Enablers and Destroyers
When the railroad was invented and the network started to spread over the continents, it had changed the industry forever. Because railroads enabled fast and efficient mass transportation over long distances, businesses found new markets for their products.
Regions that had rich deposits of coal, iron ore or other ressources but no connection to waterways could finally ship their goods to factories. Farmers could sell their produce not only on the local market but all over the country. This had reduced prices for goods for both factories and consumers. But it also threatened existing businesses that could not compete with the lower prices of imported goods.
With the rise of the Internet, fast and efficient transporation of information became possible. This brought us online shopping, video on demand and Wikipedia. But existing businesses like local shops, video rentals or encyclopedias face existential threats by this change.
Neither the railroad nor the Internet started this process that we now call Globalisation. Even before the railroads, goods had been transported globally with sailing ships or caravans. Information had travelled the globe with telegraph and telephone lines decades before the first computers. But both networks enabled dramatic changes, as they reduced costs and increased speed and capacity of the physical and information networks by several magnitudes.
What is the real asset of Facebook or Twitter? It is their network. They reach hundreds of millions of customers and can use this reach to sell advertisements or perform data analytics.
Due to the Network Effect, they also form monopolies. Because the benefit for each user increases with the number of users that are part of the network, bigger networks are more attractive than smaller ones and thus will attract more members. Because each user has limited time, they will tend to use as few social networks as possible, which favors the bigger networks. Eventually, as one social network grows it will displace all other networks. Once a social network is established, it is almost impossible to replace it, as Google had to learn.
The same mechanics work for railroads, too. A bigger railroad network is obviously more attractive, because customers have more options where they want to ship their goods or where passengers can travel.
Customers would also favor the choice between multiple networks, so they receive better prices. But the space available for building a railroad is limited, thus only very few lines can actually be built. Once all the space is taken, no new competitors can enter the market. So the network effect here will lead to a monopoly or sometimes a duopoly of railroad companies in certain geographical areas.
A global network can only work if it operates on common standards that all participants use. As I showed in this article, both the Internet and the railroads have created a set of interfaces. Every device that implements these interfaces can use the network. This is a prerequisite for the growth of each network, but also an impediment for later changes. So it is of vital importance that the interfaces are chosen in a way that allows for later backward-compatible changes.
For railroads, the common interface is the interface between the rails and the vehicles. All vehicles that have the correct gauge can access the network. There is also an interface between the vehicles: The couplers. All vehicles that follow this interface can be formed into a train that travels the network.
In the Internet, this common interface is the TCP/IP protocol family. On top of this set of interfaces, all kinds of services could evolve in the Internet — from emails to websites to e-commerce, the Internet of things and online video.
Today, many people fret over the power that the giant Internet companies have over our lives. Amazon seems to control all the e-commerce, and Facebook is for some the main information source. They almost form monopolies in their respective lines of business. This gives them enormous power over our lives, which could be misused — either by the companies themselves, or by other powers that could use them for manipulation.
A similar situation existed at the heyday of the railroads in the United States. In the 19th century, they had become the most important mode of transportation for the country. Steam locomotives had driven steamboats out of the market. Trucks and airplanes were not invented yet. So the railroad companies had enourmous power. They could decide to connect a town to their railroad or threaten to build around it. They could set rates at their own will. This created enourmous wealth and power in the hands of a few moguls like Cornelius Vanderbilt or Jay Gould, just like the power that Internet entrepreneurs like Mark Zuckerberg and Jeff Bezos have today.
This unparalled concentration of economic power provoked a backlash by the public and led to the formation of the Interstate Commerce Commission. It regulated the tariffs that the railroads could charge and the lines they were allowed to operate.
In the 20th century, cars, trucks and airplanes became vital threats to the American railroads. Airplanes travel long distances much faster, and cars and trucks are more flexible than the fixed railway lines.
But the regulations of the ICC prevented the railroads from adapting to the new competitions, because they did not have the flexibility to close unprofitable lines or adapt the rates they charge. So they lost a lot of traffic to the new mode of transport.
Only in the 1980s was the ICC finally abolished and the railroads could adapt to the new situation. It led to a big wave of consilidation between the railroads. The names of many famous railroad companies ceased to exist.
The 80 years of enourmous growth and profit were followed by another 80 years of regulation and decline. Given the power of the Internet companies today, it is very much possible that a similar thing will happen to them, as the public decided it is too dangerous to leave them unregulated.
The network of the railroads brought us the goods of the world and gave us the opportunity to travel it. With the Internet, we can access information from all over the globe.
Both networks are enourmously important for our daily lives. Through the network effect, both form natural monopolies and thus have to be regulated by the state. This happened for the railroads after decades of unregulated growth.
The alleged manipulations of the US presidential elections over social media show that unregulated Internet companies can be a problem for the public.
In the current discussion about the power of the Internet companies, we have to look at the historical example of the railroads to understand how we could deal with them.
The real worth of a network comes from the value that it brings to the public. And the other way round, the public gives the network its worth. If the network proves harmful to the public, then the public needs to reshape the network to restore the state where the network is useful for it.
This also works the other way. When the regulations prove harmful to the network, then they have to be changed. For the railroads, both developments took 80 years. Let’s hope it does not take that long for the Internet.