A proprietary standard keeps out competitors and locks in existing customers.

The battle between the IBM PC platform and the Apple personal computer platform is a classic example of a battle between an open system and a proprietary system. Using off-the-shelf components, the PC was quicker to come to the market and cheaper than the Apple computer which depended on proprietary components. But IBM did not make much money from championing the open standard. Instead, the money was made by Microsoft that came up with a proprietary operating system which locks in its captive customers. But Apple did not make much money from selling hardware or software because its proprietary hardware was too expensive to attract a big enough customer base to sell much software.

Now Microsoft is under attack from an open-source operating system (Linux) and the open document format. If these attacks succeed, the barrier to exit from Microsoft’s proprietary systems would collapse.

In a small market, a stalemate between standards tends to reduce the scale economy of each of the competitors, resulting in higher prices for consumers.

In a curious way, widespread software piracy of a particular operating system might help that platform to become the dominant standard. For example, piracy of Microsoft software in China has definitely helped the Windows platform to become the dominant standard at the expense of the Linux system. And Microsoft will gain from this dominance once the Chinese government becomes serious about controlling software piracy.

Note:
  1. *Update: Blu-Ray won the battle. The winner was decided by content makers and big retailers under heavy lobbying from Sony. Sony invested heavily to win format battle, expecting the market to move from DVD to Blu-ray. But the victory was hollow because consumers have moved on to download and streaming services. http://www.theverge.com/2014/5/1/5670786/sony-earnings-adjustment-impairment-charges
  2. *Update: Blu-Ray won the battle. The winner was decided by content makers and big retailers under heavy lobbying from Sony. Sony invested heavily to win format battle, expecting the market to move from DVD to Blu-ray. But the victory was hollow because consumers have moved on to download and streaming services. http://www.theverge.com/2014/5/1/5670786/sony-earnings-adjustment-impairment-charges
References:
  • McNealy, S. "Software hardball." WSJ. 3/3/2006.
  • PC World. April 2006. "High-def discs battle for your bucks."
  • Fortune. 7/23/2007. "How Microsoft Conquered China."
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