Chapter 5:
Massive Coordination
Games
Overview
We look for opportunities with network
externalities
—where there are advantages to the vast majority of consumers to share a common standard.
Bill Gates
[1]
In the last chapter, we discussed simultaneous games and learned about various classifications of games. In this chapter we will focus on coordination games with millions of players. Recall that in coordination games the players need to synchronize their actions.
The introduction of the first telephones created a coordination game among its potential customers. If everyone else was going to get one then it made sense for you to get one too. If, however, no one you knew was planning to get a phone then it would be silly for you to buy one. Telephones are
valuable
only when commonly owned since the benefits of having a telephone are proportional to the number of your family
members
,
friends
, and
associates
who are also on the telephone network. Telephones exhibit network externalities because they become more valuable when more people own them. Network externalities give rise to mass coordination games.
Network externalities—the more people who have the product, the more valuable the product becomes.
You should buy a device that exhibits network externalities only if people you interact with also have the product or plan to buy it soon. Many products other than telephones exhibit network externalities. For example, no matter how much you might be impressed by the technology underlying fax machines, the
pleasure
you would receive by faxing yourself documents would probably not justify the machine’s cost.
Network externalities are the dominant strategic consideration in the computer industry. Indeed, Microsoft owes its vast success to network externalities.
[1]
“Microsoft, 1995 (Abridged),” Harvard Business School Case No. 799–1003, 1.
Attack of the
Clones
: An Extremely Brief History of the Personal Computer Industry
Before the personal computer, there were mainframes. IBM was the primary producer of mainframe computers. Large companies, not individual consumers, bought mainframes. Apple was the first company to sell easy-to-
set-up
computers to consumers and its early success caused IBM to enter the desktop computer market.
IBM wanted to sell a desktop computer, but it didn’t want to design all of the computer
parts
itself, so IBM asked Microsoft to write an operating system for its personal computer and asked Intel to manufacture its computer’s microprocessor. IBM’s personal computer was a huge success and far more people bought personal computers from IBM than Apple. Unfortunately for IBM, the sale of clones caused most of the profits from the personal computer industry to go to other firms.
IBM clones worked almost exactly as an IBM-manufactured computer did. Most importantly, they would run software that had been explicitly written for IBM personal computers. These IBM clones still mostly used Microsoft operating systems and Intel microprocessors. Microsoft and Intel made far more money from personal computers than did IBM or Apple. The vast majority of the personal computers in use today have Microsoft operating systems and Intel microprocessors—not
necessarily
because of these products’ quality, but rather because of network
externalities
and coordination
games
.
Success, Failure, and Network
Externalities
Many people
considered
and still do consider Apple computer’s operating system
superior
to Microsoft’s. Alas, Microsoft’s operating system dominates the market while Apple is a smaller (sometimes it seems dying) niche player. Network externalities caused by compatibility problems are the reason that most everyone buys Microsoft operating systems. Operating systems exhibit network externalities because software written for a computer with one type of operating system will not easily run on a computer with a different system. Thus, software written for Microsoft’s operating system will not work on an Apple computer or an IBM-compatible computer that has a non-Microsoft operating system.
Software makers want to sell as many copies of their product as possible. Therefore, most software
makers
devote
the majority of their resources to writing software for the type of computer that most people have. A consumer, therefore, benefits from having the same operating system as most everyone else. As a result, the more people who use the same type of operating system as you do, the more software there will be for you to use.
Microsoft’s continuing popularity arises from a
virtuous
, network externality–driven cycle; since most everyone uses Microsoft’s operating system, most everyone else wants to use Microsoft’s operating system. Consumers play a coordination game with each other where most people want to use the same kind of computer as everyone else does. For whatever reason, consumers have
chosen
to coordinate on Microsoft-based personal computers. As the game in Figure 28 shows, even if people prefer Apples, they might end up buying Microsoft-based computers. In this game if each person expects the other to buy a Microsoft-based computer, then they are better off getting one and receiving a payoff of 9, rather than getting an Apple computer and possibly receiving a payoff of only 5. What a great situation for Microsoft: Its product stays popular because it is popular.
Figure 28
Apple lost a chance to take advantage of network externalities. Bill Gates, in 1985, wanted to modify Macintosh’s operating system (which required Motorola processors) so it could be run on Intel processors. Apple
refused
to give him the necessary legal permission.
[2]
Had Apple’s operating system been made compatible with Intel chips, then Apple would have benefited from the network externalities that made Gates so rich.
[3]
Microsoft
understood
what Apple didn’t: Where network externalities are
concerned
,
size
doesn’t just matter, it’s the dominating consideration.
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Like Microsoft, Intel also benefits from network externalities. Since most computers run on Intel microprocessors, software developers make most of their products compatible with Intel microprocessors, which, of course, causes most consumers to want to buy Intel-based computers. As with Microsoft’s operating system, Intel microprocessors are popular because a lot of people buy them.
[2]
Lessig, 63.
[3]
Ibid.