A Competition Law Perspective on Interoperability

In common parlance, interoperability describes the ability for systems to work together with other systems or pieces of equipment [1]. Numerous digital laws—such as the Digital Markets Act (DMA) and the Data Act (DA)—each formulate their own legal definitions of interoperability for their specific scope of application. Article 2(29) of the DMA defines interoperability as the “ability to exchange and mutually use information via interfaces or other solutions, so that all hardware and software components interact with other hardware and software and function for users in the intended manner.”

In contrast, Article 2(40) of the DA describes interoperability as the “ability of two or more data spaces or communication networks, systems, connected products, applications, data processing services or components to exchange and use data in order to perform their functions.”

From a regulatory perspective, it is particularly important to distinguish between vertical and horizontal interoperability. Horizontal interoperability refers to the collaboration of similar products or services that compete with one another horizontally [2]. Typical examples here include messaging services and social networks: Horizontal interoperability exists between these networks when users can communicate directly with one another without having to use the same messaging service, or when interaction between social networks is enabled—for example, by allowing posts on one social network to also appear in the feed of another network. 

Vertical interoperability refers to the collaboration between upstream and downstream services, regardless of whether their providers are the same or different [2]. A classic example of this is the relationship between app developers and app stores: App developers need access to an app store to reach end users. Vertical interoperability exists when app developers have access to an app store and can benefit from the platform’s indirect network effects.

The degree of interoperability can vary in terms of quality [3]. For example, it is conceivable that an app developer is allowed to offer their apps in an app store, but that these apps are difficult to find. Compared to a prominent placement on the home screen, one would have to conclude that, while the app store operator has effectively granted the app developer access, there is only a limited degree of vertical interoperability in terms of quality [4]. Horizontal interoperability may also only be partially established for certain functions, meaning that different degrees exist here as well [5].

Against this backdrop, it is the task of courts, authorities, and practitioners to define precisely, on a case-by-case basis, which relationship and which degree of interoperability is at issue and is to be (re)established. Abstract definitions quickly reach the limits of legal certainty.

Considerations from competition economics

Among competition economists, there is broad consensus that interoperability entails both advantages and disadvantages [3], which must be weighed against one another on a case-by-case basis.

Benefits of interoperability

Horizontal interoperability in digital platform markets is intended to break down network effects and aggregate them into market-wide effects [6]. As a result, existing network effects are no longer company-specific but function, in a sense, as a public good [7, 8]. For platform operators, this lowers barriers to market entry, as they no longer need to first reach a critical mass of users to participate successfully in the market [9]. 

For users, in turn, a potential switch to another platform is no longer associated with switching costs resulting from giving up their existing network effects. Furthermore, they can interact with users of other platforms without switching platforms or engaging in so-called “multi-homing”[8]. This prevents the market from tipping in favor of a single dominant platform [8]. Competition under horizontal interoperability therefore no longer takes place for themarket but rather on the market [7], with small and large platform operators facing the same starting conditions (a“level playing field”) [7, 10]. 

If the core functions of a platform operate under horizontal interoperability, this will drive market participants to develop other unique selling points in order to attract users [8]. Horizontal interoperability thus sparks competition to introduce alternative product features. For example, platforms might introduce stronger filters against hate speechor enhanced privacy settings, which in turn would benefit users.

Vertical interoperability in platform markets aims to strengthen competition on related markets [9]. It lowers barriers to entry in related markets because potential competitors do not first have to develop their own platform infrastructure to enter the market [6, 9]. With uniform vertical interoperability standards, potential competitors face the same starting conditions as the vertically integrated platform company [7]. The resulting increase in competitive pressure stimulates innovation among all market participants and enables new business models [6, 8].

Effective competition in related markets can also have positive effects on competition in the original platform market [6, 11]. For example, a competitor in the related market might enter the platform market itself by reverse-engineeringthe platform architecture, facilitate the entry of a third company into the platform market, or develop a solution to bypass the central platform altogether [6, 11]. Vertical interoperability therefore prevents a dominant platform operator from isolating its ecosystem and leveraging its position from the platform market to related markets [12].

Costs of interoperability

Horizontal interoperability can have questionable consequences from the perspective of welfare economics: If an innovative competitor enters the platform market, it is desirable for that competitor to scale quickly and gain market share [8]. This is not possible under horizontal interoperability because even an innovative competitor cannot generate firm-specific network effects [7, 8]. Because the new competitor lacks the potential to scale its platform, and due to the users’ behavioral status quobias[13], users will remain with the now-inefficient platform instead of switching [9]. As a result, horizontal interoperability reduces the incentive for potential competitors to enter the market.

Adding to this, disruptive innovations in the fundamental platform infrastructure become impossible if they break with the existing standard for horizontal interoperability [9]. It thus leaves little room for differentiation and thereby threatens to freeze existing competitive conditions in the platform market [6, 8, 14].

Moreover, horizontal interoperability can never be fully achieved in practice [8, 9], particularly for digital services, which are subject to a high pace of innovation [8]. Among other reasons, this is because companies, especially small and medium-sized enterprises face technical and organizational difficulties when implementing highly complex interoperability standards [14-16]. From the user perspective, this results in noticeable incompatibility, meaning that, contrary to the theoretical ideal, significant network effects persist in practice [9]. This problem does not exist with multi-homing, in which consumers use multiple networks, each with a full range of features [8], but horizontal interoperability effectively precludes the benefit of multi-homing since the existence of basic horizontal interoperability significantly reduces user incentive [2, 8, 9, 15].

Similarly, vertical interoperability entails disadvantages when operating in the original platform market as well as related markets. First, vertical interoperability encourages so-called “free riding,” in which a company deliberately exploits the platform operator’s innovation efforts [17]. Free riding can reduce incentives for innovation in the platform market, since the operator’s innovations in the platform infrastructure benefit all companies (including direct competitors) [9, 18, 19]. Second, a company that relies on vertical interoperability enters into a special relationship of dependency with the platform company. As a result, it is particularly vulnerable to the power and arbitrary decisions of the platform companies [8, 9, 12].

Moreover, both horizontal and vertical interoperability pose data protection risks for consumers [2] because they require mutual data exchange between different providers [7, 8]. In the worst-case scenario, vertical interoperability can expose an existing secure platform architecture to malware, fraud schemes, and illegal and harmful content [20]. This shows that interoperability comes with both advantages and disadvantages from an economic perspective.

Challenges in applying competition law to interoperability

To determine whether interoperability has a positive or negative impact in any specific use case, a balancing of interests is necessary. This balancing of interests must not be limited to an abstract comparison of advantages and disadvantages. Instead, all advantages and disadvantages of the type and grade of interoperability must be considered and weighed on a case-by-case basis. This detailed assessment requires attention to all relevant individual circumstances. In the case of Microsoft[21], for example, the Commission weighed the expected positive and negative effects on the innovation incentives of all market participants before ordering vertical interoperability (the so-called Incentives Balance Test[3, 19, 22]).

The individual advantages and disadvantages of interoperability often depend on the prevailing market conditions of the specific case. For example, multi-homingin the smartphone operating system market entails particularly high costs. This is because, in order to simultaneously use multiple smartphone operating systems, users must first purchase several expensive smartphones [8]. As a result, users have little incentive to engage in multi-homing from the outset, meaning that horizontal interoperability is unlikely to have a negative impact on the incentive structure [8, 9]. In contrast, horizontal interoperability is less suitable for highly innovative markets where the risk of the interoperability standard becoming obsolete prematurely is particularly high [12, 23].

In markets with a significant power imbalance among competitors, asymmetric interoperability obligations can help alleviate the burden on small and medium-sized enterprises while also allowing them to benefit from the advantages of interoperability. This is because asymmetric interoperability obligations apply only to very specific providers, while other providers (competitors in the case of horizontal asymmetric interoperability and commercial users in the case of vertical asymmetric interoperability) benefit from them [2].

So, the central challenge for the application of competition law to interoperability can be summarized as follows: balancing competing interests lies in finding the level of interoperability that optimally stimulates innovation across the board. Equally, the platform operator must be granted sufficient control to ensure the platform’s integrity.

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