>These were my thoughts after reading the above article off of SlashDot.org, the greatest news source in the world.
What does Google pay itself? It sounds like Google may have to pay quite a bit. AdWords, as you mention, is both popular and successful. Also, the requirement of a high CTR to even be eligible to compete for popular words is good service to customers and keeps the market stable, away from new entrants that might play the lottery tipping the scales for a short period of time. But Google makes its money selling advertisements, and leverages their popularity through "desktop presence". What Google does by putting their own product above all is basically take the words off the market as "not for sale".
Business don't last long if they are stupid about their investments. What you are saying is that the RoI on a Google owned word is zilch. People won't (at least those that do a little homework) bid on words owned by Google, but at the same time, if you want your business to grow, you need to be on AdWords.
But how long does the glory last? Advertising isn't about convincing your customers to buy your product, it is more about making your customers aware that you exist, and hopefully establishing some name recognition. People click through to get more information, and congrats, you have some potential new customers because people now know you exist... but where does it go from there? You need to have something people want. Big business generally provide the product most people want, often making minority markets to expensive to pickup. This is why small business in the free and open economy will always exist, if not succeed.
So how do you compete against Google? You don't, per say. Rather, don't compete for the first spot that could cost you an infinite amount of money, compete for the second position that the minority market will go to after they discover these fancy new Google tools... just aren't for them.
This way, when Google is spending all their money on the #1 spot (in lost revenue), you will always be that inferior nuisance with the better RoI on advertising that they just can't get rid of.
It is like the small beverage company. You will never be bigger than Coke or Pepsi, but that was (probably) never your intention. They are likely to always be #1, but you can make it very expensive for them to stay there.
Essentially, people may click the first ad first, and more clicks means more revenue... but at a diminishing return. As you mentioned, Google hardly has a better or more popular product. Look of the only and growing major threat to Microsoft's profit viability: OpenSource; Superior products released under Gnu GPL.
But having a higher advertising efficiency than Google, Pepsi, or Amazon is unlikely a comfort any time your net revenue goes down.