001-037 6/11/06 20:03 Page 1

Technology

Markets

Regulation

Public policy

communications the next decade

A collection of essays prepared for the UK Office of Communications

Edited by Ed Richards, Robin Foster, Tom Kiedrowski 001-037 6/11/06 20:03 Page 2

November 2006

ISBN: 1–905774–08–7 978–1–905774–08–1

Published by Ofcom ©Ofcom 2006 001-037 6/11/06 20:03 Page 3

Foreword Viviane Reding Member of the European Commission, responsible for Information Society and Media

For many years, experts from all over the competition law and technology neutrality. world talked about the digital convergence of It takes account of the convergence of tele- communication networks, media content and communications, data transmission and devices. Today, we see that technological broadcasting services, by dealing with all convergence actually happening. communications networks and services (fixed, mobile, satellite, broadcasting and so forth) Traditionally separate markets – such as in a consistent way. The relevant Directives are telephony, internet and television – are a balanced and well-considered attempt to changing fast and converging while market provide a coherent framework for the delivery players quickly have to adjust their strategies of different services which traditionally have to this new reality. This is, for example, why been subject to different regulatory regimes. telecoms and cable operators are moving into However, it needs attention in a number of each other’s markets. areas to remain effective for the coming decade. The European Commission’s initiative i2010: Regulation fit for the future European Information Society 2010 is a comprehensive strategy for modernising EU In June 2006, the Commission launched a Foreword policy and deploying regulatory instruments public consultation on the review of the rules to encourage the development of the digital that govern electronic communications. The economy. As the European Commissioner revised framework could enter into force 3 responsible for Information Society and around 2009-2010. Media, it is my task to ensure that an Therefore, the timing of this book seems to appropriate framework for the digital be just right, providing food for thought for economy and for investment in ICT is in possible improvements to the regulatory place. In practice, this means two things: processes and contributing to the policy creating an open and competitive single debate. The forward-looking focus – which market for information society and media includes trends and challenges for the ICT services within the EU, and creating the right sector going beyond 2010 – fits well with that regulatory environment for business and of the Commission’s review, which aims at citizens. This is essential for delivering ensuring that the framework remains valid sustained growth and skilled jobs in Europe. for that timeframe also. So many changes Today’s regulatory framework for electronic in technology, markets and consumer communications builds on principles of expectations will have occurred by then – a 001-037 6/11/06 20:03 Page 4

century of the ICT industry! – that there will structure that has characterised telecoms be a need for comprehensive reflection on incumbents since their creation. The price of possible evolutions and scenarios from a voice calls is likely to decrease towards zero, diverse set of authors. as is already the case for some PC-to-PC calls.

Globalisation raises challenges and new Against this background, policy makers, opportunities to all economies, whether for regulators, legislators and market players can no industrialised or developing countries. The longer confine themselves to narrow and sector- revamped Lisbon strategy aims to make the specific approaches. Convergence requires new European economy more flexible so that it is ways of coping with this reality. The EU regu- better prepared for such challenges. latory framework of 2002 already responds to such challenges by relying on two main: On the one hand, technology has contributed technological neutrality and a market–based to globalisation par excellence by shortening approach to economic regulation. distances and reducing the cost-of-use of most information society services. On the other, Regulation that is based on specific technology, we should be aware of the positive impact of or which is unrelated to market dynamics, is technologies, products and services developed destined to become quickly outdated. In by the ICT industry for the rest of the econ- contrast, the principle of technological neutrality omy. These technologies have largely con- delivers coherent regulation of all the services tributed to the growth of productivity of the provided over such networks whatever the European economy. communication network used for its delivery. Regulation aimed at promoting a specific sector, Technology has especially changed some key company or technology can introduce significant parameters of the e-communication industry. distortion in the markets, leading to inefficient Digital convergence has brought together the investment by market players and an uneven Foreword world of audio, video, data and voice commu- playing field for those players. nications, changing forever the distinction between the different types of services. Borders This will only dampen the interest of 4 have become increasingly artificial and, thanks innovators and entrepreneurs to invest in to the internet, certain services are accessible Europe. Technological neutrality and a market- from any place in the world. based approach to regulation mean that we devote the right resources to the objectives of The next generation of upgraded networks regulation (promotion of innovation, (the so-called NGNs) are likely to be based on fostering competition and protecting the IP protocol, leaving the historic differences consumers) while making Europe an attractive between different network infrastructures far place for investment and innovation. behind. We may find that this ultimately has significant effects on business models: in But what does a good particular, that the services consumers receive regulator look like? over communications networks will be offered Regulation requires regulators. From an separately from the connection to the institutional point of view, the question is network. This is likely to have a significant whether a ‘converged’ regulator is the most impact on the traditional vertically-integrated 001-037 6/11/06 20:03 Page 5

suitable model for dealing with future Here, Europe has great potential as regards challenges? Member States have followed the development of innovative services (e.g. different approaches: in some, (e.g. Italy and mobile TV) and the provision of diverse Finland) the same regulator is responsible for offerings of content, including content regulating both content and transmission production. The global marketplace of the services. In the UK, Ofcom is the independent internet creates new economics which allow regulator and competition authority for the content producers to address even very communications industries, with responsibilities specialised niche demands. This means new across television, radio, telecommunications offers and choice for consumers – wherever and wireless communications services. they are in the world – as long as these products are accessible. Current proposals in Under existing European law, the scope of the area of spectrum are aimed at facilitating activity of national regulators is part of the the development of innovative products and institutional autonomy of Member States; it is wireless services. not dealt with by Community policy. Moreover, regulation of infrastructure (i.e. the EU Competition: the catalyst regulatory framework for e-communications Effective competition in the markets benefits networks and services) is separate from the consumers in terms of increased choice and regulation of broadcasting content (i.e. the TV lower prices. The framework provides a basis Without Frontiers Directive) as they respond to both to control the exercise of significant different policy objectives. These frameworks market power and the means to allow national will continue to remain separate in the near regulators to take steps to allow self-sustaining future, though the two sets of rules will have to competition to emerge. As markets become be consistent as digitalisation and technological effectively competitive, the framework provides progress go on. that sector-specific regulation will be removed. One point I often stress – and bear this in Thereafter, competitive markets will be subject Foreword mind when we design and implement policies only to competition law and consumer – is that technology is not about a better protection regulation. As market dynamics are ‘lifestyle’; rather, it is about a better life for difficult to predict (notably in the long-term), 5 everyone through better services for the EU model of regulation based on market consumers and citizens and new opportunities analysis is more sustainable than pre-fixing a for growth and jobs. This is the thinking that date for the phasing out of ex ante regulation. has guided the i2010 initiative for a European One question is often asked: to what extent information society. does the framework incite or inhibit strong For consumers, convergence means the and sustainable competition and investment? possibility of accessing the same services and Undoubtedly, investments can flourish in a content (email, music, television) using variety of situations and it is difficult to isolate different terminals over different types of the impact on investment of such a specific networks. In a convergent world, consumers factor as the framework. Many factors have a will be in control of their entertainment and positive influence on investment (e.g. the level media content. of GDP per capita, population density, size of the company, and so on). 001-037 6/11/06 20:03 Page 6

However, the available evidence suggests that The Commission’s plan includes giving competition remains its main driving force spectrum users more flexibility in deciding and that the countries that have applied the how to use radio resources. Firstly, this would EU regulatory framework in an effective and be achieved by strengthening the use of pro-competitive manner have attracted more unlicensed spectrum. Secondly, owners of investment. For example, the highest spectrum usage rights would be enabled to penetration of broadband rates are seen where apply the principles of technology and service there is facility-based competition, with head- neutrality where possible. Thirdly, using to-head competition between cable and criteria based on economic efficiency, selected telephone networks. bands agreed at EU level could be subject to secondary trading across the EU as one way to Some argue that we need a regulatory facilitate access to spectrum. Fourthly, in forbearance to encourage investment in new specific cases to be agreed at EU level, network infrastructure. But in my view there is undertakings who develop services with a no evidence to show that ‘regulatory holidays’ wider reach than a single country should be would generate more investment than compe- able to obtain a single common authorisation, tition. We have to be clear on this point: or be granted the right of use for frequencies regulation should promote competition, and enabling them to provide services on a should not favour monopolies. Investment in European basis. new and competing infrastructure will accel- erate the day when transitional access obliga- Putting the new course in place will require tions can be further relaxed – or even removed. the collaboration of the Council and the European Parliament at first, and of all Efficient spectrum management is key to the stakeholders in general. We need to put European ICT industry. We have started to together all the tools and instruments implement a new strategy within the 2006

Foreword available to the EU and the Member States review of the electronic communications to promote and accelerate a favourable framework. Flexibility can facilitate the use of development of the communications and spectrum by a multiple number of wireless media industries. 6 technologies, greatly reducing inefficiency and, therefore, spectrum scarcity. Greater flexibility In the meantime, I am confident that this in the use of spectrum will release the book will be a very useful resource for all economic potential of this resource, stimulate those concerned with policy in the field of the development of innovative products and electronic communications and media and increase competition in services and technolo- will facilitate stakeholders to better under- gies. This in turn will improve our overall stand the challenges faced by the actors of the macro-economic competitiveness, will create ICT industry – whether independent regula- jobs and increase the range of services tors, ministries, undertakings, content and available to citizens. media companies, or citizens. 001-037 6/11/06 20:03 Page 7

Contents

Foreword Viviane Reding 3

Biographies 11

Introduction David Currie, Ed Richards 19

OVERVIEW Robin Foster, Tom Kiedrowski 25

TRENDS AND CHALLENGES

Our changing media ecosystem John Naughton 41 1 Private is the new public Jonathan L. Zittrain 51

Why TV regulation will become Eli M. Noam 67 telecom regulation Contents

Serving the public good in the digital age: Carolyn Fairbairn 73 implications for UK media regulation 7 The consumer agenda on regulation Ed Mayo, Philip Cullum 87 SECTION 001-037 6/11/06 20:03 Page 8

THE CHANGING NATURE OF REGULATION IN THE PUBLIC INTEREST

The public interest challenges for the Chris Giles 101 communications sector over the next 10 years: contestable public service funding

What citizens need to know. Digital Damian Tambini 112 exclusion, information inequality and rights

The continuing need to advance David Puttnam 125 the public interest

The revolution of audio-visual services : Ruth Hieronymi 132

SECTION 2 culture, economy or both?

ECONOMIC REGULATION BEYOND 2010

Creating an environment for Irwin Stelzer 143 rapid innovation

The challenges of a digital world and the Leonard Waverman 158 need for a new regulatory paradigm Contents Market-based alternatives or Jonathan Cave 176 complements to regulation

8 Communications policy, economic policy. Reed Hundt 195 The inextricable link SECTION 3 001-037 6/11/06 20:03 Page 9

UTILISING THE AIRWAVES

The future of regulation – not Peter Cochrane 205

New spectrum-using technologies and Martin Cave 220 4 the future of spectrum management: a European policy perspective

Spectrum management and the Isolde Goggin 235 achievement of policy goals – an independent regulator’s perspective

An economic evaluation of spectrum Thomas W. Hazlett 249

SECTION allocation policy

GLOBAL AREAS OF FOCUS

The genie is out of the bottle Charles Leadbeater 263

Processes and institutions: new perspectives Philip Booth 275 on policymaking and regulatory authorities

The changing nature of regulation: Graham Mather 286 Contents 5 policy, process and accountability within the European Union

The convergence continuum model: Steve Burdon 294 9 a framework for analysing regulatory reform in Asia-Pacific

Possibilities for deregulation : M. H. Au 310

SECTION a case study of Hong Kong

All contributors have been asked to write in a personal capacity. Views expressed are those of the authors, not those of Ofcom. 001-037 6/11/06 20:03 Page 10

10 001-037 6/11/06 20:03 Page 11

Biographies

M. H. Au include Towards a Liberal Utopia and The Road to Economic Freedom. He is Editor of the Mr M. H. Au has been the Director-General journal Economic Affairs and Associate Editor of Telecommunications of the Government of the British Actuarial Journal and Annals of of the Hong Kong Special Administrative Actuarial Science. Region since August 2003. He is also a member of the Hong Kong Broadcasting Steve Burdon Authority. He was appointed an Assistant Professor Steve Burdon has been associated Director of OFTA upon its establishment in with the University of Technology Sydney 1993. In 1997, he was appointed Senior for over 25 years and is currently a visiting Assistant Director (Regulatory), OFTA, in charge Professor. He has also held a number of of the economic and technical regulation of positions at other Australian universities, all public telecommunications services. Mr Au including Associate Professor and Fellow joined the Telecommunications Branch of the at Melbourne Business School. Hong Kong Post Office in 1985 as Chief Telecommunications Engineer and became an Prior to this, he held a number of senior Assistant Postmaster General in 1991. Mr Au executive positions including MD Asia-Pacific holds the degrees of Bachelor of Science in for British Telecom, CEO of OTC and Group Electrical Engineering (University of Hong MD for Telstra. Professor Burdon holds a

Kong), Bachelor of Laws (University of number of non-executive board positions in Biographies London), Master of Laws (University of Hong public and private companies and has extensive Kong) and Master of Finance (Curtin experience advising leading Australian organi- University of Technology, Australia). sations. He has wide teaching and research 11 experience in various areas including out- Philip Booth sourcing and alliances, e-business, national ICT Philip Booth is Editorial and Programme policy, innovation and entrepreneurship. Director at the Institute of Economic Affairs and Professor of Insurance and Risk Jonathan Cave Management at Cass Business School, City Jonathan Cave is a game theorist and applied University. He has previously worked at the economist who trained at Yale, Cambridge Bank of England as a special adviser. Philip and Stanford. A reformed antitrust official, he Booth is a Fellow of the Institute of Actuaries is currently a member of the Economics and of the Royal Statistical Society. He has Department at Warwick University and Senior published widely on investment, finance Economist (Senior Research Fellow) at RAND and pensions and is co-author of the books, Europe, specialising in regulation, law and Investment Mathematics and Modern Actuarial economics, policy analysis and evaluation. Theory and Practice. Other edited books 001-037 6/11/06 20:03 Page 12

He has worked on telecoms and sectoral, Collier Chair for The Public Understanding of economic and/or social regulation; Information Science & Technology at The University of Society Policy (legal issues, sustainability, Bristol from 1999 to 2000. He is a Fellow of indicator development, IPR and scientific the IEE, IEEE, Royal Academy of Engineering, information, eGovernment and eDemocracy; and a Member of the New York Academy of trust and biometrics); R&D policy, procurement, Sciences. He has published and lectured etc. His teaching and academic work includes widely on technology and the implications of corporate finance, networks games and IT and was awarded an OBE in 1999 for his complex systems. contribution to international communications, the IEEE Millennium Medal in 2000 and The Martin Cave City & Guilds Prince Philip Medal in 2001. Martin Cave is Professor and Director of the Philip Cullum Centre for Management under Regulation, Warwick Business School and President of the Philip is Deputy Chief Executive of the international telecommunications think tank, National Consumer Council. He is author ThinkTel. Until 2001 he was Professor of of Consumers and regulation and The stupid Economics at Brunel University. He specialises company: how British businesses throw away in regulatory economics, especially of the money by alienating consumers and is a leading communications sector. He has advised a commentator on issues of regulation. He number of regulatory agencies in telecommu- represents the consumer interest on bodies nications and broadcasting. As well as his such as the DTI Better Regulation Ministerial academic work he has also undertaken Challenge Group and the OFT Payment studies for the European Commission and Systems Task Force. Before joining the NCC, advised regulatory agencies and the European Philip was an Associate Partner at Accenture, Commission. He was a member of the responsible for creating new thinking aimed

Biographies Competition Commission from 1996 to 2002. at top CEOs and policymakers, and then He is the author of the Independent Review Executive Director at Opinion Leader Research. of Spectrum Management (2002) for the UK David Currie 12 Government, co-author of Understanding Regulation (1999) and co-editor of the Chairman of Ofcom since August 2002 and, Handbook of Telecommunications Economics since January 2001, Dean of Cass Business (Vol. 1, 2002, Vol. 2, 2005). School (formerly City University Business School) and Professor of Business Economics. Peter Cochrane Formerly Professor of Economics at London Peter Cochrane was Head of BT Research from Business School (1988-2000), and Deputy 1993-99, in 1999 he was appointed Chief Dean (1992-1995, 1999-2000), Director of Technologist. In November 2000 Peter retired the Centre of Economic Forecasting (1988- from BT to join his own startup company – 1995) and Director of the Regulation Initiative ConceptLabs – which he founded with a group (1995-2000) at London Business School. out of Apple Computers in 1998 at Campbell A well-known figure in international economic CA, in Silicon Valley. A graduate of Trent policy, David Currie has published widely on Polytechnic and Essex University, he was the government regulation of industry and on 001-037 6/11/06 20:03 Page 13

international macroeconomics and policy. He Robin has published a wide range of speeches also serves (since September 2004) on the board and papers on communications sector policy of the Dubai Financial Services Authority. He was and regulation, including Future Reflections – a previously non-executive Chairman of Coredeal detailed scenario analysis of the future of tele- MTS and a non-executive director of the Abbey vision in the UK, published by Bournemouth National, and has also served on a variety of University Media School in 2002. UK government bodies including the Gas and Chris Giles Electricity Markets Authority (Ofgem, the UK energy regulator) and the Treasury’s Panel of Chris Giles has been the economics editor of the Independent Forecasters (the ‘Wise Men’). Financial Times since Autumn 2004. He writes on micro and macroeconomic issues affecting the He sits on the cross-benches in the House of UK and other leading economies. Mr Giles Lords as Lord Currie of Marylebone. was a Policy Manager in Ofcom working on the Carolyn Fairbairn Public Sector Broadcasting Review. Previously at the Financial Times, he was the economics Carolyn Fairbairn is a partner in London’s editorial writer. Before joining the FT in 2000, McKinsey office, where she leads McKinsey’s Mr Giles was an economics correspondent at the UK media practice. Before joining McKinsey, BBC. He started his career in research, spending Carolyn spent eight years at the BBC, where seven years as an economist for the Institute for she was Director of Strategy & Distribution Fiscal Studies. from 2000-05 and a member of the BBC’s main executive board. Prior to that, Carolyn Isolde Goggin was a member of the Number 10 Policy Unit, Isolde Goggin is a Member of the Commission and has also worked as a financial journalist for Communications Regulation (ComReg), for The Economist and as a development the statutory body responsible for regulation

economist for the World Bank. Carolyn holds Biographies of all aspects of communications services an MBA from INSEAD and a BA in economics in Ireland including telecommunications, from Cambridge. broadcasting, postal services and spectrum Robin Foster management. Prior to her appointment as 13 Commissioner, Ms Goggin was Director of Robin Foster is an independent adviser on Regulated Markets Division at the Competition economic, policy and strategic issues in the Authority from 1996 to 2002. communications sector. He is chief adviser to the Board of Human Capital, media strategy consult- Isolde Goggin worked for nine years with ants, and Associate Director of the Global Com- Telecom Éireann (now Eircom), the then munications Consortium, a research programme State-owned telecommunications incumbent, at the London Business School. Until August initially in a variety of engineering areas and 2005, he was Partner, Strategy and Market Devel- later in the commercial area in the interna- opments at Ofcom. Previous positions include tional Division. director of strategy at both the Independent From 1989 to 1991 she worked in DGXIII Television Commission and the BBC, and head (now DG Information Society) of the European of the telecoms and broadcasting consulting Commission where she acted as an expert division at consultants NERA. 001-037 6/11/06 20:03 Page 14

consultant to the Satellite Policy Unit concerned Ruth Hieronymi with EU policy for future satellite-based fixed, Ruth Hieronymi has been a Member of the mobile, broadcasting and position-fixing European Parliament since 1999 within the services, including issues such as frequency group of the European People’s Party and planning and orbital positions. From 1991 to European Democrats (EPP-ED) the North 1996 she was a business manager with Ericsson Rhine-Westphalia. Within the European Systems Expertise Ltd., a subsidiary of the Parliament, Mrs Hieronymi is a Member of Swedish multinational telecommunications the Committee on Culture and Education and company, based in Dun Laoghaire, near Dublin. the Delegation for relations with Canada. She Ms Goggin qualified from Trinity College, is the media policy spokeswoman for the EPP- Dublin, with an engineering degree and ED Group, chairwoman of the Audiovisual obtained a Masters in Business Administration Policy Intergroup and Parliamentary from University College, Dublin. She also rapporteur for the directive on Audiovisual holds a Postgraduate Diploma in European Media Services (AVMS). She has been a Competition law and is a Chartered Member member of the WDR broadcasting council of the Institution of Electrical Engineers. since 1991. Mrs Hieronymi received her Master’s (MA) from University of Cologne Thomas W. Hazlett in 1977. Thomas W. Hazlett is Professor of Law and Reed Hundt Economics at the George Mason University School of Law. In addition to his duties as a Reed Hundt served as Chairman of the Federal professor, he directs the Information Economy Communications Commission (FCC) from Project at the National Center for Technology 1993 to 1997. Prior to heading the FCC, he and Law. Professor Hazlett is an internationally was a partner in the Washington, D.C. office of Latham & Watkins. Mr. Hundt currently Biographies recognised expert on telecommunications policy. He has published widely in economics serves on the board of directors of Intel, journals, law reviews, and popular periodicals, Pronto Networks, Tropos Networks, Polyserve, and he is currently a columnist for the Entrisphere, and Access Spectrum, and as 14 Financial Times’ New Technology Policy Forum. an advisor to The Blackstone Group, and He frequently provides expert testimony to the McKinsey & Company. He is a member of the courts, government agencies, and the U.S. advisory committee at the Yale School of Congress, and has served as a consultant to Management, and Co-Chairman of The Forum public and private organisations throughout on Communications and Society at The Aspen the world. Professor Hazlett received his PhD Institute. Mr. Hundt is the author of You Say in Economics from U.C.L.A. and has held You Want A Revolution: A Story of Information faculty positions at the University of Age Politics (Yale University Press, 2000) and California, Davis, Columbia University, and In China’s Shadow: The Crisis of American the Wharton School of the University of Entrepreneurship (Yale University Press, 2006). Pennsylvania. In 1991-92, he served as Chief He graduated magna cum laude from Yale Economist of the Federal Communications College (1969) with exceptional distinction Commission in Washington, D.C. in History. He is also a graduate of Yale Law School (1974), and is a member of the 001-037 6/11/06 20:03 Page 15

District of Columbia, Maryland, and Independent as assistant editor in charge of California bars. features and became an independent author and advisor in 1996. Mr Leadbeater spent ten Tom Kiedrowski years working for the Financial Times where he Tom Kiedrowski is a Policy Manager within was Labour Editor, Industrial Editor and the Strategy and Market Developments Group Tokyo Bureau Chief before becoming the at Ofcom where he works on a variety of Features Editor. projects including the Approaches to Graham Mather Regulation project that resulted in the production of this book. Prior to joining Graham Mather is a solicitor and President of Ofcom, he was the Regulatory Affairs Manager the European Policy Forum, an independent for the European Competitive Telecom- international research institute. He is a munications Association (ECTA) in Brussels. member of the Ofcom Consumer Panel. Mr Between 1997-2004, Tom held a number Mather is a member of Competition Appeal of managerial positions within BT Group Tribunal in the UK. From 1989 to 1994 he Regulatory Affairs. Before entering the served two terms as a Member of the communications sector, he worked at the Monopolies and Mergers Commission. He was London Investment Banking Association MEP for Hampshire North and Oxford from (LIBA). He is member of the Royal Institute 1994 to 1999. Mr Mather has been a Visiting of International Affairs (Chatham House) and Fellow of Nuffield College, Oxford, which the International Telecommunications Society specialises in economics, sociology, politics (ITS). Tom was educated at Kent and Warwick and European affairs. He has also been Universities and holds an MA in International General Director of the Institute of Economic Political Economy. Affairs and Head of the Policy Unit of the Institute of Directors.

Charles Leadbeater Biographies Ed Mayo Charles Leadbeater has advised companies, cities and governments around the world on Ed Mayo is Chief Executive of the National innovation strategy and drawn on that Consumer Council. Ed Mayo has been 15 experience in writing his soon-to-be published named a Young Global Leader by the World book We-think: why mass creativity is the next Economic Forum and one of the UK 100 big thing. His previous books include Living on most influential social policy thinkers by The Thin Air and Up the Down Escalator. In 2005 Guardian. Ed is author of a series of reports on he was ranked by Accenture as one of the top the economy and society, including Shopping management thinkers in the world. Mr Generation and A Playlist for Public Services. Leadbeater is a senior research associate with Most recently, he has chaired a commission the think-tank Demos, a visiting fellow at on affordable housing and co-chaired the UK Oxford University’s Said Business School and Sustainable Consumption Roundtable. Ed has a Senior Fellow at the National Endowment a long track record of social entrepreneurship, for Science Technology and the Arts. He is a including co-starting the Fairtrade Mark and former winner of the David Watt prize for London Rebuilding Society, the inner city journalism. In 1994 he moved to the financial co-operative. 001-037 6/11/06 20:03 Page 16

John Naughton Fields and The Mission. He was Chair and CEO of Columbia Pictures from 1986 to 1988. John Naughton is a control engineer with a David retired from film production in 1998 strong interest in systems analysis and and now focuses on his work principally in computer networks. He is both an academic education. He was the founder and Chair of and a journalist. He has been Professor of the Trustees for the National Teaching Awards. He Public Understanding of Technology at the has served on a variety of public bodies. In Open University since 1972. In 2000, July 2002 he was appointed President of Professor Naughton was short listed for the UNICEF UK. David was awarded a CBE in Aventiz Prize for Science Books for his Brief 1982, a knighthood in 1995 and created a life History of the Future. He runs the Wolfson peer in 1997. He chaired the joint scrutiny Press Fellowship Programme at Cambridge committee on the Communications Bill that University. He was educated at University subsequently became an Act of Parliament College, Cork and Emmanuel College, that established Ofcom. Cambridge. Viviane Reding Eli M. Noam Viviane Reding is a Member of the European Eli M. Noam is Professor of Economics and Commission responsible for Information Finance at the Columbia University Business Society and Media since 2004. Between 1999 School since 1976. Director of the Columbia and 2004 Mrs Reding was a Member of the Institute for Tele-Information, a research European Commission responsible for Edu- center focusing on strategy, management, and cation, Culture, Youth, Media, Sport. She policy in communications, mass media, and was a Member of the European Parliament IT. Served for three years as a Commissioner between 1989 and 1999 within the group of for Public Services of New York State. the European People’s Party (EPP). From

Biographies Appointed in 2003 by the White House to the 1979-1989 Mrs Reding was a Member of the President’s IT Advisory Committee. Noam Luxembourg Parliament, Member of the a regular columnist for the Financial Times Office of the Chamber of Deputies, Member 16 online edition. He has published about 400 of the Benelux Parliament and Member of the articles and 27 books. His forthcoming books North Atlantic Assembly leading the Christian include Media Concentration in the United Democrat/Conservative Group. Before States (Oxford, 2007). His academic board entering politics, Viviane Reding enjoyed a memberships include the Oxford Internet distinguished carrier as a journalist and was Institute. He received the degrees of BA, MA, President of the Luxembourg Union of Ph.D (Economics) and JD from Harvard Journalists between 1986-1998. She is a University, and an honorary doctorate from Doctor of human sciences from the Sorbonne the University of Munich. in Paris. David Puttnam Ed Richards

David Puttnam spent 30 years as an indepen- Ed Richards was appointed Ofcom Chief dent film producer receiving accolades for Executive in October 2006. He was previously films including Chariots of Fire, The Killing Chief Operating Officer where his 001-037 6/11/06 20:03 Page 17

responsibilities included strategy, research, Damian Tambini consumer policy, business planning, finance, Damian Tambini is a lecturer at the London human resources and Ofcom’s functions in School of Economics. Previously he was Head the Nations and Regions. of the Programme in Comparative Media Law Prior to Ofcom Ed was Senior Policy Advisor and Policy at Oxford University. He is also an to the Prime Minister for Media, telecoms, Associate Fellow of the Institute for Public internet and e-govt. Before that he was Policy Research (IPPR), The Oxford Internet Controller of Corporate Strategy at the BBC. Institute, and at Oxford University Said He also worked in consulting at London Business School. He is a fellow of the Royal Economics Ltd, as an advisor to Gordon Society of Arts and serves on the Advisory Brown MP and began his career as a Groups of: The Oxford Media Convention, the researcher with Diverse Production Ltd, where Creative Archive License Group and POLIS. he worked on programmes for Channel 4. Damian’s research interests include media and telecommunications policy and democratic Irwin Stelzer communication. He has published numerous Irwin Stelzer is a Senior Fellow and Director books, articles and pamphlets on telecom- of the Hudson Institute’s Economic Policy munications and media policy. His next book, Studies Group. Prior to joining the Hudson Codifying Cyberspace will be published early Institute in 1998, Dr Stelzer was resident in 2007. scholar and director of regulatory policy studies at the American Enterprise Institute Leonard Waverman (AEI). He is a member of the Board of the Leonard Waverman is Professor and Chair Regulatory Policy Institute (Oxford); a of Economics, as well as Director of the Visiting Fellow at Nuffield College, Oxford; Regulation Initiative and the Global

and honorary senior research fellow, The Communications Consortium at the London Biographies Smith Institute. Business School. Current research is on the growth and productivity impacts of the rollout Dr Stelzer is also a consultant to News of telecommunications and computers and 17 International and News Corporation, a wind was the subject of the Economic Focus section farm developer, and companies with interests of The Economist, March 12, 2005. His most in the direction of competition policy and cited current publication is Telecommunications financial services regulation. In the past he has Infrastructure and Economic Development joint served as a consultant to many electric and gas with Lars Hendrik Roeller, American Economic utilities in the United States, and to BSkyB. In Review, Sept 2001. He is currently finishing 1961 he founded National Economic Research a book (joint with Melvyn Fuss), entitled The Associates (NERA) and served as its president Networked Computer, to be published in 2007 until a few years after its sale in 1983 to Marsh by Cambridge University Press. & McLennan. He also has served as a managing director of the investment banking firm of Dr. Waverman is a non-executive Board member Rothschild Inc. of GEMA – the UK’s Electricity and Gas market Authority. He is member of the Scientific 001-037 6/11/06 20:03 Page 18

Advisory Board of the German Institute for Jonathan Zittrain Economic Research in Berlin (DIW) and a Jonathan Zittrain holds the Chair in Internet Fellow of Columbia University’s Centre for Tele- Governance and Regulation at Oxford Information. He is on Vodafone’s Advisory University and is a principal of the Oxford Board on the Social Importance of Mobile, and Internet Institute. He is also the Jack N. & is a Director of the Nexus Mundi Foundation. Lillian R. Berkman Visiting Professor for He was on the Advisory Committee introducing Entrepreneurial Legal Studies at Harvard Law Competition in Ontario’s Electricity system School, where he co-founded its Berkman (1995-1996), a part-time Board Member of the Center for Internet & Society. His research Ontario Energy Board, as well as of the Ontario interests include battles for control of digital Telephone Service Commission, and a member property and content, cryptography, electronic of the US National Association of Regulatory privacy, the roles of intermediaries within Utility Commissioners (NARUC) for six years. internet architecture, and the useful and He edited the major Journal in energy unobtrusive deployment of technology in economics – The Energy Journal for six years. education. He has recently co-authored a Professor Waverman is a citizen of Canada study of internet filtering by national and of France and has received the honour governments, and is writing a book about the of Chevalier dans l’Ordre des Palmes future of the now-intertwined internet and PC. Academiques from the Government of France. Papers may be found at www.jz.org. Biographies

18 001-037 6/11/06 20:03 Page 19

Introduction David Currie Member of the House of Lords and Chairman of Ofcom Ed Richards Chief Executive Officer of Ofcom

The reality of convergence – and the sweeping The debate around these questions is being transition, from analogue to digital played out in many countries. It is to technologies – is radically changing the help inform that debate that Ofcom has communications sector. commissioned this book of essays from a wide range of commentators, experts and New corporations, which have come into being participants in the communications sector. over the past decade, are already global, multi- Both severally and collectively, the essays billion pound businesses. They’re offering new represent the personal views of their authors, services over new platforms to meet previously not those of Ofcom. They are designed to hidden demand, requiring longer-established stimulate debate and so contain a diverse players to reassess and adapt their business range both of intellectual and geographic models to meet consumer demands in today’s viewpoints. The latter recognises that there rapidly changing marketplace. are validly different national responses to

These changes can bring great benefits to common challenges which reflect the different Introduction customers, both individual and corporate, national market circumstances. and are driving growth and innovation in the In New Europe and the major emerging wider economy. But, just as existing businesses economies, fixed wireline infrastructures are 19 need to reassess their models, so public being leap-frogged in favour of a greater policymakers and regulators need to assess predominance of mobile and wireline how their role and activities need to evolve to infrastructure. In Hong Kong, as M. H. Au’s keep pace. How far are traditional public essay reminds us, 80 per cent of its households interest goals still valid or relevant, or are they are encompassed in just 8,000 buildings, thus now being met by the market? And in cases providing the market circumstances for the where they do remain relevant as goals, how availability of multiple, competing high- far do the specific public policy and regulatory bandwidth networks to most of Hong Kong’s interventions still contribute effectively to consumers. In the USA, intense market-led meeting those goals? What changes do public competition between a limited number of policymakers and regulators need to make to platform operators has led to high bandwidth ensure that their actions help, and not hinder, network roll-out in the main urban centres, innovation, investment and competition to and an emphasis on wireless development serve the consumer and public interest? 001-037 6/11/06 20:03 Page 20

elsewhere to prevent rural or small town tomorrow’s much richer and more diverse dependence on monopoly supply. It has also communications markets, the task of led to a withdrawal from ex ante regulation, determining which services should be but also new concerns about access expressed universally available becomes a more through the net neutrality debate. And in the complex issue. European Union, the legal frameworks for The emergence of multiple geographic both platforms and audiovisual content are markets within a single national market simultaneously, if separately, being revised. also begs a question: namely, must a Despite the difference in national market universal service be at a universal price? It is circumstances, four broad themes emerge not even just the matter of availability but from these essays as common challenges for also of the ability to take up and use new policymakers and regulators. communications services that is prompting public policy concern and debate about • The first is how to encourage and support digital inclusion and the digital divide. sustainable inter- (and intra-) platform competition as technology-change substan- Quite how sharp those social concerns will tially alters the underlying architecture of be in reality, and how far the market will networks over the next three or four years? address them, must be moot. What is What is the best framework to encourage evident is that great clarity will be needed innovation and investment by all players in the criteria for determining what should without giving the established operators too be universal services in the future. And, much leeway to leverage their established as the (declining) monopoly rents that position into new markets? By contrast, enabled the implicit cross-subsidies which when does the moment come when we find supported universal services are fully that we are still regulating those parts of the competed away, the question “who pays?” Introduction value chain (broadcasters/channel packagers comes into much sharper focus. and network operators) because that is • The third theme is wireless spectrum, which where the traditional levers lie, when the is a resource of increasing importance to 20 real power has moved to other parts of the the communications sector and an engine value chain – and where today’s interven- for innovation in the sector. As device tion to yesterday’s problem hinders technology advances to allow more and tomorrow’s innovation? more spectrum to become usable, the issue • The second theme concerns access. In the ceases to be whether there is a ‘shortage of days of stable technology and a limited spectrum’ but a shortage of rights to use the range of one-size-fits-all services – basic spectrum. Several countries – the USA, voice telephony, internet access, television Australia and the UK included – are increas- and radio reception, and access services for ingly moving towards market mechanisms disabled people – universal service was a to allocate and assign spectrum. They’re straightforward concept and not unduly recognising that traditional methods of expensive to impose, often through implicit allocation both substitute a regulator’s cross-subsidy requirements on a limited judgement for that of the market, and are number of incumbents. In today’s and simply too slow to keep up with the rapid 001-037 6/11/06 20:03 Page 21

pace of development in the communi- even the First Amendment is merely a local cations sector. Just as a functioning market ordinance). In Europe, the debate has in land and property rights took time to focused around the concept of platform develop and raised knotty practical and neutrality, at least as regards standards, but transition issues, so too is the case in continuing with more direct intervention in spectrum with the added complication of broadcasting alone to achieve plurality and multinational co-ordination. Several of the quality objectives. essays which follow address those practical Several of the essays test each of these and transitional issues, and all concur that approaches. Perhaps unsurprisingly, there is heading more towards market mechanisms less consensus around these content issues is the right direction of travel. than there is about the competition, • The fourth theme is content. The great economic and spectrum resource issues increase in bandwidth has enabled much tackled in other chapters. more content creation, wider choice, greater What is clear across all these issues is that user-control and increasing user-participa- they raise questions that need to be tackled tion. These developments are welcome, but appropriately at different levels: some local, they also increasingly question the tradi- some national, some regional, some global. tional public policy goals of, and the ability There is no one-size-fits-all answer and, as Ed of the traditional players to deliver, regu- Mayo and Philip Cullum remind us, no lation in broadcasting. The three traditional uniform consumer either. Philip Booth also public policy goals have been quality, advocates that public policymakers and plurality and standards. There is rightly a regulators should have the trust and the debate about how far, with the proliferation humility to intervene at the most local level of content and delivery systems, public possible – subsidiarity – so that the inter-

policy and regulatory intervention remains Introduction vention is closest to the multifaceted individual necessary to deliver those objectives; and, if consumers that it is designed to serve. so, what the right form of intervention should be and where it should apply. In the We hope that this set of essays will contribute 21 USA, the free-to-air networks are becoming constructively to the debate, helping public an oasis for regulated standards; elsewhere policymakers and regulators towards answers the first amendment applies. In other and processes that bring out the best of the markets, broadcasting is controlled and communications revolution, both culturally and the internet is unregulated (recognising, as economically, for citizens and consumers alike. someone has remarked, that on the internet 001-037 6/11/06 20:03 Page 22

overview 001-037 6/11/06 20:03 Page 23 001-037 6/11/06 20:03 Page 24 001-037 6/11/06 20:03 Page 25

Overview Robin Foster Chief Adviser to the Board, Human Capital Associate Director, London Business School Global Communications Consortium Tom Kiedrowski Policy Manager, Ofcom

Introduction business models and destroying old ones. Market structures are changing, bringing into In her foreword to this book, Viviane Reding commercial competition firms that have been highlights the fact that the challenges posed undisputed masters of their ‘own patch’, by convergence in communications are felt sometimes for decades. Consumers should globally, not just locally. The different authors benefit from more choice and lower prices. in this book are all, one way or another, New media and communications services will seeking to present a view of policy thinking in bring the potential for important social as well the shadow of the uncertainty that convergence as consumer value. Jonathan Zittrain points to brings. Although our contributors and research the world of opportunities that now exists and bring out differing perspectives and ideas, one the promise of much more to come with thing is clear: the ongoing nature of the change ‘netizens’ contributing to a two-way system, underway will require a fundamental review rather than just existing as consumers. These of the approaches to regulation across a range trends, our authors argue, will render obsolete Overview of issues, and now is the time to prepare the much of the established regulatory framework, groundwork for that review. and require new models for the future to secure This chapter brings together some of the continuing citizen and consumer benefits. As 25 themes that the authors raise, and the questions one of our contributors, John Naughton, asserts: they pose, and places them in a wider context, “Companies that do not adapt will vanish from drawing on research carried out by Ofcom the earth. The big question is whether the same during 2005 and 2006 about the approaches holds for regulators.” being developed by communications sector Trends in convergence regulators around the world. Our contributors describe a world in which communications Digitisation has made it possible to deliver markets are once again being transformed. the same communications services – voice, A new wave of technological change, video and data – over a number of different entrenching the next generation of internet- electronic communications platforms. Our based technology in consumer life – digital contributors now see a future in which audiovisual services, new internet protocol (IP) continuing innovation in services and network based, high-bandwidth networks, high capacity architecture is designed to facilitate mobility, and low-cost storage of data – is creating new convenience and flexibility of use. A decade 001-037 6/11/06 20:03 Page 26

ago, mobile, broadband, digital TV and radio, boundaries will be redefined, and there will be wireless networks and WiFi hotspots were increasingly blurred boundaries between what niche products or non-existent. Today, they are is considered broadcasting, entertainment and all part of the mass market. publishing; fixed or mobile; a supplier or a consumer. But although competition will With the adoption of IP-based next generation increase, we may also see new bottlenecks networks (NGNs), new services and applica- emerging at different parts of the value chain. tions will be developed more quickly and at For example, control of digital rights manage- a lower cost than that associated with legacy ment, search tools, or premium content could networks. NGNs will allow for services that become bottlenecks and have increasing offer downloads and streaming of broadcast- importance over time. quality images, with the scope for the uploading of consumer-generated content carried on a Second, there will be a transformation in single, converged, core network platform in the relationship between consumers and combination with a variety of fixed and mobile the providers of content and services to access networks. Even wireless technologies, them. Consumers will have access to the be they 3G and 4G mobile or WiMAX, will be infrastructure, information and tools which capable of higher bandwidth delivery, although will allow them to search more widely for to varying degrees. content, switch between alternative voice and other service providers, and participate more A dramatic improvement in compression, in their consumption of communications peer-to-peer capabilities, and cheap high services. The impacts on both the competitive capacity storage will transform the capacity of environment and on public interest objectives distribution networks, the cost of distribution, traditionally pursued in the media sector are and the ability of consumers to store data and potentially significant. content in the home. Intelligent user interfaces Overview – including navigation and search tools – will Third, there will be a change in the relative help users find their way around the huge positioning of network providers and applica- volume of content they will have access to tions service providers. Currently, intelligence 26 over the high-bandwidth networks. resides predominantly in the network; however, in a converged environment, it is likely that Taken as a whole these technology changes some intelligence will move to the edges of result in important developments in the sector the physical network, which could shift some which will have profound consequences for control from the underlying network to end- markets, citizens and consumers and, in turn, users and application and content providers, for policy-makers and regulators. The authors altering the balance of power between players of this volume identify or predict a number of in the sector. distinct trends. Finally, there is likely to be a shift from narrow First, there will be a shift from a communica- nationally focused policies and regulation, to tions sector characterised by relative stability, an environment where the implications of high-entry barriers and monopoly, to one global technology adoption as well as cross- which is fast changing, subject to disruptive border policy and business decisions become competition and increasingly open. Market more important. This will require policy- 001-037 6/11/06 20:03 Page 27

makers not only to take an increasingly communications sector increasingly moving international perspective in their decision- into each other’s territory. There is the making, but also to make choices about the possibility of powerful media companies appropriate level of engagement with regional entering telecommunications markets with and global institutions. bundled service offers, and vice versa, as well as internet application service providers Market transformation potentially moving into all three realms. Inter-platform competition Governing the airwaves: importance The future should therefore bring increasing of wireless and the need to optimise inter-platform competition: platforms will be spectrum policy able to deliver multiple services, and any Many of the new platforms that have emerged given service will be able to be delivered by in the last decade, and many of the prospective multiple, competing platforms. The most new ones, are wireless of one form or another obvious example of the resulting increase in and will be designed to facilitate mobility. competition between platforms is in voice Thus the supply of spectrum is a key enabler services. First mobile offered an alternative to to facilitating choice and competition as Peter the traditional PSTN for voice services, then Cochrane, Martin Cave, Isolde Goggin and Voice over Internet Protocol (VoIP) on the Tom Hazlett all identify. Spectrum decisions public internet offered a further alternative. will have a major impact on the evolution of A similar trend is evident in audiovisual, the communications sector, and are therefore where services are now delivered via analogue seen as a critical building block in any new and digital terrestrial, satellite, cable and now regulatory framework. IPTV, all in competition with one another. The growth of wireless has been brought about These trends in services and technologies, as

both by consumers’ demand for mobility, and Overview well as regulatory innovations, have stimulated by a range of technical advances in compression competition between platforms as well as more technologies, battery life, processing power and intra-platform competition with the result miniaturisation. Importantly, wireless tech- of increasing the challenges to traditional 27 nologies now benefit from global economies business models in the sector: few established of scale in device and network equipment businesses can be confident in their continued manufacturing, which rely on similar radio market success. Incumbent market shares are spectrum frequency bands being used for falling in radio, television, fixed and mobile similar applications in different countries. telecoms, and price competition is generally increasing. As a result the major players in In the past the problem of scarcity has been existing markets (who develop converged dealt with by a process in which spectrum network platforms) are likely to seek to has been assigned to users on the basis of exploit their potential, and preserve their administrative judgment. Negative externalities established market positions, by expanding have been dealt with by granting exclusive their range of activities. One of the key rights of use for particular blocks of spectrum. changes over the next ten years is likely to be providers in once disparate parts of the Such spectrum planning, relying heavily on central planning and expertise, was seen as the 001-037 6/11/06 20:03 Page 28

best way of addressing potential problems of empowers competitive spectrum owners to interference and the need for international experiment with alternative network architec- harmonisation of spectrum use. Isolde Goggin, tures or access models and that it also permits in her chapter, remarks that the result has governments to evaluate whether particular been a system which is good at safeguarding forms of spectrum access need to be subsidised. national rights (for example, for television As regulators make progress with liberalisation, broadcasting) and at avoiding interference. and as awareness of spectrum trading increases, However, as Peter Cochrane and Isolde Goggin secondary spectrum markets are likely to articulate, a key problem is the under- become increasingly effective at allocating utilisation of large chunks of spectrum under spectrum efficiently. In time, the characteristics the ‘current command and control’ arrange- of market maturity – liquidity, due diligence ments. In a fast changing world, it becomes and market intermediaries – are likely to increasingly difficult for central planners to become increasingly evident. As the remaining identify and determine the best use of each primary assignments are complete, the role for part of the spectrum. It is better, all three regulators in spectrum assignment is likely to contributors argue, to rely on market decline; their role in licensing, enforcement mechanisms, including auctions and tradable and international co-ordination will continue. spectrum rights. Our contributors also identify some of the Martin Cave sets out the case for a market-based problems that have to be addressed when spectrum management regime in building on moving to a more market-orientated spectrum the argument that spectrum should be treated system. In particular, spectrum authorities like any other input. He discusses how licence- often face complaints from incumbent users exempt spectrum or commons can be fitted when they try to free up spectrum for compet- into this market-based framework and how itive purposes – especially if incumbents have

Overview spectrum management can be adapted to committed to large scale investments on the achieve flexibility in spectrum use in a richer assumption that they will have access to a context of adaptive technologies. In order to scarce resource. Isolde Goggin notes that the respond both to current and future needs for 28 debate on digital switchover has focused the period following 2010, Cave calls for a minds on how to balance market mechanisms radical rewriting of the EU regulatory frame- with the need to ensure the availability of work that would allow significant harmonised spectrum for services of general economic or spectrum trading and liberalisation in the social interest, and argues that there is “no European Union. right answer” to the balance between spectrum The compatibility of spectrum property rights markets and a more policy-driven approach to with a spectrum commons approach is covered spectrum allocation. Much depends on the by Tom Hazlett. Just as a public park is best nature of the public policy goals and the provided when the costs of the park are known scope that markets might have for providing and competitive land-use alternatives are the right incentives for any particular group of permitted, Hazlett argues that exclusive spectrum users. Broadcasting may be a special spectrum ownership facilitates efficiency. He case, she argues – especially where public argues that liberalising spectrum policy service broadcasting is concerned. But even 001-037 6/11/06 20:03 Page 29

here there may be scope for introducing ex ante regulations. Some new markets will economic incentives for broadcast users of emerge (e.g. for hybrid fixed and mobile the spectrum – perhaps via spectrum pricing services), and it is possible that cluster to encourage efficient use of the spectrum markets will develop for new service bundles. they have been allocated. In particular, it is likely that there will be increased availability of multi-play service One thing is clear: even in a market-based provision, with providers offering service approach, policy-makers and regulators affect bundles which may cover fixed and mobile the outcomes of spectrum assignment, for telephony, broadband and broadcasting example through the sequencing and services. Convergence will inevitably lead to packaging of assignments and through their new market definitions, so the analysis will role in international spectrum negotiations. need to be updated. New approaches to regulation Dynamic approaches The trends described in this book are exposing Against this background, regulators around the the very different frameworks under which world are focusing increasingly on the dynamic radio, television, fixed and mobile telecoms benefits from the competitive process. In his have historically been regulated. Much of the chapter, Philip Booth argues that it is important regulatory framework for different platforms for regulators to concentrate on the compet- is enshrined in legislation. Policy-makers will itive process and less on trying to recreate the need to decide whether regulators should labour hypothetical outcome that would result from under the constraints of existing regulatory perfect competition. Expressed in another way, frameworks, or make changes to the legislative this means a different approach to balancing structure to take account of convergence. the risks inherent in any regulatory decision – worrying more about the risks that regulatory Economic regulation

intervention might stifle innovation or distort Overview Changing market boundaries market decisions than the risk that competition Much of the focus of economic regulation proves not to be as effective as hoped. Jonathan in communications to date has been on Cave identifies options for using market 29 promoting competition to monopolies, or, mechanisms more readily to achieve any given where this has not been feasible, replicating regulatory goal. Len Waverman argues what the effects of competition through regulatory is required is a re-evaluation of the costs and pressure on costs and prices. In most countries benefits of ex ante regulatory intervention where ex ante regulation is applied to a network compared against the costs and benefits of operator a finding of dominance, or market relying instead on ex post competition policy power, in a defined relevant market is required framework. He stresses the importance of first. In light of convergence, it is expected that investment in advanced electronic commu- boundaries between products and services nications services as a key determinant of will continue to blur; new forms of mobile economic growth. Even if there are some and portable devices are likely to appear with enduring bottlenecks, for example, regulators interactive and broadcasting features. It is could still benefit from changing the focus of probable that this will have some implications the way in which they approach regulatory for the market definitions that underpin decisions. As Irwin Stelzer argues, “less is 001-037 6/11/06 20:03 Page 30

more”, especially in periods of rapid techno- role that it plays in providing wider competitive logical change, and the presumption should advantages for nations and their citizens. be in favour of market forces to operate with Electronic communications networks are not – technology that best satisfies consumer needs for the most part – tradable across national and avoids regulatory ‘mission creep’. boundaries, but they are an essential input into business and society in each country. Infrastructure competition Therefore, a premium should be placed on How this debate plays out partly depends on high-quality, cutting-edge and affordable tele- where you are starting from. The approach communications networks in order to improve needed in pursuing the twin aims of efficiency and secure economic growth and competition and investment is clearly jobs. Hundt argues that governments have a determined to a large degree by the legacy responsibility to ensure that their citizens do of past infrastructure developments and the not come off worst in the competitive battle existing state of competition. The likely between countries, which means support is impact of inter-modal competition, especially required for the creation of high-quality, on competition in the local loop/access modern and efficient broadband networks – network, depends on how much chance there and regulators have a role to play in ensuring is of it emerging (or threatening to emerge) the environment is conducive to this goal. in a way that can exercise a reasonable degree But, as Hundt points out, the removal of of constraint on the actions of a dominant unbundling rules in the United States and incumbent operator. Even if there is effective the reliance on inter-platform competition competition in urban areas, there may be only has not ended the debate about competition one dominant supplier in less densely popu- and access. lated areas. M.H. Au, in his chapter on Hong Kong, explains how the particular conditions Net neutrality

Overview in that market have enabled huge progress Prompted partly by developments in the US, to be made in promoting competition and there is an emerging international debate about withdrawing from some aspects of regulation the issue of ‘network neutrality’. Although used by different people to mean different things, 30 – such as the planned end to local loop unbundling requirements, now that effective the real issue is about the extent to which broadband competition has been established. network operators should be free to offer (and charge for) differentiated levels of service to In the United States, where there is extensive access their networks. As different qualities access to both cable and fixed-line telecom of service become easier to implement in the networks, there is arguably greater scope to long-term, this debate may intensify. allow the market to take its course than in countries which have relatively limited cable Eli Noam points to internet content and competition, and where there is still a domi- applications providers, as well as some nant incumbent telecommunications provider. traditional media companies that, he argues, have banded together in order to seek Investment in next protection from the network companies’ power generation infrastructure over access prices, quality, price discrimination Reed Hundt, in his chapter, raises the issue of and the perceived likelihood that they will communications sector infrastructure, and the favour their own content subsidiaries. 001-037 6/11/06 20:03 Page 31

However, Reed Hundt points out that there are suggests, is to abstain from interventions good economic reasons to allow such differ- which unwittingly or deliberately sustain entiation, in order to ensure that those who incumbents while squashing the scope for value enhanced service features and quality disruptive new entrants to emerge. In can attain them (for a suitable price) and that particular, established players may try to use those who do not, don’t need to pay for things extensions to copyright, patents, and other that they do not value. He argues that price elements of intellectual property to protect and service quality differentiation will also their market position – rewarding current provide the best environment for investment rights holders without necessarily providing in network capacity and service levels. any incentive for further innovation.

Potential for new bottlenecks Regulation to support social objectives

Changes in services delivered may mean that Continuing social objectives new bottlenecks could develop at multiple Our contributors argue that the blurring of levels of the value chain, for example in DRM product and service boundaries has significant or search engines. As our economic authors implications not only for economic regulation, have cautioned, ex ante regulation at one level but also for the complex framework of social could be risky as it could favour one level over or ‘citizenship’ regulation – a myriad of rules another and therefore distort the market, since and obligations which has evolved over the companies’ investment decisions will be years to sustain what are seen to be important influenced by arbitrary regulatory distinctions societal outcomes. Such regulation aims to rather than commercial realities. However, a deliver outcomes that even an efficient market removal of regulation could also be risky. This would not guarantee. Interventions to secure would imply that a provider power may be such ‘societal outcomes’ include: offset by the countervailing buying power of

the purchaser. At the company level, this could • securing the widespread accessibility of Overview be adequate as individual companies would fixed telecommunications services through be constrained in using their market power to universal service obligations distort competition, but at the consumer level • securing through the application of licence 31 it could be less so because retail price levels conditions to broadcast TV and radio may be significantly higher as result. As part of channels: this, regulators will have to balance the need to secure access to bottleneck platforms with • standards for the protection of audiences the need to ensure incentives for efficient against exposure to harmful or offensive investment and innovation. content

This is also important for the discussion on • standards to preserve the distinction social goals and their implications for between advertising and editorial regulation. As Charles Leadbeater argues in content his chapter, we should encourage the further development of a new highly social and • range, quality, plurality and broad distributed form of media production. The availability of broadcast audio visual and most important thing for regulators here, he audio programming (achieved through 001-037 6/11/06 20:03 Page 32

measures including output quotas, news telecom, because the issues that led to telecom impartiality requirements, advertising regulation – discrimination, market power, restrictions, independent production national security, consumer protection – are quotas, and radio format specifications). the same issues being raised by the internet, it then follows that the telecom rules become The need for new models the rules affecting all media. In many cases, the increase in competition within and between platforms represents the Of course, some historic ‘social outcomes’ may success of economic regulation. Yet, it can instead be delivered by the market. Chris Giles often undermine the mechanisms through makes some important practical points about which these societal outcomes have been the need to recast our public policy objectives delivered to date. These mechanisms can be and to develop new mechanisms, such as thought of as implicit ‘compacts’: for example, contestable funding, to deliver them. access to valuable scarce broadcasting spectrum Similarly, a number of universal service in exchange for Public Service Broadcasting regulations currently ensure that blind or deaf (PSB) or commitments to protect against people have access to special services allowing harmful or offensive content; or universal them to use telephones. The arrival of the access to telephony at a uniform price in internet, and of Next Generation Networks exchange for historic incumbency. (NGNs) using open standards, allows products Competition erodes these ‘compacts’. For designed specifically for this market to be example, competition in telecoms has focused profitable, which may change how we need on high-value customers in low-cost locations, to consider such regulation. taking market share and eroding the margins Around the world, local and regional that to date have cross-subsidised lower governments are examining different options value customers in high-cost locations to an

Overview to secure universal broadband provision – incumbent. In television, the scarcity value of typically with access to some form of public terrestrial analogue spectrum is declining as funding, made available on a competitive multichannel penetration increases. As the basis. As Steve Burdon notes in his survey of 32 value of one half of these ‘compacts’ declines, developments in Asia, many regulators are their effectiveness in securing social outcomes adopting what he terms a “proactive” approach is likely also to decline. The origins of PSB of to managing emerging competition, which course lie very much in the analogue age. A involves setting national interest goals – such key economic feature of broadcasting in the as investment in modern infrastructures – as analogue world is its public good characteristics. part of the overall regulatory framework. In the age of satellite, cable and IP-based networks this will all change. Changing social needs The new models will need to reflect changing Eli Noam fears that as the internet becomes social needs. In the future, consumers will the main platform for most media uses, there face greater choice, and, given improved will be pressure to extend existing telecoms information and tools and a much better regulatory rules to much of the media system understanding of media issues (media as a whole. He argues that as the regulatory literacy), will be able to exercise their own rules for the internet move towards those of 001-037 6/11/06 20:03 Page 33

individual decisions about what to consume. certainly have a role in monitoring the extent John Naughton describes the waning and understanding the impact of such exclusion influence of the established broadcasters and, – particularly as an input into any debate like Charles Leadbeater, notes the importance about universal service obligations. Carolyn of new media as a tool for increasing social Fairbairn proposes some criteria by which we democracy. Naughton argues that the new might decide whether new media markets media ecosystem will be richer, more diverse, need to be tightly regulated or otherwise, and immeasurably more complex than the including the extent to which new services old system. Blogging, for example, helps might exercise a powerful influence over our individuals to bypass the gatekeepers of the lives, and the risk that plurality may suffer. old media world, in which “freedom of the Sustainability of national content regimes press was available to anyone who was rich enough to afford one”. The internet, especially with higher bandwidth services, will make it increasingly difficult to Nevertheless, there is still seen by many to sustain national content rules and standards, be a strong and continuing rationale for although there should be scope for building intervening in the market to deliver desired a more effective self-regulatory system which social outcomes. David Puttnam argues, for meets public expectations. Even if continuing example, that the citizens’ interest is still intervention to secure certain standards were important in the digital world and needs to desirable in the long run, the advent of take precedence over consumer interest. In broadband and the internet increases the particular he notes the continuing importance practical challenge of finding effective means of ensuring diversity and plurality in digital of so doing. Our contributors paint a picture media, and the key roles that media literacy of a world in which there are many thousands and an effective IP policy will play in that of content providers – with individual internet

environment. Ruth Hieronymi in her essay users posting audiovisual content alongside Overview argues strongly for the continuation of sector- more established professional companies – specific media law in the EU, and explains very different from the numbers covered by the intentions of the current proposals for the current licensing regime. Content will be 33 extending content regulation to on-demand available from outside a particular country, TV services. making enforcement difficult. There is also a transitional risk that – to meet the need to be Others see even more radical change – often seen to be doing something – regulation is for the better. Damian Tambini, in his chapter, either increasingly focused on those it can still sets out the case for a more holistic approach affect (the traditional broadcasters), while to role of communications in citizenship, allowing many other content suppliers to which would encompass access to networks escape attention, or applied so widely that it and services, content and public participation. hinders the development of innovative He suggests that policy should develop the content propositions from the many possible notion of citizens’ rights, including access to new suppliers who could access the market. key information services – regulators may have a role in protecting some groups from an unac- Regulators around the world are grappling ceptable level of information exclusion and with similar challenges. They appear to be 001-037 6/11/06 20:03 Page 34

pursuing two very different responses. One may remain desirable but increasingly be approach is to tackle regulation of the internet delivered by the market. For others, such as head-on, with all the implications for intrusive access to basic telecoms services, expectations regulation and impact on freedom of expression of the minimum acceptable level are likely to that entails, which is perhaps most starkly be of most concern. There is likely to be a demonstrated in China. However this is not gradual shift, often initiated by regulators, the only approach. towards more transparent and platform- neutral delivery of such solutions, such as The other is to step back, and allow individuals through a provider of public service content. themselves to exercise responsibility for what The provider would commission audiovisual they and their families consume, aided by the content that served stated PSB purposes, to be latest in content filtering and rating devices, distributed via a range of technologies and by better information about the nature of the media platforms. content to which they have access, and by clear and enforceable laws to prevent the Institutions and processes: distribution and use of illegal content (such 2010 and beyond as child pornography). This latter approach Consumer empowerment could also involve some form of ‘opt-in’ Regulators will need to consider their response regulation. That is, rather than determining via to increasing consumer empowerment, and also legislation who should and who should not perhaps actively encourage its development. be part of the regulated arena, it could be left New media developments, for example, may to the individual industry players to decide bring a much more democratic and partici- voluntarily and perhaps encouraged by certain pative relationship between users and content incentives. Jonathan Cave points out that new providers (‘user power’, ‘pull not push’), and forms of regulation, including self- and co- a shift in the balance between passive

Overview regulation, make greater use of commercial consumption and active content creation and interactions to address governance issues. conversation. This might reduce the need for Across the majority of countries, Ofcom has content regulation in its traditional form. 34 already found that a hybrid model of direct However, whereas some consumers are able and self-regulation has been used to imple- to keep abreast of these developments and ment consumer protection measures in the benefit from them, many may be baffled by e-commerce environment. For example quality their complexity. In her chapter, Carolyn seal systems are in place in France (L@belsite), Fairbairn highlights the potential that new Germany (Trustedshops) and Japan (Japan media can offer content providers and public DMA), while the Global Trustmark Alliance interest content provision in particular. A promotes the use of quality seals at an heightened role for citizens/consumers in international level. exercising individual choice and responsibility for what they consume should be supported There is likely to be an ongoing debate about by effective, tough and well-targeted consumer what social outcomes remain valuable, and protection measures. In other words, the the need for regulation to continue to deliver challenge is to encourage and help those who those outcomes. For example, some outcomes, have grown accustomed to traditional forms such as localness or ethnicity in programming, 001-037 6/11/06 20:03 Page 35

of communications to move into the the future structure of European telecoms converged world – for example, via media regulation by highlighting parallels with other literacy initiatives, promotional activity and EU markets, and the case for intelligent co- other incentives. operation between national institutions rather than a major shift of power to Brussels. Philip As Ed Mayo and Philip Cullum argue, the Booth also advocates that public policy-makers consumer interest needs to be close to the and regulators should intervene at the most heart of regulatory decision-making. Their local level so that the intervention is closest to specific ‘menu’ of proposals includes that the multifaceted individual consumers that it regulators need to start with a focus that sees is designed to serve. the public not just as prime beneficiaries of regulation, but as its co-producers. They call In his chapter, Graham Mather also talks for methodologies to be devised for action about regulatory effectiveness and identifies that goes beyond addressing imperfect the importance of impact assessments in good markets, which they argue is the case at regulatory decision-making. He also notes, present. Above all, they argue that regulators though, that there is a risk that such processes should do far more to engage consumers in lose meaning over time, and therefore need to decision-making and they must move away be subject to periodic audits. from a regulator ‘knows best’ mindset. In his discussion of internet governance, Institutional Design Jonathan Zittrain believes that if the current and future benefits are not to be lost, the What does all this mean for regulatory internet needs its own specific type of regulat- institutions? At national level many argue that ion that is neither an intrusive state-led model the case for converged regulators is clear. David nor a libertarian free-for-all. Instead he looks Puttnam reminds us of the long gestation to such institutions as the Internet Engineering period for the Communications Act 2003 and Task Force (IETF) and Wikipedia as potential Overview is rightly proud of the important safeguards guides to future internet governance. built into that Act. Viviane Reding suggests that the model of converged regulation could Conclusions be adopted more widely, even though there 35 Both Ofcom’s own international research, are significant practical barriers to this in and the many thoughtful contributions to many countries. Italy, Finland and Australia this book underline the changes that are all now have converged regulators of one likely to affect the communications sector design or another. over the next few years, and the challenges A more difficult question is what balance for regulation. Although many different and should be struck among national, regional and fascinating ideas are contained in the global regulation in this new era. No national chapters, the common theme is that policy-maker or regulator, in either the develop- regulators and policy-makers cannot stand ing or the developed world, is able to act in still. Indeed there is a risk that out-of-date isolation to the developments that are taking regulation could hinder the development place around the world. This is especially true of the sector and – to use John Naughton’s for some aspects of spectrum policy. Graham biological analogy – destroy the organic Mather sheds light on the current debate about changes which would otherwise occur. 001-037 6/11/06 20:03 Page 36

The emergence of new wireless platforms ten years. They argue for a focus on investment has, and will, contribute to increasing inter- and innovation, and for the reinvention of platform competition able to deliver multiple approaches to public interest content and other services, and any given service will able to be social objectives. They see the scope for a delivered by multiple, competing platforms. market-based spectrum policy to transform As stated at the outset of this chapter, core the competitive landscape. They are optimistic networks are increasingly similar: they use IP about the opportunities presented by new and increasingly modular device components, media and communications services for and they are based on open standards. individual consumers and for society as a whole. But they identify concerns that will need These trends of more inter- and intra-platform to be addressed if the full benefits are to be competition and changing societal attitudes realised and some worry about the emergence will affect the way that regulation delivers of an entrenched digital divide or ‘information social outcomes in future. As competition deficit’. They see an imperative for less regula- erodes the value of one half of these implicit tion in some areas, and also discuss how arrangements, they will become less sustain- regulation needs to evolve and become smarter able and less effective. In the future, more as it responds to the new challenges ahead. transparent mechanisms will need to replace them. Policy-makers and regulators will have Clearly regulatory innovation will continue to to look again at what societal outcomes are take place across the world as policy-makers desirable, and to determine what can be and regulators respond and prepare for the delivered by the market and what requires challenges and the new opportunities that new mechanisms for intervention. convergence and changes in market structure will offer. What will be important to factor in These trends will simultaneously increase will be the need to engage with consumers competition and choice, but also undermine and industry to understand these changes and Overview the effectiveness of many of the old regulatory developments. It will be necessary to reflect tools used to achieve public interest objectives the highly dynamic nature of industry and – for example, public interest content provided technological evolution and avoid an 36 by commercial broadcasters, and programme excessively static view of markets. standards. They change the way we need to The debate engendered by the chapters in think about potential and actual competition, the book will, we hope, help result in better (temporary) monopoly power, risk and answers to the big questions in due course. rewards, and the need for economic regulation. But, in summarising the contributions, we are They also call for a reassessment of our public impressed by the overall optimism about the interest objectives in the sector, and the tools potential for the communications sector to be we have at our disposal to achieve them. As a driver of economic growth and a generator our contributors argue, they require further of great cultural benefits – and the confidence tough questioning of the continuing role and that policy and regulation can evolve fully to aims of regulation in the sector. realise those benefits. Many of our authors call for a radical rethink of the approach to regulation over the next five to 001-037 6/11/06 20:03 Page 37

37 038-097 6/11/06 20:13 Page 38

section 1 Trends and challenges 038-097 6/11/06 20:13 Page 39 038-097 6/11/06 20:13 Page 40 038-097 6/11/06 20:13 Page 41

Our changing media ecosystem John Naughton Professor of the Public Understanding of Technology, the Open University, and internet columnist, The Observer

Introduction But economics – at least the economics on which we have relied to date – is the study It’s a truism that our communications of the allocation of scarce resources, whereas environment is changing. It was ever thus: an important feature of our emerging media all ‘old’ media were new media once1. environment is abundance, not scarcity. But there is something special about our present situation at the beginning of the Besides, much of the cultural production that 21st century. The combination of digital characterises the new environment is driven convergence, personal computing and global largely by non-economic motives and takes networking seems to have ratcheted up the place entirely outside market processes. In the pace of development and is giving rise to words of Yochai Benkler, what we are seeing is radical shifts in the environment. the emergence of:

Because we are living through this upheaval, “…a flourishing non-market sector of infor- it is difficult to take the long view of it. mation, knowledge and cultural production, Our problem is not that we are short of data, based on the networked environment, and and challenges Section 1: Trends or even of information; au contraire, we are applied to anything that the many individuals awash with it, as companies and governments connected to it can imagine. Its outputs, in turn, turn to consultants and market researchers for are not treated as exclusive property. They are enlightenment or guidance. But the resulting instead subject to an increasingly robust ethic of 41 glut of information doesn’t seem to be making open sharing, open for all others to build on, us much wiser. Indeed our current state might extend and make their own.”2 be best described as one of ‘informed bewilderment’. For these and other reasons, a discourse rooted in market-based economic analysis Part of our difficulty is that we lack a discourse seems unequal to the task of understanding that is appropriate to what is happening. what is going on in our media environment Traditionally, we have drawn linguistic and just now. This essay explores the utility of an analytical tools from economics, and as a alternative conceptual framework borrowed consequence seek to interpret what is going from science. on through the prism of that dismal science.

1. Lisa Gitelman and Geoffrey B. Pingree (Eds), New Media 1740-1915, MIT Press, 2003 2. Yochai Benkler, The Wealth of Networks: how social production transforms markets and freedom, Yale University Press, 2006, page 7 038-097 6/11/06 20:13 Page 42

Language Postman deserves to be better known. But he was his own worst enemy, because he was a ‘Media’ is the plural of ‘medium’, a word with witty and iconoclastic writer who apparently an interesting etymology. The conventional, did not realise that, in academic life, you will everyday interpretation holds that a medium never be taken seriously if you make jokes or is a carrier of something. But in science, the write clearly. In the academic culture, luxuriant word has another, more interesting, connot- obscurantism is taken as the litmus-test for ation. To a biologist, for example, a medium is profundity. The other reason Postman may a mixture of nutrients needed for cell growth. have been under-rated is that he was a sucker And that’s a very interesting interpretation for for the Big Idea, the broad sweep across our purposes. historical periods and disciplinary specialisms. In biology, media are used to grow tissue He was therefore regarded with suspicion by cultures – living organisms. The most famous scholars whose preferred modus operandi is to example, I guess, is the mould growing in crawl along the frontiers of knowledge peering Alexander Fleming’s Petri dishes which through a thick magnifying glass. eventually led to the discovery of penicillin. Postman’s most intriguing book is The What I want to do is apply that perspective Disappearance of Childhood.3 In it, he argues to human society: to treat it as an organism that the concept of ‘childhood’ – as a special, that depends on a media environment for the protected phase in a person’s life – is an nutrients it needs to survive and develop. Any artefact of communications technology. It was, change in the environment – in the media he claims, a by-product of the evolution of a that support social and cultural life print-based culture. – will have corresponding effects on the Before print, Postman maintained, adulthood organism. Some things will wither; others may began the moment a young person was

Our changing media ecosystem grow; new, mutant, organisms may appear. deemed to be competent in the prevailing The key point of the analogy is simple: change communications mode of the society. In the the medium, and you change the organism. oral culture that pre-dated Gutenberg, 42 This way of looking at our media environment a child therefore became, effectively, an adult is not new. I picked it up originally from the at around the age of seven. This, he maintains, late Neil Postman, a passionate humanist who is why you never see children per se in the taught at New York University for more than paintings of Breughel – you merely see small 40 years and was an unremitting sceptic about adults; and it is why the Catholic Church the impact of technology on society. defined seven as the ‘age of reason’, after In a series of witty and thought-provoking which an individual could be held account- books – Teaching as a Subversive Activity, able for his sins. Amusing Ourselves to Death, The Disappearance But the invention of printing changed all that. of Childhood and Technopoly – he described Why? Because in a print-based culture, it takes how our societies are shaped by their longer (and requires more education, some of prevailing modes of communication, and it formal) to attain the kind of communicative fretted about the consequences.

3. Neil Postman, The Disappearance of Childhood, Vintage, 1994 038-097 6/11/06 20:13 Page 43

competence needed to function as an adult. I’m not sure what to make of Postman’s view So the concept of childhood was extended to about education, but his general point – that the age of 14 or thereabouts (which, of course, changes in the communications environment was the original leaving-age for most children bring about cultural change – is, I think, in state schools in the UK). And this remained accurate and profound. He made a convincing the case from the 18th century to the middle case for it in another book, Amusing Ourselves of the 20th. to Death. It is in part a devastating analysis of the impact that broadcast television had, The title of Postman’s book – The and continues to have, on American politics.4 Disappearance of Childhood – comes from his contention that the arrival of broadcast So we live in a polity that has been shaped television represented the first revolutionary by a single communications medium. Most transformation of our communications of us have grown up in such an environment. environment since Gutenberg. Just as print It seems as natural to us as the air we breathe. had transformed society – undermining the And yet it is changing under our noses. authority of the Catholic Church and stimu- In seeking a language in which to talk about lating the Reformation, enabling the rise of change, I’ve borrowed another idea from modern science and the growth of a new Postman: the notion of media ecology – that is intellectual class – Postman argued that the to say, the study of media as environments. dominance of TV had a correspondingly As with ‘medium’, the term is borrowed from dramatic impact. the sciences, where an ecosystem is defined as In particular, it had effectively lowered the age a dynamic system in which living organisms of reason. In a society dominated by the interact with one another and with their idiocies of such a medium, it didn’t take long environment.5 for a child to master the basics. Postman cited These interactions can be very complex and and challenges Section 1: Trends research that allegedly showed that American take many forms. Organisms prey on one children were ‘competent’ TV viewers, in the another; compete for food and other nutrients; sense that they understood genres and could have parasitic or symbiotic relationships; wax follow narrative threads by the age of three. 43 and wane; prosper and decline. And an This explained, he said, why although there ecosystem is never static. The system may be were remedial classes in reading in every in equilibrium at any given moment, but the American public school, he had never seen a balance is precarious. The slightest pertur- remedial class in TV viewing! (It also explained, bation may disturb it, resulting in a new set he contended, why adults were increasingly of interactions and movement to another – dressing like children, and vice versa.) temporary – point of equilibrium.

4. And not just on US politics, either. Think of the way General Elections have been fought in this country since 1960, or of the way our governance has been affected by the demands of 24-hour ‘rolling’ television news. The rise of news management and political spin has been the predictable – and understandable – response on the part of politicians. The result is a political climate in which public discussion is often conducted in banal sound-bites; in which there are always only ‘two sides’ of a question, no matter how complex; in which politicians seek to engineer ‘photo opportunities’, to dictate the terms on which they will submit themselves to questioning by television presenters and to distance themselves as much as possible from any uncontrolled encounters with actual electors. And so on. 5. Clapham: Natural Ecosystems, Macmillan, 1973 038-097 6/11/06 20:13 Page 44

This seems to me a more insightful way of television and the cult of celebrity that it viewing our communications environment spawned. The broadsheets, for their part, than the conventional ‘market’ metaphor more decided that if they could no longer be the commonly used in public discussion, because first with the news, then they would instead it comes closer to capturing the complexity of become providers of comment, analysis and, what actually goes on in real life. later, of features. In other words, television news did not wipe out British newspapers, Just to illustrate the point, consider what has but it forced them to adapt and move to a happened when new technologies have different place in the ecosystem. appeared in the past. When television arrived, it was widely predicted that it would wipe out The ‘organisms’ in our media ecosystem radio, and perhaps also movies and include broadcast and narrowcast television, newspapers. Yet nothing like that happened. movies, radio, print and the internet (which When the CD-ROM appeared on the scene, itself encompasses the web, email and peer-to- people predicted the demise of the printed peer networking of various kinds). For most book. When the web arrived, people predicted of our lives, the dominant organism in this that it would wipe out newsprint. And so on. system – the one that grabbed most of the resources, revenue and attention – was These ‘wipe-out’ scenarios are a product of a broadcast TV.6 mindset that sees the world mainly in terms of markets and market share. Yet the reality is This ecosystem is the media environment that while new communications technologies in which most of us grew up. But it’s in the may not wipe out earlier ones, they certainly process of radical change. change the ecosystem. The CD-ROM did not Life after broadcasting eliminate the printed book, for example, but it altered forever the prospects for printed works Broadcast TV is in serious – and apparently Our changing media ecosystem of reference. Novels and other books inexorable – decline. It’s haemorrhaging continued to thrive. viewers, or at least the viewers who are the most commercially lucrative. And its audience A vivid illustration of ecological adaptation 44 is fragmenting. In particular, it’s been eaten comes from the interaction between television from within: the worm in the bud in this case and newspapers in the UK. There came a point, is narrowcast digital television, in which sometime in the late 1950s, when more people specialist content is aimed at specialised, in Britain got their news from broadcast media subscription-based audiences and distributed – especially television – than from newspapers. via digital channels. This created a crisis for the print media. How should they respond to the threat? The problem is that the business model that supports broadcast is based on its ability Basically, they reacted in two different ways. to attract and hold mass audiences. Once The popular papers – the ones with mass audiences become fragmented, the commercial circulations and readers lower down the social logic changes. And, to compound the difficulty, scale – essentially became parasitic feeders on new technologies have emerged such as

6. Note that ‘broadcast’ implies few-to-many: a relatively small number of broadcasters, transmitting content to large audiences of essentially passive viewers and listeners. 038-097 6/11/06 20:13 Page 45

Personal Video Recorders (PVRs), which record of traffic. According to data gathered by the onto hard drives rather than tape and are Cambridge firm Cachelogic, peer-to-peer much easier to programme. They’re enabling (P2P) data exceeds web traffic by a factor viewers to determine their own viewing of between two and ten, depending on the schedules and – more significantly – to avoid time of day.9 And I’ve no doubt that in ten advertisements. years’ time, P2P traffic will be outrun by some other ingenious networking application, Note that when I say that broadcast TV as yet undiscovered. is declining, I am not saying that it will disappear. That’s what the computer scientist Already, the signs of the net’s encroaching John Seely Brown calls ‘endism’7, and it’s not centrality are everywhere. We see it in, for the way ecologists think. Broadcast will example, the remarkable penetration of continue to exist, for the simple and very good broadband access in developed countries; the reason that some things are best covered using rapid growth of e-commerce; the streaming a few-to-many technology. Only a broadcast of audio – and, increasingly, video across the model can deal with something such as a net; the interest of Rupert Murdoch and other World Cup final or news of a major terrorist broadcasters in acquiring broadband and attack – when the attention of the world is other internet companies; declining focused on a single event or a single place. newspaper sales and the growth of online But broadcast will lose its dominant position news; the expanding use of the web as a in the ecosystem, and that is the change that publication medium by public authorities; I think will have really profound consequ- the spread of public Wi-Fi; and in the ences for us all. stupendous growth of internet telephony – spurred by the realisation that, sooner rather What will replace it? Simple: the ubiquitous than later, all voice telephony will be done

internet. 10

over the net. and challenges Section 1: Trends Note that I do not say the ‘web’. The biggest The point of all this is that while my (baby mistake people in the media business make boomer) generation grew up and came to is to think that the net and the web are maturity in a media ecosystem dominated by 45 synonymous. broadcast TV, our children and grandchildren They’re not. Of course the web is enormous8, will live in an environment dominated by the but it’s just one kind of traffic that runs on the net. Which begs an interesting question: internet’s tracks and signalling. And already what will that mean for us, and for them? the web is being eclipsed by other kinds

7. John Seely Brown and Andrew Duguid, The Social Life of Information, Harvard Business School Press, 2000 8. At a recent conference at the Open University, the Head of Research at Yahoo estimated the size of the public web as 40 billion pages. The ‘deep’ web – the part that lies beyond the reach of search engines has been estimated to be 400 - 550 times larger than the public web. 9. www.cachelogic.com/home/pages/studies/2004_03.php 10. “It is now no longer a question of whether VoIP will wipe out traditional telephony, but a question of how quickly it will do so. People in the industry are already talking about the day, perhaps only five years away, when telephony will be a free service offered as part of a bundle of services as an incentive to buy other things such as broadband access or pay-TV services. VoIP, in short, is completely reshaping the telecoms landscape.” Economist, 15 September, 2005. 038-097 6/11/06 20:13 Page 46

A net-centric world successful it was for so long in keeping billions of people in thrall. Networks could pull in In thinking about the future, the two most audiences in the tens of millions for successful useful words are ‘push’ and ‘pull’ because they and popular broadcasts – and pitch their capture the essence of where we’ve been and advertising rates accordingly. Small wonder that where we seem to be headed. one owner of a UK ITV franchise12 famously Broadcast TV is a ‘push’ medium: a relatively described commercial television (in public) as select band of producers (broadcasters) decide “a licence to print money”. what content is to be created, create it and then But in fact the dominance of the push model push it down analogue or digital channels at was an artefact of the state of technology. audiences that are assumed to consist of Analogue transmission systems severely limited essentially passive recipients. the number of channels that could be The couch potato was, par excellence, a creature broadcast through the ether, so consumer of this world. He did, of course, have some choice was restricted by the laws of analogue freedom of action. He could choose to switch electronics. The advent of (analogue) cable and off the TV; but if he decided to leave it on, satellite transmission and, later, digital then essentially his freedom of action was technology changed all that and began to confined to choosing from a menu of options hollow-out the broadcast model from within. decided for him by others, and to ‘consuming’ The web is the opposite of this: it’s a pull their content at times decided by them. He was, medium. Nothing comes to you unless you in other words, a human surrogate for one of choose it and click on it to pull it down onto BF Skinner’s pigeons11 – free to peck at whatever your computer. You’re in charge. In the words coloured lever took his fancy, but not free at all of Elizabeth Murdoch, the web is a ‘sit up’ in comparison with his fellow pigeon perched medium, in contrast to TV which is a ‘sit

Our changing media ecosystem outside on the roof. back’ medium. The other essential feature of the world of push So the first implication of the switch from push media was its fundamental asymmetry. All the to pull is a growth in consumer sovereignty. 46 creative energy was assumed to be located at We saw this early on in e-commerce, because one end (the producer/broadcaster). The viewer it became easy to compare online prices and or listener was assumed to be incapable of, locate the most competitive suppliers from or uninterested in, creating content; and even the comfort of your own armchair.13 The US if it turned out that s/he was capable of creative automobile industry has discovered, for activity, there was no way in which anything example, that a majority of prospective s/he produced could have been published. customers turn up at dealerships armed not Looking back, the most astonishing thing about only with information about particular models, the broadcast-dominated world was how but also with detailed data on the prices that

11. B.F. Skinner, ‘Superstition’ in the pigeon, Journal of Experimental Psychology, vol.38, 1974 12. Roy (later Lord) Thompson, the Canadian media magnate who also owned The Times and The Sunday Times. 13. Erik Brynjolfsson and Michael Smith, Frictionless Commerce? A Comparison of Internet and Conventional Retailers, Management Science, vol.6, no.4, April 2000, 563-585 038-097 6/11/06 20:13 Page 47

dealers elsewhere in the country are charging The implicit assumption of the broadcast for the exact same cars.14 model was that audiences are passive and uncreative. In recent years, what we’re But the internet doesn’t just enable people to discovering is that that passivity and apparent become more fickle and choosy consumers. It lack of creativity may have been more due to also makes them much better informed – or at the absence of tools and publication least provides them with formidable resources opportunities than to intrinsic defects in with which to become more knowledgeable. In human nature. an interesting study,15 John Battelle describes the dramatic effects that powerful search engines such Take blogging – the practice of keeping an as Google are having on the advertising and online diary. At the time of writing17 marketing industries. Technorati, a blog-tracking service, was claiming to be monitoring 47.6 million.18 The net is also making it much harder for Many of them are, no doubt, vanity companies to keep secrets. If one of your publishing with no little literary or intellectual products has flaws, or if a service you provide merit. But hundreds of thousands of blogs are is sub-standard, then the chances are that the updated every day or so, and many of them news will appear somewhere on a blog or a contain writing and thinking of a very high posting to a newsgroup or email list. And order. In my own areas of professional when it does, conventional PR news manage- interest, for example, blogs are often my most ment techniques are ineffective.16 trusted online sources, because I know many The emergence of a truly sovereign, informed of the people who write them, and some consumer is thus one of the implications of of them are leading experts in their fields. an internet-centric world. This is significant, of course, but it was predictable, given the What is significant about the blogging phenomenon is its demonstration that the

nature of the technology. And in the end it and challenges Section 1: Trends may turn out to be the least interesting part traffic in ideas and cultural products isn’t a of the story. one-way street, as it was in the old push- media ecosystem. People have always been The couch potato bites back thoughtful, articulate and well-informed, but 47 My conjecture is that the most significant up to now relatively few of them ever made consequence of an internet-centric world lies it past the gatekeepers who controlled access not in the arena of consumption, but in to publication media. Blogging software and production. In blunt terms, the asymmetry the internet gave them the platform they of the old, push-media-dominated ecosystem needed – and they have grasped the looks like being replaced by something much opportunity in very large numbers. more balanced.

14. Crowned at last, Economist, 31 March, 2005 15. Battelle, John, The Search, Nicholas Brealey Publishing, 2006 16. Companies that have discovered this include Kryptonite, manufacturers of expensive bicycle locks, and the Sony BMG corporation, which used DRM software on CDs which covertly installed a rootkit on the customer’s PC, thereby potentially exposing it to malware attacks. 17. July 10, 2006 18. www.technorati.com 038-097 6/11/06 20:13 Page 48

The result is a dramatic reversal in the decline of Flickr.com, an understandable response to this what Jürgen Habermas calls ‘the public sphere’19 statement would have been “so what?” But these – an arena that facilitates the public use of services allow people to upload their pictures reason in rational-critical debate and that had and display them on the web, each neatly resized been steadily narrowing as the power and reach and allocated its own unique URL. of mass media increased. In recent years, the I don’t know how many photographs Flickr political implications of this re-energised public holds, but it must already run into many sphere have begun to emerge, notably in the millions. The most interesting aspect of it is debates among Democrats in the US about how that users are encouraged to attach tags to to challenge Republican political ascendancy their pictures, and these tags can be used as and the Bush presidency.20 the basis for searches of the entire database. The explosive growth in blogging has prompted When writing this I searched for images tagged a predictable outburst of ‘endism’ – as in with the word ‘Ireland’. The database returned questions about whether the phenomenon 226,688 photographs. (A few months earlier, marks the end of journalism. Yet, when one the same search had yielded only 85,000 looks at it from an ecological perspective, what images.) Of course, I didn’t sift through them one sees is the evolution of an interesting all, but I did look at a few hundred. They were parasitic/symbiotic relationship between mostly holiday snaps, but here and there were blogging and conventional journalism. Several some memorable pictures. What struck me case studies – for example the Harvard study of most, though, was what they represented. the Trent Lott case21, and the 60 Minutes saga22 Ten years ago, those holiday snaps would have (which led to the premature retirement of TV wound up in a shoebox and would certainly news anchorman Dan Rather) – have delineated never have been seen in a public forum. the contours of this relationship. What has But now they can be – and are being –

Our changing media ecosystem happened, in essence, is that a new organism published, shared with others, made available has arrived in the media ecosystem and existing to the world. And this is something new.23 organisms are having to accommodate In fact, strictly speaking, it’s something that 48 themselves to the newcomer. And vice versa. ought not to be possible, at least in terms of the The other remarkable explosion of creativity old media ecosystem. The blogging avalanche comes from digital photography. In the last and Flickr’s visual cornucopia are just two few years sales of digital cameras have grown examples of user-generated content, which to an phenomenally. Many mobile phones also now old-style broadcaster would be an oxymoron, a come with an onboard camera. So every day, contradiction in terms. In the previous millions of digital photographs are taken. paradigm, broadcasters created the content Until the advent of services like PhotoBucket and and users (audiences) merely consumed it.

19. Jurgen Habermas, Structural Transformation of the Public Sphere, MIT Press, 1989 20. Frank Rich, Ideas for Democrats?, New York Review of Books, October 19, 2006 21. ’Big Media’ Meets the ‘Bloggers’: Coverage of Trent Lott’s Remarks at Strom Thurmond’s Birthday Party, Kennedy School of Government, Harvard University, Case Program, 2004 22. Dave Eberhart, How the Blogs Torpedoed Dan Rather, NewsMax.com, 31 January, 2005. Available online at: www.newsmax.com/archives/articles/2005/1/28/172943.shtml 23. It is also beginning to have a dramatic impact on the market for stock photographs – as the rise of www.istockphoto.com shows. 038-097 6/11/06 20:13 Page 49

In the emerging system, broadcasters and is Yochai Benkler’s The Wealth of Networks.25 conventional media outlets will doubtless In it, he charts the remorseless industrial- continue to create content, but so will a great isation of the information economy from the many others. If present trends continue, early 1800s to the 1960s. In that century and there will come a point where more content a half, communications technologies tended is being produced annually by users than by the to concentrate and commercialise the entire output of what the UK Treasury rather production and exchange of information. quaintly calls the ‘creative industries’. And when He writes: that crossover point is reached, we will have “High-volume mechanical presses and the moved into entirely uncharted territory. telegraph combined with new business The wealth of networks practices to change newspapers from small- The explosion of user-generated content has circulation local efforts into mass media. been made possible by a conjunction of Newspapers became means of communi- several technologies: the personal computer; cations intended to reach ever-larger and inexpensive but powerful software tools; and more dispersed audiences, and their the open internet. Jonathan Zittrain, a management required substantial capital prominent cyber-legal scholar, describes the investment. As the size of the audience and effects of this combination as ‘generativity’. its geographic and social dispersion “This denotes”, he says: increased, public discourse developed an increasingly one-way model. Information “a technology’s overall capacity to produce and opinion that was widely known and unprompted change driven by large, varied, formed the shared basis for political and unco-ordinated audiences. The grid of PCs conversation and broad social relations connected by the internet has developed in flowed from ever more capital-intensive such a way that it is consummately generative. commercial and professional producers to and challenges Section 1: Trends From the beginning, the PC has been designed passive, undifferentiated consumers.” to run almost any program created by the manufacturer, the user, or a remote third party This model was readily adopted and amplified and to make the creation of such programs a by radio, television and – later – cable and 49 relatively easy task. When these highly satellite communications. But the economics adaptable machines are connected to a network of long-distance mass distribution systems with little centralised control, the result is a grid that were needed to reach expanding and that is nearly completely open to the creation geographically dispersed populations were and rapid distribution of the innovations of typified by very high up-front costs and low technology-savvy users to a mass audience that marginal costs of distribution. “These cost can enjoy those innovations without having to characteristics”, writes Benkler, “drove cultural know how they work.”24 production toward delivery to ever-wider audiences of increasingly high production- The most persuasive narrative to have emerged value goods, whose fixed costs could be to date about the significance of generativity

24. Jonathan Zittrain, The Generative Internet, Harvard Law Review, vol.119, no.7, May 2006 25. Benkler, op. cit. 038-097 6/11/06 20:13 Page 50

spread over ever-larger audiences like What has happened, in other words, is that television series, recorded music, and movies. ownership of the means of cultural Because of these economic characteristics, the production has passed from those who could mass-media model of information and afford their high capital costs in the old cultural production and transmission became ecosystem to just about anyone who has a the dominant form of public communication computer, some appropriate software and an in the twentieth century.”26 internet connection. One doesn’t have to be a devout Marxist to realise that such a radical This was the world in which – as the old joke shift in the means of production will, in due put it – freedom of the press was available to course, impact on what Marx called the anyone who was rich enough to afford one. ‘superstructure’ – the culture that sits atop the The combination of technologies that have fundamental economic realities of production. produced Zittrain’s generativity has, Benkler The emerging ecosystem argues, changed all that. The core function- We can now begin to see the outlines of alities needed to create, store and disseminate the media ecosystem that is emerging under the information, knowledge and culture are now pressure of the developments I have discussed. widely available and cheap – at least by My guess is that it will be significantly different Western standards. from the ecosystem that was dominated by “Any person who has information can broadcasting technology, and in which all of connect with any other person who wants it, our regulatory apparatuses and many of our and anyone who wants to make it mean business models were designed. something in some context, can do so. The It will be richer, more diverse and high capital costs that were a prerequisite immeasurably more complex because of the to gathering, working, and communicating number of content producers, the density of Our changing media ecosystem information, knowledge, and culture, have now the interactions between them and their been widely distributed in the society. The entry products, the speed with which actors in this barrier they posed no longer offers a conden- space can communicate with one another, sation point for the large organisations that 50 and the pace of development made possible once dominated the information environment. by ubiquitous networking. Instead, emerging models of information and cultural production, radically decentralised and The problem – or ‘challenge’, to use the based on emergent patterns of cooperation and politically-correct term – is whether old sharing, but also of simple coordinate coexis- regulatory systems and business models can tence, are beginning to take on an ever-larger be adapted to work in the new environment. role in how we produce meaning-information, As far as business is concerned, the answer is knowledge, and culture in the networked simple: companies that don’t adapt will information economy.”27 vanish from the earth. The big question is whether the same holds for regulators.

26. Benkler, op. cit., page 29 27. Benkler, op. cit., page 32 038-097 6/11/06 20:13 Page 51

Private is the new public Jonathan L. Zittrain Professor of Internet Governance and Regulation, Oxford University

This essay is drawn from the author’s inaugural with the information. (Typically the answers are lecture at Oxford University on 25 April 2006. ‘as much as it can’ and ‘whatever it wants’.) It is published here under a Creative Commons Security of personal information follows closely Attribution-NonCommercial-ShareAlike on the ‘defence’ theme, and there have been 2.5 Licence. some valuable policy innovations in this sphere.

Introduction For example, a 2003 California law provides that if you expose your customers’ private ‘Internet governance and regulation’ calls data to others, you must alert customers to to mind committees and voting, reams of the security breach. This has led to a rash regulation about bandwidth or content or of letters drafted by marketing professionals identity, and treaties among states. Those who trying to figure out how to send bulk mail to consider themselves scholars or practitioners millions of people telling them that a package of internet governance may well identify with containing tapes with their credit card and these phenomena. Here, I wish to take a social security numbers has been lost. (It turns different tack because I do not see the future out that it helps if you include money-saving of the governance of the internet – or the coupons with the letter.) and challenges Section 1: Trends people who use it – there. The cutting edge of privacy-as-defence can be To explain what I mean, I want to start from found by looking at a hypothetical website, a topic that nearly everyone agrees carries allmuzak.com (figure 1), where two different 51 salience in cyberspace – privacy – and then visitors can be charged two different prices for show how the meaning of privacy is itself the same CD. evolving, and how the means by which we should promote and protect it call for tools It is something that might be done as that that transcend the emerging toolkit relied site records the number of nanoseconds that on for internet governance issues. elapse between the time you view a page Privacy-as-defence about a CD you might want, and the time your trigger finger finally hits ‘Buy it Now’. The prevailing view of privacy in cyberspace is There are those who do not even seem to have that of defence: safeguarding one’s information time to register the price before they buy, and against those who ought not to see it. ‘Privacy those who linger and browse, and come back, policies’ are found on many websites, consisting and finally buy. Perhaps the former should be of a little-read boilerplate about what the charged more than the latter because they do website gathers from a user and what it does not even appear to be paying attention. Is this 038-097 6/11/06 20:13 Page 52

a good idea or a bad one? As somebody who Privacy as strategy tends to buy before he thinks, I think it is I see privacy moving from defence to strategy, a bad one, but more rigorously, it causes us expanding the notion of privacy beyond the to ask how we should conceive of even the mere citizen’s plea to have certain secrets or simplest of transactions when the underlying private facts remain under control. The core technology allows for such nuanced distinctions of privacy transcends this conventional to be made. conception. In figure 2, both Geoff and Robert have visited Part of a more expansive view can be found in the site and are charged the same sticker price. the wildly, disproportionately successful iPod. But with their loyal customer card, they are 32 million iPods were sold last year, one every given an individualised discount resulting in second. It is a $3 billion market. The market the original price that they were respectively for iPod accessories alone is extraordinary: $1 asked to pay in the first example. Is that less billion. One billion dollars for accessories like offensive than engaging in blatant price a small electronic dog which dances as your discrimination? It is functionally equivalent iPod plays. A new UK warship, the HMS of course, but it appears to be less offensive. Daring, was just constructed with built-in iPod Privacy-as-defence is a generally well-trod docks. (Since the ship cost $1 billion, one area of inquiry. Here I want to draw from might say that it represents a doubling of the it the lesson that both the problems and market for iPod accessories in a single year.) opportunities of cyberspace eventually escape The success of the iPod reminds us that we the digital realm. The instances of differential can come to have a certain identity with an treatment on the basis of data mining that object that transcends its purely functional we imagine in allmuzak.com will find their value. If your iPod is stolen, it is somehow not way to the real world.

is the new public Private the same to simply get a new one; there was As you use a loyal customer or other kind of something about that iPod. Many people card, it may well be that the price of a loaf of inaccurately believe that their iPods get to know their tastes and in a random shuffle play, 52 bread becomes indeterminate: there is a sticker price that no one pays, and when you take the start to play the music they like better more bread up front, you will find out what your often. This is a form of putting one’s identity special discount gives you as a result of your into the artefact, vesting it outwards from one’s relationship with the store. Merchants need physical self. This represents an expansion of not only vary price; they can and will also vary the private sphere; technology can help people service. Customer cards, soon augmented by find new ways to express themselves. radio frequency tags, can serve to identify Consider Apple’s iTunes music store that now those who arrive at a home improvement includes a section for podcasts. Podcasting, store, monopolise the attention of the a technology developed several years ago, attendants and exit without having bought a enables creators to produce a ‘channel‘ of single nail. With these kinds of cards, the store music and video content to which people can can discern the good customers from the bad, subscribe and automatically receive updates. and appropriately alert the staff to flee from The iTunes music store has since embraced bad customers and approach good ones. podcasting. Type in ‘Harry Potter’ there, and you 038-097 6/11/06 20:14 Page 53

Figure 1 and challenges Section 1: Trends

53

Figure 2 038-097 6/11/06 20:14 Page 54

will see multiple featured podcasts, none of it that could cause 32,000 people from around which is approved by J. K. Rowling or her the world to send in photographs that have a agents. Instead, they were made by enthusiasts political valence to them? The internet audience with a computer and microphone, creating their is so vast, so varied, that any idea with a own Harry Potter shows for others to download modicum of appeal might be able to reach a and enjoy. critical mass of takers. When we measure the impact of an idea on a scale more refined Consider virtual worlds, where more and more than the raw number of page views its web people are spending their time. 100 million incarnation receives, we see an astounding people worldwide log in each month to play number of unexpected successes arising from interactive computer games – quite an amazing this medium – successes that I say are undertaking, given that my suspicion is that anchored in a sense of our private sphere nearly everybody in this room would deny finding an opportunity to expand through having anything to do with a virtual world. the very medium. Many invest their identities in those worlds, such that if the world should be shut down Private as the new public or their avatar abruptly eliminated, they would In fact, the way these spheres expand and not just feel as if they were thrown out of a more importantly, interact with one another, movie early; they would feel as if a piece of their suggests that private can in some important very identity had been lost. respects become the new public. Let me explain, beginning with the National Investment of identity can become collective. Aeronautics and Space Administration (NASA) A site called sorryeverybody.com was put up click-workers’ study described by Yale Law after the most recent American presidential Professor Yochai Benkler in his most recent election. One American decided to say “sorry, book, The Wealth of Networks. we tried” to the world, and invited others to is the new public Private join him in expressing an apology, each with NASA had a tedious job, the sort that puts Tom a single photograph. Today there are over Sawyer’s white picket fence to shame. It had 32,000 people who sent in photographs, each pictures of the moon and of Mars with craters 54 with a different message. The website spawned a on them. These were standard bitmap images, book spin-off, as well as apologiesaccepted.com, and they wanted the craters to be vectorised. To where the rest of the world found a chance to put it even less interestingly, they wanted people say “thanks anyway” to the 49 per cent, to draw circles around circles, and asked for including a wry note from Singapore: “At least people on the internet at large to undertake this you could vote for your president”. I would be task. As a result, the Crater Identification and remiss if I did not mention sorryjustisntgood Mapping Project found, much to NASA’s enough.com, the website by someone not pleasant surprise, that within a week, the work ready to accept the apology, and of course, of a single graduate student for a year could be wehavenothingtobesorryfor.com. replicated. (I am not sure whether this put the graduate students out of a job, but it at least put Nearly any example in the realm of fast-moving them out of their misery and may very well web zeitgeist is, of course, a trinket du jour. But have provided an opportunity for more these efforts bear further examination. What is enticing work.) 038-097 6/11/06 20:14 Page 55

The near-costless aggregation of far-flung quasi-public whole is Wikipedia. The free work can be applied beyond craters. For online encyclopaedia has over 1 million example, consider the task of optical character English-language articles. The idea of an recognition as each book of the Bodleian encyclopaedia that anyone can edit live is Library is scanned for a digital, full-text search. clearly lunatic. If somebody came up to you Mistakes are made. An automated scanner in 2001 and said “I am going to build an once came upon ‘Tim Berners-Lee’ (the name encyclopaedia to rival Britannica or surpass of the founder of the World Wide Web) and it, and this is how I am going to build it: by rendered it as the ‘Timberner’s League’ which throwing open the doors to the world at I imagine as a team of lumberjacks. large.” you would have needed quite a degree of foresight to say anything other than “you Today, surfers on the web, truly having run out are crazy.” And yet here is Wikipedia. of things to do, can play a video game where they score points when they highlight such What is most impressive to me is that the inaccurate translations, and gain even more entries in Wikipedia that we think most points when they correct them. Thus in real controversial and sensitive are typically the time, we can build a collective, organic ones that reflect the most depth, the most computer of the world to work to improve care. Consider the entry on Rachel Corrie, optical character recognition. These are the an American protester in the Gaza Strip. She kinds of grid applications that suggest a stood in front of a bulldozer to stop it from certain emerging public activity from knocking down a house. The bulldozer struck individual private actions. and killed her. As you might surmise, there is quite a lot of controversy around these circum- And we see, again, the movement from virtual stances, and the article reflects that debate. to real: ‘shot spotters’ comprises a series of microphones arrayed in certain neighbour- With every article on Wikipedia, there is not and challenges Section 1: Trends hoods such that if a shot is fired, the micro- only the article itself, but also a corresponding phone picks up on that particular sound wave, discussion page where people who make triangulates among multiple microphones to changes to the article can justify them to it, and summons the police. Augment it with a others as they go back and forth. The page’s 55 neighbourhood watch, where we do not just history and discussion page reveal, for have the police watching from closed-circuit example, the participants discussing whether televisions. Instead, the public at large can in fact a picture of her burning an American review CCTV camera feeds and press a button flag in a protest before she went in front of the if they see something strange going on bulldozer is one that ought to headline the through their computer monitors, at which article, rather than a simple profile picture. point two other ordinary citizens are asked These are the kinds of discussions you could for verification: “Do you agree that there imagine taking place in the editing room of is something strange going on here?” If the Britannica, among the handful of editors answer is yes, the police can be sent. That assigned every interval to write entries like this is quite a force to be reckoned with. – though, to be sure, there is not yet an entry Today, the central proving ground for on Rachel Corrie in Britannica. We are thus individual expression cohering into a single able not simply to hear what a source 038-097 6/11/06 20:14 Page 56

oracularly says, but to see the debates, wrong keeps track of people making such a commit- turns, and dead ends that precede it. ment, and once the designated critical mass is reached, all parties are alerted. On Wikipedia, these debates tend toward moderation rather than toward an endless This is how the Open Rights group was formed edit-war where editors go back and forth on in the UK. It used Pledgebank to aggregate a fact with one person introducing it, another commitments to write a £5 monthly standing excising it, and a third introducing it again. order for a year, so long as 1,000 other people This is because Wikipedia is not just a were willing to make the same commitment. technical instrumentality where people edit. 1,038 people signed up by the 2005 deadline, A public wiki standing alone rarely works. and by the end of January 2006, 500 people It is, rather, an entire culture and ethos of self- put their money where their clicks were, having governance, with rules about debate and issued the standing orders. By July, 650 people editing that transcend the substance of the had followed through. encyclopaedic topics themselves. For example, The power of the new public on Wikipedia there is a three reversion rule: after the third reverted edit in a back-and- Technologies to overcome collective action are forth, the text is supposed to stay until a third powerful. So powerful that it is worth dwelling party can participate or until the two warring for a moment on the possibility of this public parties can come to an accommodation. going against the ‘old’ public: sovereign governments. You may be familiar with There are nascent systems of mediation and cartoon icons Jingjing and Chacha. These are arbitration on the site – a reinvention of a the internet police of the Chinese city of legal system unmoored from any particular Shenzhen. They have their own website and sovereign, and with enforcement powers blog. They say things such as “you should all limited to lockdown of certain pages or

is the new public Private strictly limit your own behaviour on the web exclusion of certain users, actions taken by and together we will create a healthy internet other users more senior in the Wikipedia environment and maintain harmonious hierarchy. These innovations help explain internet order. See you often.” A somewhat 56 something as inexplicable as the existence ambiguous salutation. of Wikipedia. (I still wouldn’t be entirely surprised to find that Wikipedia is a secret As we go digital, the prospects for surveillance project by the Soros Foundation, with paid of what we do en masse, not just by corporations experts writing the pages.) looking to charge us a different, maybe lower, price for things, but by governments looking And once again, the virtual points the way to gather intelligence, is a threat. We see towards the real. Take Pledgebank, started by emerging distributed ways of people combating the unassuming but brilliant Tom Steinberg, it – for better or worse, depending on whether someone who wanted to take on our classic one has a greater fear of runaway mobs or collective action problems. He has set up a runaway governments. very simple website where you can say “on Saturday, I will appear on the banks of For example, a piece of software called Tor the river Isis and pick up garbage as long as asks people to offer up their computer and 20 people agree to do so as well”. Pledgebank bandwidth such that someone from far away 038-097 6/11/06 20:14 Page 57

can shift his or her data through it and then newfound individual privilege. Think about through another and another so that by the Google and other search engines. They offer time the data gets to its destination, where it little new content of their own. Rather, they came from, or what it says from the point of crawl the web produced by everyone else, view of any of the intermediaries, is uniden- index it, and then rank search results in major tifiable from an outside source. The success part by consulting the natural rankings that of Tor is directly proportional to the number the public at large assigns as people actively of people who decide to sign up and link (or fail to link) from one site to another. become nodes. This taps into people’s judgement, and I This is, I believe, a form of ‘netizenship,’ believe there are ways in which we can tap inviting people not to look at the internet as into people’s judgements for public spirited something that comes into your house that and public interested purposes. In the case of you use as a utility, but something for which evading filtering, if that is what we want to do, your choice about how you use it can in turn or at least identifying it, we can set it up so affect the fabric of the network itself. How that people as netizens can ask that their readily one can be anonymous can then in computers alert each other or a trusted part reflect the votes counted, one network ‘mother ship’ if they cannot get to a certain connection at a time, of those people who website. If they cannot, that mothership can want to make a political commitment to ask other nearby machines to try as well, that kind of anonymity. and with a process of triangulation, a digital shot spotter can say “this block is thanks to However, even the people behind Tor do not your own misconfiguration, please just fix embrace anonymity at all costs. The Tor your computer” or “it is thanks to your charter states, in good faith, I think, the value parents putting on filtering software” or “it is of accountability. Tor’s authors are working on

your internet service provider (ISP) slowing and challenges Section 1: Trends technical methods whereby you can remain things down perhaps for mercenary purposes”, anonymous but still have a persistent identity, or “it is your government not wanting you to able to be punished should you do things that see certain sensitive, political content”. people do not like – punished in the realm 57 of the network itself. They are working on the We can create a collective dashboard of gauges means of retaining control of released data, where the more of us who step forward to do where if you publish a document, Tor may see it, the more accurate it becomes. It is a whole to it that it is stored all over the network, but new way of understanding how to collect and you as the publisher, still specify an expiration distribute information in real time, one that date by which it might delete itself once it is takes what happens down to the nanosecond, up on the network. In other words, these tools a technology then not merely used by super- that take the private and make it into a new markets to individually tune the price of a loaf public do not inevitably mean that the new of bread, but by netizens to understand and public has an utter lack of accountability, or measure the network itself. Our emerging is utter chaos. network is consummately unmeasured, in part because its architecture does not easily lend More important, processes already being itself to central points of flow. used might be appropriated to help balance 038-097 6/11/06 20:14 Page 58

A lesson learned from global warming is the originating spam. The first thing he did with value of developing a science of measuring the list was make sure the people on it could and understanding important phenomena, not email him. The second thing he did was to one that at least keeps pace with our abilities to make his list available in real time so anyone affect those phenomena. Understanding where who wanted to could free ride off of his effort the internet is going in the future ought to be to distinguish between spammers and non- paralleled with measuring the growth and spammers. Hotmail decided to do just that, so direction of the internet. Just as we can do it if Paul Vixie did not like you, you could not with detecting filtering world wide on a real- send mail to anybody at hotmail.com. time map through the individual actions of Paul was not the only social entrepreneur; people volunteering their connections, so too others existed as well, with varying tools for can we use it to judge the quality of code that deciding what was spam and who was sending people might be about to run, and where it – and varying tolerance for appeals from network bottlenecks exist and who might be those incorrectly flagged. At one point, Paul causing them. thought that another such system, ORBS – one Dangers of the new public that sent test emails sent through others’ email dropboxes to figure out who maintained so- I now wish to refine this so-far optimistic called ‘open relays’ – was a spammer. He story. People who feel newly empowered to blacklisted them and they blacklisted him move their private selves into external spaces back, spurring an all-out digital war. and then to collectively create something new, can do wrong as well as right. Today we see lots of individual decisions being aggregated, or single decisions being I’ve written that the number of internet security aggregated and sent back out to the individual incidents has been on the rise in large part for implementation. For example, Microsoft’s

is the new public Private because of the generative characteristics of the new anti-spyware program displays a welcome internet: anybody can write code anywhere in screen during installation inviting you to the world, and over the internet get it onto a “meet your computer’s new bodyguards”. computer by simply clicking “sure, yes, I would 58 These bodyguards tell you what you can and like to download and run this file”. Before cannot run on your PC if you want to be safe, you know it, you are running a new piece of as far as Microsoft is concerned. Giving such software that might as easily be a virus or power to third parties may be seen as both spyware as something useful and empowering. necessary and worrisome – it takes a network With security incidents and spam on the rise – endpoint famously configurable by its owner I am waiting for the moment when more than and transforms it into a network middlepoint 100 per cent of email is spam – we have seen subject to only nominal control by its owner. the rise of collective responses, such as the When so deployed, these private programs Mail Abuse Prevention System. An internet serve important functions that might pioneer named Paul Vixie decided he had had otherwise be undertaken by public authorities. enough of spam in the mid 1990s. Microsoft’s bodyguard metaphor is apt, and He started keeping a list of those internet most of us rely on the police for analogous addresses that he believed were involved in protection. The responsibilities when the 038-097 6/11/06 20:14 Page 59

Figure 3

private becomes the public were addressed in of encouraging and defending the free flow of the United States in the 1940s, when the town bits and bytes, rather than seeking to constrain of Chickasaw, Alabama was owned lock, them for particular regulatory purposes. stock and barrel by the Gulf Shipbuilding It would be a complex theoretical leap to and challenges Section 1: Trends Corporation. apply the Marsh substitution of public for A Jehovah’s Witness was prosecuted for private for Paul Vixie’s anti-spam service or trespass for distributing literature on the town’s Microsoft’s bodyguards – asking each to give 59 streets because they were private property. In a certain minimum due process to those they regular town, the First Amendment would have deem bad or malicious, and to be transparent protected her activities. The Supreme Court of about the judgements they make. It is even the United States took up the situation in Marsh harder to apply to the collective power I am v. Alabama, and held that the private property talking about today, where there is not a Paul was to be treated as public property, and her Vixie or Microsoft channelling it, but rather, a conviction was reversed. collective peer-to-peer consciousness generating judgements and the data on which they are I and others have speculated before that Marsh based. How do you tell a decentralised network offers some wisdom in cyberspace, where that it needs to be mindful of due process? certain chokepoints can arise from private parties. Marsh advises that sometimes govern- Let me illustrate with a couple of examples. ment can defend the individual against a You may be familiar with facebook.com. In the disproportionately powerful private party. This United States, more than 85 per cent of view can put public governments in a position university students are said to have an entry in 038-097 6/11/06 20:14 Page 60

it. Consider an entry for a former student of identity is searchable online the moment you mine, Derek Slater (figure 3). The site includes step out of that car or make a protest that a number of photos of Derek, and even photos someone captures on film or video. As a that it turns out were taken by others and result, these peer-to-peer technologies oddly tagged as having Derek in them. One set of make for a much more identifiable world photos comes from another Facebook user’s rather than a more chaotic one. entry that says “Paris is better with Derek”, These are natural inputs to a service, if one and when you look up Derek, you see this can call it that, known as Gawker Stalker at user’s photos as well because the tagging gawker.com, where people are encouraged to automatically linked them up. send in sightings of celebrities. As celebrities Armies of people are out there right now are spotted, Gawker encourages users to post taking photos and putting them onto the sightings within 15 minutes, so that if Facebook and Flickr, another photo-sharing Jack Nicholson is at Starbucks drinking a cup site. Soon there will be cameras that of coffee, you can be tuned in and alerted and automatically send your photos to Flickr as be there before he is done in order to stand you take them, stamping them with the time awkwardly near him before he has a chance and date, and in the meantime mobile phones to leave. can do so. There will be a Global Positioning Combine this with the kind of reputation Satellite (GPS) system in the camera, too, so systems developed to recommend new music the system will know exactly where the photo at Amazon or worthy transaction partners at was taken, something then made searchable eBay, and I see a chance to enter a café in Paris to others. Plus, thanks to face recognition with a Star Trek-style tricorder, a PDA, and say technologies developed by such companies as “first of all, is there anyone on my buddy list Riya and myheritage.com, once one of those in this café, or within 100 metres? Second, are

is the new public Private photos is tagged as being Derek, others can be any of their ten closest friends within 100 so tagged automatically. This means that if I metres? If so, and if they have also said they were to take a picture of this room in a little would like to meet, we should meet. Are there while and put it up on Flickr, many of your 60 people who are graduates from Oxford?” names would be automatically filled in because somewhere, your name already Oxford graduates, as I gather from attending appears tagged next to a photo of you. Congregation, are a rather large group. How can we narrow it down? Enter reputation This has troubling implications. Recall the systems. On eBay, your rating is represented by Christian Gallery News Service, something a succession of symbols depending on others’ that was started in the mid 1990s, which, assessment of you as a seller or a buyer. On among other things, took pictures of women Cyworld.com, where 18,000,000 people have in the United States seeking to get abortions accounts, largely thanks to South Korea, you at clinics and made sure to get them coming have a virtual social network that you decorate out of the car with the licence plate visible and in which you display your identity more (figure 4). thoroughly than an American would on With Riya and other image recognition MySpace. You rent your room’s virtual technology, this means that suddenly your accoutrements, and should you stop paying, 038-097 6/11/06 20:14 Page 61

Figure 4

you lose all of your possessions. Cyworld online addict. In any case, the Cyholic article includes rating systems that make it so that describes someone who sees that her existence

every day you can check in and through the can be defined and measured precisely, if not and challenges Section 1: Trends actions of others anonymously rating you, accurately, by the reactions of others. obtain a rating of your sexiness, your fame, That trend is increasing as social networking your friendliness, your karma and your takes off, and it too will cross over into the 61 kindness. As you interact with people, you real world. Some who enter cafés with the try to maximise the kinds of behaviours that ‘tricorder’ system will be deemed undesirable would have them in turn think well of you through a reputation system, perhaps on the for these purposes. basis of ratings generated from previous This has led to someone writing the I Was encounters with people the system believes a Cyholic, a Cyworld Addict article for to be similar to the people in the café. In this OhmyNews, the online newspaper in South case, a chill will pass through the crowd, and Korea with citizen-written articles. (Such people will avert their gaze. Enter someone writers include their national identity number projected to be likeable, and a summer breeze for editors, so articles are not penned comes through – people will be delighted to anonymously to OhmyNews.) If you ask me, find such a person sitting next to them. moving from Cyworld to OhmyNews is going More and more, we are going to be indicating out of the frying pan and into the fire for an our identity in daily transactions and 038-097 6/11/06 20:14 Page 62

interactions – there are even fingerprint was founded to build the internet’s protocols readers on some laptops – and it can be and to maintain its principles was porous – aggregated together for collective judgments to anyone could join the IETF. Members were be made. These judgments are not always simply asked to keep the network simple so right; sometimes you get accidental that anybody could set up shop on it and juxtapositions. Sometimes, even when you try be able to add applications to it. When they to make good associations, it goes wrong, argue about how to make the network work such as when Amazon makes recommend- better, they agree to argue on merit, not ations based on other customers’ purchases. democracy and voting. Whoever has the best Then we get a page for the Official Lego argument should win. How do they know? Creator Activity Book where we are told you “Rough consensus and running code.” can buy it with a perfect partner: American The IETF also made two key assumptions that Jihad: The Terrorist Living Among Us Today have been sorely tested in the past few years: (figure 5).You then rightly wonder, “What does that people are reasonable and that people are Amazon know about me that I don’t?” nice. Those kinds of assumptions are built As Google and other western firms enter the into the very fabric of the internet such that Chinese market, imagine redirecting some of when your Ethernet card sends a signal, it collective judgements that Google harnesses to might collide with the signal of your neigh- make sure that you are targeted with just the bour’s Ethernet card. It is understood that right advertisement when you run a certain both cards will wait a decent and random search. What if that technology were to generate interval before sending their signal again, the maxim: “Subversives who liked reading this in order to make sure that there is not a tract also liked reading this tract; this guy just collision the next time. You could get a card read two of them, he is probably a subversive.” to say, “I’m not waiting, I’m just going to keep

is the new public Private It makes one wonder which is worse: emergent hammering home my signal”, which would judgement mechanisms that are very good at lead to better throughput for you, but bad what they do, or mechanisms that are easily community ethics at the Ethernet level. I have gamed to be inaccurate? 62 yet to encounter a card that violates this norm. Governing the new public Other norms are a little harder to maintain, How do we deal with this new power of the such as that of not asserting that you are masses to determine our own judgements Miriam Abacha and have millions of dollars about each other when they are not channelled to share from your Nigerian ex-husband when through a public authority or through you send an email that appears as if it were something at least as sueable as the Daily coming from that very person. (I pity the real Mirror? I do not here want to propose laws for Miriam Abacha, should she ever want to obtain implementation by sovereigns, alone or by and use a hotmail account.) When it’s so easy treaty. Rather, I look to three supranational for a few bad apples to flout community institutions, each of which has grappled with norms, how can a system dependent on such the line between public and private. norms function?

Institution number one: the internet At the protocol level – such as that of the Engineering Task Force (IETF). The group that Ethernet card – there were many doubters. 038-097 6/11/06 20:14 Page 63

Figure 5

That is why the IETF’s mascot is a bee, because “unconstructive edits are considered vandalism; it is said, probably apocryphally, that scientists please stop and consider improving rather than and challenges Section 1: Trends never figured out how bees fly; their wingspan damaging the hard work of others”. Is this to fur ratio is too small. (I am pleased to tell naivety, or does it stand a chance to blandish you that in January 2006 scientists finally people out of their cynicism and into a new figured out how bees fly. I will spare you the way of thinking? Wikipedia so far functions 63 details, but it turns out that they flap their surprisingly well – the bee flies – though it has wings very quickly.) As a network designed for not yet experienced the likely onslaught of only ‘nice people’, the internet has held up public relations executives looking to make remarkably well under the strain of a bunch the entries for their respective companies of bad ones. (or political candidates) look great.

Institution number two: Wikipedia. Again, Another set of institutions, the Internet Wikipedia is not utter chaos. There are Corporation for Assigned Names and Numbers administrators – drawn from the ranks of (ICANN), the International Telecommunications users by other administrators – and they seek Union (ITU), the World Summit of the to impose order as a last resort, after simple Information Society (WSIS), represent what I persuasion fails. When people are found to be believe are the wrong ways to think about vandalising an entry, a Wikipedian sends a internet governance. The best features of these fairly nice note to the person saying: entities are that they keep the busybodies in a 038-097 6/11/06 20:14 Page 64

room with themselves, not bothering the rest actually understand the political culture of the of us. Why is that? Because, when I think about instrumentality they seek to master from an internet governance research agenda, a people who are already there. hypothesis about what makes the internet Wikipedia strives mightily to encourage this work comes to mind that goes in the opposite kind of apprenticeship as new people enter direction from the ICANNs, the ITUs, the WSISs the community and start creating entries. and the Working Group on Internet Governance It has the availability of exit: if you do not like (WGIG)s. These organisations presume a set of what you are experiencing in one realm, ‘stakeholders’ who will gather under a tent – you can go to another. It suggests carving up sometimes real, sometimes virtual – and talk or the internet into discrete cantons; if you do trade horses until formal agreement is reached. not like Wikipedia, start your own, rather than Such discussions can be helpful, but these thinking that one-size-fits-all governance once organisations succeed the most where the and forever is the way to go. (This clearly parameters of what they are to do are fixed – doesn’t solve every problem; if one is defamed for example, allocating responsibility for on Wikipedia, it’s a weak remedy to simply management of a given ‘top level domain’ like start one’s own website with the true story.) .eu or .museum. These are, in the context of the Wikipedia also asks that people have a stake internet as a whole, small decisions, and even in what they are doing; that they are involved they can become deadlocked, with progress in something that matters. If you present (or perhaps put better, finality) only when a somebody all at once with “what is your view handful of powerful governments intercede on Ethernet cards?” it is not obvious what or make demands. your stake is, and the amount of time it would I would say that the right question for our take to tell you would means that by the end nascent, really not yet existent field of ‘internet of it, you would be ready to vote for a dog is the new public Private governance’, is the following: what are the catcher more intelligently than you would digital environments that inspire people to act want to figure out internet governance. humanely, and that maximise the power of 64 those who do? This is not the typical lawyer’s Making the slices of decisions matter can question. It probably ought to be, but it is not help. Recall Rachel Corrie’s Wikipedia entry. – I understand that. Let us be more analytic The community of people built up around about it; it is not just closing eyes, hiding that entry in Wikipedia is not the same as the under a blanket and hoping that people can community of people arguing about an entirely get along. It is saying that, sometimes, the different topic on Wikipedia. Wikipedia is not smaller the group, the better. actually a single encyclopaedia, but is a set of miniature communities organised around an A town hall works as a town; it does not work idea, which is a particular article. Sometimes when it gets too big. It is hard to hold a you see two articles that really ought to be the referendum that is meaningful among too same one, reflecting two different communities many people across too many walks of life. that then negotiate on whether and how to If the lessons of digital organisations like the merge the two together. This brilliant carving IETF and Wikipedia are to be heeded, it calls of the world’s issues into differentially small for a model of apprenticeship where people slices helps ensure a productive tension 038-097 6/11/06 20:14 Page 65

between meta-rules (the three-reversion It turns out, of course, doing the kind of policy) and small but diverse communities automated semantic analysis behind services that can come to build trust, to work together like Essaygrader may mean that if you were effectively without any explicit rules at all. to rearrange all the words in the essay so that they were alphabetical instead of in their Wikipedia also embraces the freedom to do sentences, you would get the same grade. To wrong. The thing that makes Wikipedia work me, this says that we are at risk of mechanising over the mimicry of sites that pre-approve all the wrong things. ‘suggestions’ is that you have an opportunity, if you want, to do the wrong thing. You can It is why I think we saw fathom.com, started vandalise the page. Wikipedia will clean it up by my university and others, flounder. It was later; within five minutes it will likely be gone. started in a dot com kind of way and it is now But you have the opportunity to do it, and an archive; its materials are available for free, every time you go in there and you do not do but it had not yet figured out that the internet it, you are affirming something to yourself enables, indeed calls on us, to do more than about yourself and to the community that is simply digitise what we already do. It calls different from what happens when everything upon us to develop new tools for learning, is vetted. ones that enable students to take the same kind of effort that they put into arranging There is a third institution that I want to close their musical playlists, and give them the tools on, and that is the university. I believe the use so that they can arrange intellectual playlists, of the internet within the university has so far and say “these are the books and readings in largely been uninspired, maybe even a failure. the order I think are great to really understand When I see laptops in classrooms and view the this period of history”, then share it with screens, I see students playing Solitaire or others and let them make their own versions. Tetris. When they go onto the network, I see and challenges Section 1: Trends them playing Networked Hearts. Even worse, The system should know when two groups although I have not seen it yet at Oxford, of students somewhere in the world are people are making and losing money by reading the same text, and should put the playing poker online during class. same effort that Google puts into knowing 65 that you ought to see an advertisement for It is not only the students who are misusing dog food into saying “these two classes would the technology. It is the faculty as well. benefit from being connected right now Consider essaygrader.com. It promises to because they are reading the same thing. automatically grade student essays. The Let us get them talking to each other”. This is Essaygrader website boasts that students are the kind of functionality that the internet happy with it because it gives them instan- invites us to build. taneous feedback. Here is a sample of the feedback: “You appear to have included only It is about having a stake in what we learn. six concepts from this chapter instead of the I am marvelling at the fact that today we ask ten required. The concepts included that are to write essays and turn them in to one person from this chapter are: crime, labelling, primary who reads them, and that is it, when there deviance, time, and white-collar crime. Put in are whole Wikipedias out there in need of the others.” criticism, argument and expanding knowledge 038-097 6/11/06 20:14 Page 66

that matters to the world. What if we unleashed stays there forever so that tomorrow’s our students upon them so that it mattered? historians can look back and see it.

Closing remarks That is looking back. Looking forward, we have a chance to build monuments to I think it is a wonderful thing that our library humanity that are not the pyramids of old, at Oxford and others elsewhere are scanning created under slave labour made as a tribute the works of dead people to make them to one vain person that we look at as a available to the rest of us forever, and in curiosity now. Let us invert that and ask, a searchable format so that they no longer “What can we build together as a group?” have to be chained to a wall. That is great. Our next challenge is how to make sure that Yes, there will be bad people and inaccuracies the works we produce anew are ones that among us, but our role as netizens is to stand on the shoulders of the kinds of actually join the fray, not to wait for anybody technologies that get us working, talking and to do it for us. Our role as academics is to see collaborating in a way that simply was not how we can connect to that world at large and possible before the internet came around. invite it in. In doing so, we take our own ethos – our own ‘private’ – and add it to a Looking backwards, we see something like the new kind of public, one whose opportunities Internet Archive, oddly enough, not started by and dangers will reflect our own warring a university but by someone named Brewster impulses: generosity and greed, joy and fear, Kahle, an internet entrepreneur who ran a very connection and isolation. To embrace it is to successful search engine. The Archive seeks to place a bet that the better half can prevail. ensure that everything that appears on the web is the new public Private

66 038-097 6/11/06 20:14 Page 67

Why TV regulation will become telecom regulation Eli M. Noam Professor of Finance and Economics, Columbia University

Society’s control over media has been around, Unfortunately, both expectations are flawed. I in one way or another, since our stone age will argue that, as most media will be provided ancestors danced around the fire. When print over the internet as their major delivery media emerged in the 15th century, they were platform, internet regulation will become the censored and licensed, though eventually they major form of media regulation; and that this emerged with substantial freedoms. More internet regulation will come to resemble recently, television media were tightly con- many elements of traditional telecom trolled through a variety of means, such as regulation. Hence, telecom regulation will the requirement to obtain a scarce licence become, for better or worse, a foundation of that came with ample conditions. media regulation, instead of the hoped-for laissez-faire system. The trajectory of print towards substantial deregulation raised expectations that, in time, The roots of TV regulation television would follow a similar path, when The first issue to address is the notion that it the scarcity of spectrum would cease to be a and challenges Section 1: Trends was spectrum scarcity that gave governments bottleneck and when any and all could a tool for control of television. Arguably, the become providers of TV. This withering away opposite was the case. TV spectrum was scarce would happen when, as expected, television because governments chose to make it so, by 67 migrated to a delivery over the internet. allocating frequencies only grudgingly. One A second, more ‘techie’ school of thought reason was the fear of the power of private believed in the integrative power of digital broadcasting over politics and culture. State- technology, although with a somewhat similar controlled radio had played a major role in ending. The convergence of electronic media the internal and external propaganda efforts would lead to converging regulation: to a before and during the Second World War and symmetrical regulation of technological in the emerging Cold War. The extension of ‘layers’ such as transport or applications, such power to private parties was seen as quite rather than along the traditional lines of dangerous. It also competed with the powers different media industries. What would of governments over the means of emerge would be some combination of the information, and with the traditional media regulatory approaches, most likely with a such as newspapers. Finally, even private fairly minimalist scope. broadcasters liked the notion of profitable 038-097 6/11/06 20:14 Page 68

exclusivity that emerged through a state- one cannot reach the bits themselves and their created scarcity. source, one can still go after the physical elements of delivery: the networks. Those But if scarcity was not at the heart of cannot hide, and in a two-way medium cannot television regulation, what was? Each society easily operate across borders without has its concerns, problems, issues, traditions permission. and priorities. Americans worry about sex more than the French, who in turn are concerned One of the principles of regulatory enforce- about their linguistic purity. ment is that it is easiest to regulate the least mobile and least elastic elements, such as land Swedes fret about violence. Germans, burdened and physical goods. A second principle is that by their past, are sensitive about racist speech. it’s easier to regulate the element with the Iceland, given its size, worries about ownership fewest providers. Not only can such regulation concentration. Canada worries about its deal directly with problems that result from national identity; China about party control; market concentration in the provision of the Saudi Arabia about religious orthodoxy. element, but it also provides an indirect regu- Malaysians are concerned with ethnic diversity. latory tool to reach other related segments of The main purpose of media regulation is to an industry more easily. advance such goals.

None of these objectives will vanish just because Both of these principles favour, for internet- television signals travel over digital pipes rather based activities, the choice of the delivery than analogue airwaves. Some of these concerns networks as the nexus for regulation. First, might decline, but others will increase, and new these networks are quite limited in number. ones will emerge. It seems unlikely that societies Though the notion of the internet as being will simply give up on their societal priorities wide-open and competitive prevails, the fact is that a number of its basic instrumentalities

TV regulation will become telecom Why just because the video information now takes a different path, or is encoded in a different way. are quite concentrated, foremost among them Instead, they will simply adjust the tools to the the ‘last-mile’ delivery networks. In most new environment. countries only one such infrastructure is 68 prevalent: that of the incumbent telecom At this point, internet stalwarts will object that company. Some countries add the cable TV one cannot regulate the internet, and therefore infrastructure. A few last-mile alternatives may neither can one regulate TV over the internet. emerge, such as mobile-based TV, satellites, But this, too, is wishful thinking. fixed wireless, or powerline communications. Many people believe that one cannot regulate But when the dust settles, these alternatives the internet, even if one wanted to. After all, will serve market niches, and often be owned don’t high school kids run electronic circles by the incumbent companies anyway.

around flat-footed government and corporate Why is the delivery of bits typically such a enforcers? And can’t you locate media servers in concentrated industry? While the details vary offshore locations, far from the regulatory from country to country, the primary reasons powers of a particular country? are economies of scale and sunk cost. Many But that only proves that it is difficult to go after elements of the internet are competitive but the electronic part of their communication. If face the market power of other segments of 038-097 6/11/06 20:14 Page 69

the internet – in particular that of terminating the concept of forward-looking incremental networks once an end-user has selected a cost pricing for unbundled network elements. carrier. This results in battles, both in the Neither aviation, pharmacological drugs, marketplace and increasingly also in the environmental controls, rail transportation nor policy arena. electric utilities have anything that comes close in terms of economic sophistication and A prime example is ‘net neutrality’, an issue institutional complexity. that has achieved much prominence in America. Its meaning is a bit fuzzy, there being This is not to say that it is a ‘better’ at least eight ways to define it, but the central regulation, just a more complicated one, concern is clear: the power held by the last-mile dealing with numerous factors and conducted delivery networks – mostly traditional telecom on an economic level of significant expertise. or cable companies – to select, price or While broadcast regulation could be learned differentiate among the internet information by an attentive student in a busy afternoon, streams that pass through their pipes. and while aviation regulation is heavy with details but feather-light on concepts, telecom Fearing such gatekeeping power, internet is quite complicated. Even experts can be lost content and applications providers, as well as in explaining the relation of reciprocal traditional media companies, have banded compensation to access charges. together. They seek protection from the network companies’ power over access prices, quality, A major reason for the complexity and price discrimination and the likelihood that sophistication has been the large number they will favour their own content subsidiaries. of goals that telecom regulation tries to accomplish. In America, these range from Internet issues, telecom solutions general coverage and affordability (universal How things have changed. Barely a decade ago, service); to openness to users (common and challenges Section 1: Trends the internet’s pioneers declared in their 1994 carriage); to control of market power (price Charter for Internet Liberties: “Government, and return regulation); to integration of leave us alone, we did not call you, we don’t networks (interconnection); to international need you.” Today, the internet community is collaboration (accounting rates); to encour- 69 seeking, under the heading of net neutrality, the agement of competitors (wholesale retail policy that dares not speak its name: telecom pricing); to consumer protection (quality common-carrier regulation for broadband regulation); to the protection against inter- connections. The body of regulation that deals ference of transmissions (spectrum licensing); with access, price discrimination, gatekeeping to innovation (information services); to and vertical squeeze are just the problems that vertical protections (divestitures and fully internet providers fear. separated subsidiaries); to national security (CALEA); to personal safety (911); to And this is not surprising. Telecom regulation, consumer choice (number portability); to though derided as ‘legacy’, has evolved for a federalism (state and federal jurisdiction); to reason. We must first jettison the view that it is rural-metropolitan equity (high cost fund); to backward. If regulate we must, then telecom social equity (lifeline); to promotion of the regulation is really quite a sophisticated tool internet (e-rate) – and quite a few more. The relative to regulation of other industries. Take result has been a highly complex set of rules, 038-097 6/11/06 20:14 Page 70

which try to balance the multiple objectives There is nothing wrong with these goals. Of and accommodate the various political forces course, they are not exactly libertarian. Yet they behind them. are not hypocritical, either. They just reflect the discovery of the reality of the market power It has been easy to belittle the resultant inherent in last-mile delivery networks, and complexity as old-fashioned legacy telecom its implication for regulatory rules and regulation. And it is of course true that any institutions. For a while, hope ran high that accumulated set of rules will have its share of competition would open wide the delivery inconsistencies and holy cows. And of course, network environment. One decade and one as in any balanced system, everyone despises burst bubble later, the reality looks different. those aspects of the regulations in which they Last-mile delivery has either remained have to concede something. But on the whole, dominated by an incumbent telecom company telecom regulation is complicated and or by a small oligopoly. The reasons are not advanced in balancing multiple objectives, as those of conspiracy or of co-optation of regulatory schemes go. But they are, of course, regulators, but of economies of scale and sunk regulations, not the free market. A laissez faire cost. In competition, prices are pushed onwards approach is a principled alternative; a selective to marginal costs, which are too low for most libertarianism is not. firms to survive; ergo, consolidation takes place.

Internet libertarians belittled telecom regulation What might a system that protects content as part and parcel of old-fashioned telephone providers over the internet look like? It would networks, and a reflection of dinosaur phone assure entrants’ ability to interconnect, resell, companies and co-opted regulators. Instead, access, collocate and be compensated. There they expected, the new sprit of digitalised, may be good public policy reasons to adopt decentralised, packetised, nimble, innovative, such policies, but they cannot be described as entrepreneurial new media companies would

TV regulation will become telecom Why deregulatory. Hence, for all practical purposes, transform the system, and obviate the entire the libertarian flag has changed hands: today, anachronistic regulatory system. the incumbents wave it over their market power, while the internet community seeks an 70 But just a few years later, the tune is quite increased role for government – while still different. Now, the internet’s advocates seek a mouthing the after-dinner speech slogans of large set of supportive governmental policies. minimal government. And in particular, they seek governmental protections from the powers of the telecom This does not apply just for the interaction of and cable companies’ powers over pricing, different media companies – those of quality, discrimination, access, content, content/applications providers versus the favoritism for own subsidiaries, and so on. networks. Societal media policy goals enter as They seek an opening of incumbent networks well. Content diversity. Source diversity. through unbundled network elements and re- Balance. Privacy. Morality. Trade. National bundled platforms, line-sharing of frequencies culture. Ownership diffusion. Protection from over local networks, etc. And who should defamation. Consumer protection. Revenue institute these protections? The same derided, generation. Truth in advertising. Innovation. old-fashioned telecom regulators. Interoperability. Coverage across geography 038-097 6/11/06 20:14 Page 71

and income. Redistribution. Protection of Bangladeshi tele-medicine, Monaco tele- competition. Protection from spam. Cyber- gambling or Thai child tele-pornographers. security. Redistribution. Because most of the originators of the content cannot be easily reached directly by a national To achieve these societal goals and others will government, it is likely that the responsibility probably require regulating the infrastructure to block it before it reaches citizens will providers by direct actions, as well as make become the responsibility of network them police their users and make them act as operators in each country. tax collectors. An example is the e-rate in America, in which telecom carriers collect Second, the internet provides a tool for the subsidy funding for internet connectivity for customisation of everything, including schools, libraries and hospitals. Another regulation. Contrary to the conventional example is that of liability for internet notion that ‘a bit is a bit’, internet bits come transmissions, which the Chinese government, in identifiable packets with address and as well as American music companies, tried to sender included. And once information is impose on the delivery networks. identifiable, it becomes differentiable – and hence regulatable. One can regulate packetised As mentioned, a basic principle is that and identified information in a granular regulation will go after the most limited and fashion. Preferential treatment, pricing and accessible segment. And that normally seems must-carry become possible with to be the last-mile transmission element. identification. Internet regulation actually Under traditional broadcasting, that element becomes a more powerful tool for the state was the spectrum. Access to it was subject to a over what existed in the past. variety of conditions. For cable and satellite, orbital slots, frequencies and construction The significance of all this lies in the fact that franchises provided the regulatory nexus to most next-generation media applications will and challenges Section 1: Trends establish a variety of conditions. And under run over the internet, loosely defined, and its internet-based video media, the delivery fixed-line and wireless pathways: music, video, transmission path is the regulatory nexus, too. film, interactive games, online news media. For a time, internet distribution will be 71 It is not difficult to conceive of means to do supplemental, but in time, with broadband so. Conditions can be set for carriage or use spreading and becoming ultra-broadband, interconnection. Hardware can be required to it is likely to become the major way to deliver have screening chips and software. Prices and TV and other content. And for the emerging quality levels can be set. shared media creation or interactive uses, the And there is more, unfortunately. internet is already the principal medium.

First, there is the network as a national cordon And therefore, as the internet becomes the sanitaire. Internet TV cannot be expected to be main platform for most media uses, the only a time- or place-shifted version of regular regulatory rules for the internet become the TV or film. Inevitably, it will be used for more rules for much of the media system as a controversial uses. Imagine the reaction when whole. And with the regulatory rules for the we face a serious influx of on-demand internet moving toward those of telecom, 038-097 6/11/06 20:14 Page 72

because the issues that led to telecom become the rules affecting all media. regulation – discrimination, market power, Therefore, television regulation will become national security, consumer protection – are telecom regulation. And this is not a happy precisely the same issues being raised by the conclusion. internet. It then follows that the telecom rules TV regulation will become telecom Why

72 038-097 6/11/06 20:14 Page 73

Serving the public good in the digital age: implications for UK media regulation Carolyn Fairbairn Partner, Head of UK Media Practice, McKinsey & Company

“The charm of history and its enigmatic lessons market to capture as ever; and, second, the consist in the fact that, from age to age, nothing tendency towards highly concentrated control changes yet everything is completely different.” of media distribution in the hands of a few Aldous Huxley operators will still exist. Now is not the time to throw away the broadcast rulebook. Regulators are currently grappling with the latest technology revolution in media. The However, each new decision to regulate needs internet, broadband, digital television and a serious examination of its costs to avoid mobile devices are offering consumers new undermining innovation, investment and risk- chances for self expression, mobility and taking. Rather than adopt a ‘one-size-fits-all’ control, causing entry barriers to fall and model, policymakers should take a case-by- creating a collision between the worlds of case approach to each new media platform, and challenges Section 1: Trends media and telecommunications. What does based on the answers to three questions: this revolution mean for people as consumers • First, is this new media service or platform and citizens? Does the regulatory rulebook likely to become a ‘mainstream’ means of 73 need to be rewritten? And is the time now right media consumption for many people? to replace the traditionally interventionist model of UK media regulation with more • Second, is there a risk of spectrum scarcity free-market principles? and/or highly concentrated platform ownership that could limit the range and In this essay, we set out our assessment of quality of available content? what the digital revolution might mean for individuals, the media industry and future • Third, are the benefits of regulation greater regulation. Our conclusion is that, despite than its impact on the commercial massive changes, the two most compelling marketplace? reasons for regulation of the traditional If the answer to these questions is ‘yes’, it broadcast market are likely to continue into means that at least some of the original the new media era. First, the public benefits of reasons for regulating broadcast media also high-quality news, drama, comedy and sport apply to the new platform, and failure to will be as great and as difficult for the free- 038-097 6/11/06 20:14 Page 74

intervene would be likely to result in losing UK broadcast regulation: public value. Regulators should therefore a public service model consider using the levers of established broad- By any measure, the UK’s broadcast regulatory cast regulation to ensure that the UK’s media model involves intense public intervention. It industry continues to serve the public good. is based on the principle that a rich range of However, if the answer is ‘no’, free-market solu- universally available programmes, made free tions are likely to offer a better route forward. at the point of use, is vital to the health of Later in this essay we give examples of how society and could not be guaranteed by the this approach might be applied to different free-market alone. Its system of public service new media platforms: digital television, the broadcasting has been shaped by four main internet and mobile broadcast. But first, we policy levers: look at the choices facing today’s regulators, • Publicly-owned broadcasters: the BBC is the and at what the digital revolution means for most significant public policy lever in UK audiences and the UK’s media industry. broadcasting. It is the largest public service 1. Regulatory choices broadcaster in the world, receiving £3.1

Ofcom was established in 2002 to address billion a year (in 2005) in public funding the converging worlds of telecoms and and accounting for over 40 per cent of all UK 1 broadcasting. With some prescience, its viewing and listening. Channel 4, though creators anticipated the convergence between commercially funded, is also publicly-owned the two that is now underway. But in bringing and does not have to make a profit. together these two distinct industries, it also • Licensing or ‘gifting’ of spectrum in return brought together two distinct models of for specific public broadcasting obligations, regulation: the heavily interventionist such as achieving reach, diversity and broadcast model and the more free-market Serving the public good in digital age: implications for UK media regulation quality targets. ITV and Five are both telecommunications model. licence holders of analogue and digital In deciding how to approach the emerging terrestrial spectrum licences. media industry, Ofcom now faces a choice 74 • A range of access requirements placed on between these two models. Do the dramatic digital television operators to ensure public market changes mean that it can now be service content is easily found. For example, regulated more like the telecoms market – with all cable operators must carry public service a focus on promoting competition, auctions for channels on their networks. scarce spectrum, price but no content regulation – or is it better to carry forward the established • Direct content regulation of taste, decency principles of broadcast regulation – with and impartiality on broadcast platforms. intervention to secure investment in, and easy The UK has arrived at this unique regulatory access to, high-quality content? Or is the answer landscape through a curious mix of economics, a mix of the two? It is a vital and difficult politics and historical happenstance. The BBC decision, and one that will lead to very different was founded in 1922 to drive the sale of outcomes for the UK’s media landscape.

1. BBC Annual Report and Accounts 2005/2006 038-097 6/11/06 20:14 Page 75

radios, but over time has developed an under- Most recently, the BBC has proposed the pinning economic rationale. Economics is the creation of ‘public value’ as its sole purpose. most developed language for the analysis of In its public case for renewal of its Royal broadcast regulation, and a comprehensive Charter, Building Public Value, the BBC aims analysis of the six main market failures in to describe the potential of high-quality broadcasting was included by Gavyn Davies drama, comedy, news, current affairs and (who later became the BBC’s chairman) in his sport to unite people and to reflect their 1999 study of the BBC’s licence fee. They are: differences; to create opportunities and extend horizons; and generally to improve i) broadcasting produces externalities, the quality of life for people, both as meaning that it can bring benefits to individual consumers and as citizens. people even if they do not themselves consume it, for example through its So has the UK’s unique model of broadcast contribution to a better-informed society; regulation been successful? Comparisons of programme quality are notoriously difficult to ii) economies of scale exist in broadcasting, make but overall the evidence is positive. By leading to high fixed costs and low international standards, UK television carries marginal costs, which makes it difficult for one of the highest proportions of home-grown new firms to enter and tends to lead to a programmes and has the lowest level of concentrated industry structure; imported programmes outside the US. It also iii) spectrum is scarce, limiting competition spends more per head on original television and potentially leading to natural programming than any other country in the monopolies and high barriers to entry; world, apart from the US (see figure 1). As a result, the UK’s broadcasting system strongly iv) high quality broadcasting is a merit good, reflects the culture, tastes and values of its bringing benefits to people that they only

society. Effectively, this model of regulation and challenges Section 1: Trends recognise afterwards. Free markets do not represents a trade-off of personal freedom supply enough merit goods; for a ‘better’ broadcasting system. v) broadcasting is a public good, meaning UK telecommunications regulation: 75 that it can be supplied to many people at a price and access control model the same cost as a few; and The telecommunications regulatory model is vi) consumers of broadcasting are not fully very different. The telecoms industry has been informed, so they don’t know what they regulated largely by price and access control. are buying until they have experienced it. Unlike in broadcasting, regulators have been Together, these six market failures mean that, agnostic about the content that is carried over left to itself, the UK’s broadcast market would telephony networks, and limited their concerns not serve the public interest as well as it could to perceived abuses of market power: for or should. Over time, efforts have been made example, locking out competitors from to render this dry economic language more monopoly networks (resulting, for example, accessible, while still relying on the same logic in BT being required to give other operators of poorly functioning free markets. access to local telephony networks), or to raise prices unfairly. 038-097 6/11/06 20:14 Page 76

US$ 2006

US 192 199 393

2 UK 109 124 96 329

Japan 149 66 49 264

Germany 58 71 111 240

Sweden 61 117 61 239

Italy 105 45 34 184 Pay TV Ad Grant/Licence fee

France 68 76 33 177 Source: Screen Digest, ZenithOptimedia: McKinsey analysis

Figure 1: Spending per head on television by country

Again, most people would agree that it has media and telecoms industries at that time. been a successful regulatory model. The UK In 1996, the Independent Television has a competitive telephony market for both Commission (ITC) chose to gift scarce fixed line and mobile, while broadband spectrum to broadcasters at no cost, to enable penetration has recently accelerated and has them to launch digital terrestrial television

Serving the public good in digital age: implications for UK media regulation now almost caught up with the US. services. Four years later, in 2000, the Radio- communications Agency chose instead to One of the biggest differences between the two hold a free-market auction for spectrum to models is the way in which scarce spectrum is enable telecoms companies to offer entertain- 76 treated. In the telecoms model, it is almost ment services over 3G. This spectrum was sold always auctioned. In the broadcast model, it is for the heady price of £22.5 billion. typically allocated by non-market means to give regulators control over the kinds of The choice ahead content that are carried. These non-market We are now at a fork in the road. Ofcom could methods can include straight ‘gifting’ of choose to wind down the broadcast regulatory spectrum to publicly-owned broadcasters, or model in favour of the telecoms model. Its by licensing of the spectrum to commercial early public comments on the appeal of broadcasters or other operators based on a auctioning new spectrum (including the UHF range of public service factors such as reach, spectrum that will be liberated when analogue range and quality of content. television is switched off) suggest it is attracted This difference was highlighted in two very to transferring at least some of the principles different spectrum allocations in the late of telecoms regulation over to media. For 1990s, held by the two main regulators of the example, in 2004, Stephen Carter, Ofcom’s 038-097 6/11/06 20:14 Page 77

Chief Executive, said: “Where possible, we • Fragmenting media consumption For should leave it to the market to decide the most of the last 50 years, UK audiences best use of spectrum. It’s not our job to decide consumed a predictable diet of radio, how a piece of spectrum should be used.”2 television and newspapers as their staple sources of daily news and entertainment. Ofcom is certainly right to be looking hard at Until the turn of the century, the time spent media deregulation. It is right that regulators on each was roughly constant at 3-4 hours should only intervene where there is a strong per day per adult for both television and case to do so. In today’s risky environment, radio, and roughly 50 minutes per day of it will be particularly important to avoid newspaper and magazine reading. But in dampening private investment and innovation. the last decade there have been four major However, the right regulatory balance needs to waves of digital innovation (sometimes be determined with great care. Striking that known as platforms), each offering balance will depend crucially on how media consumers new ways to watch, read and markets are changing and whether these listen to media content. They are digital changes diminish the rationale for interven- television, the internet, digital radio and, tion. This is the subject of the next section. most recently, broadband. A fifth – mobile 2. The changing media marketplace media – is just beginning. Each seems to be following a similar pattern (see figure 2), In the past five to ten years, a range of achieving 50 per cent take-up between six technologies has emerged that will have a and ten years after launch. These new considerable impact on the evolution of platforms are taking a growing share of modern media. They include new distribution people’s time and spending power. technologies such as broadband and mobile television, and new consumer devices including • Audiences taking control The second

MP3 players and personal video recorders. feature of the consumer revolution is that and challenges Section 1: Trends While each innovation will change how people audiences can increasingly find the song, use media, collectively they have the power to programme or clip they want, when they transform it. want it. Video and audio are going ‘on- 77 demand’, and audiences are no longer guided Power to audiences in their content choices by broadcasters. For consumers, the first stage of the digital Between 35 per cent and 50 per cent of revolution has largely been about expanded households are expected to have personal choice: many new channels on digital video recorders by 2012. Accessing a vast television and radio, and easy access to library of video and audio from the internet information on the internet. The second stage will become commonplace for many will be significantly more far-reaching as most people. At the same time, television and the people gain access to full video services via the internet will become as portable as radio: internet and on the move. Three trends will news and entertainment content will be matter most: easily available on mobile phones and other portable devices.

2. Quoted in The Times, 16th December, 2004 038-097 6/11/06 20:14 Page 78

UK take-up

100% Source: Screen Digest, Jupiter: McKinsey analysis

Digital TV 80%

Broadband

60% Digital TV – 7 years MP3 players Mobile TV % take-up

40% MP3 players – 8 years

Mobile TV – 10 years 20% Broadband – 7 years

0% 1995 2000 2005 2010 2015

Figure 2: Actual and projected take-up of new media innovations, 1996-2015

Grass-roots contributors. Media used to be services (excluding equipment) is one of a one-way affair. One of the most powerful the fastest-growing categories of consumer aspects of the digital revolution is the power it expenditure, ahead of cars, holidays and

Serving the public good in digital age: implications for UK media regulation gives people to contribute their own thoughts clothes. It has grown by 40 per cent in the last and talents to others. The market for content ten years and is projected to accelerate over the produced by individuals and small, often next ten years as well (figure 4). Evidence from 78 amateur, groups is growing astonishingly the US suggests that much of the future increase quickly. More than 30 million blogs – in spending will be on new video services, such personal opinions posted on the internet by as online video. individuals – now exist. Sites such as MySpace, The changes will also benefit people as YouTube and Bebo enable anyone with an citizens. For example, the growing interactivity internet connection to reach anyone prepared of media through the internet and broadband to watch, read or listen (see figure 3). has the potential to create a more powerful The benefits of these changes are potentially educational tool than television or radio. exciting for us – both as consumers and as Active democratic debate is being stimulated citizens. Significant increases in choice, by a wide range of websites and interactive flexibility, convenience and mobility will television programmes that encourage enhance enjoyment and value for many people. participation – the chance to vote, find out Evidence lies in the money they are choosing to more about a local MP, or express views to spend on it: UK consumer spending on video democratically elected representatives. And the 038-097 6/11/06 20:14 Page 79

Built around customised Encourages grassroots homepages: users content creation: users design the look and feel can create and share of their homepage blog postings, audio and video content

Source: McKinsey analysis

Showcase media Navigated via a social content: add your network: like this favourite content to person? Why not your homepage check out their friends?

Figure 3: Features of Myspace.com

internet is creating opportunities for people to • Rise of the aggregator One category of new connect in new ways, creating new communities entrant is becoming particularly powerful: around hobbies, passions and interests. the aggregators and organisers of content. Google and Yahoo have become the

A changing industry and challenges Section 1: Trends goliaths of the new media world, offering At the same time, the structure of the media consumers largely unedited access to a industry is being transformed, bringing a wide massive range of content and, in the range of new competitors, many of whom are process, they’re challenging the role of 79 taking share from long-standing incumbents. traditional ‘editors’ of content such as the Four main changes are shaping the emerging BBC, ITV and newspapers. industry picture: • Convergence of telecommunications • Explosion of new entrants Over the last ten and media One of the most significant years, falling entry barriers have created technological advances is the new ability opportunities for a wide range of new media of telephony networks to carry music and participants. For example, the number of video as well as merely text and voice. As channels available on television has grown pure telecommunications revenues come from five to more than 300 (for satellite under threat due to intense price pressure, subscribers) over this period, taking share telecoms companies around the world are of viewing hours away from traditional entering the media industry in a search for channels such as BBC1 and ITV1. new revenue sources. For example, at the time of writing, BT is about to enter the 038-097 6/11/06 20:14 Page 80

digital television market with a consumer more targeted forms of advertising will service that combines free digital develop, taking advantage of the growing television with on-demand video and personalisation of media and the fact that, personal video recording, while mobile for the first time, some media companies operators such as Vodafone, 3 and O2 are know in detail who and where their developing increasingly rich mobile video audiences are. and music services. Ongoing limitations of the free market • Uncertain advertising revenues Advertising The scale of change and uncertainty in the has been one of the staple sources of media industry is not in doubt, nor is its funding for media content because it has potential to bring a wealth of new services to offered companies a reliable means of audiences. However, the pertinent question reaching mass audiences. However, as for future regulation is not the scale of the audiences fragment, it is becoming less change, but whether it will reduce, or secure, particularly for traditional mass perhaps even eliminate, the market failures media such as newspapers and network that provided the historic rationale for television channels. Advertisers in the UK broadcast regulation? are projected to increase their spending on the internet from 5 per cent in 2004 to 12 The answer is mixed. Some market failures per cent in 2008 (see figure 5). Over time, will be substantially reduced. For example,

Consumer spending on video services Annual consumer spending on video as percentage of income £ per household 324 1.4 2.2 times

Serving the public good in digital age: implications for UK media regulation the spend 1.2 in 1995

1.0 80

0.8 145 0.6 More than 40% in 10 years 0.4

0.2

0.0 1985 1990 1995 2000 2005 2010 1995 2005

Source: Screen Digest, BBC annual reports: Office of National Statistics, McKinsey analysis

Figure 4: Consumer spending on television and video-related services 038-097 6/11/06 20:14 Page 81

100% = £bn 6.4 7.5 10.6 11.3 13.4 Total

7 5 9 11 1 12 Internet 12 12 Other 32 32 31 30 28 TV

19 % 18 16 14 13 Magazines

42 40 40 38 35 Newspapers

Source: ZenithOptimedia: McKinsey analysis

1992 1996 2000 2004 2008E

Figure 5: Share of UK display advertising revenues by channel

barriers to entry for content providers have bandwidth becomes available. Demand is fallen dramatically, and information problems likely to outstrip supply for the foreseeable will diminish as audiences are able to catch future. As a consequence, opportunities will up with a missed programme on-demand. exist for spectrum owners to create distri- and challenges Section 1: Trends Also, it is now possible to charge people for bution monopolies and restrict the range of the content they consume using encryption content available – one of the main reasons technology and secure payment systems. These for media regulation in the analogue world. factors reduce the need for regulation in the 81 • Second, the economics of distribution on new media world. However, three problems some platforms may further contribute to will remain: the creation of monopolies, or at least • First, the spectrum needed to deliver content operators with significant market power. to audiences will continue to be scarce. Where the fixed costs of building a network Spectrum shortages will be less extreme than are very high compared with the revenues, in the analogue era, when there was room ‘natural’ monopolies are likely – that is, for only five broadcast television channels, the most efficient number of operators but scarcity issues will not go away. The may turn out to be only one or perhaps growth in video applications requiring more two players. Digital pay television has this spectrum is accelerating. There are already characteristic, while other emerging signs that high-definition television (HDTV), platforms, such as mobile broadcasting, mobile broadcasting and interactive services may share it. Monopolies in the provision will compete with new digital channels as of access to content are also possible, for 038-097 6/11/06 20:14 Page 82

example through concentrated ownership of relevant for the new platform, and access technologies such as electronic pro- regulation is likely to be necessary to gramme guides or subscriber management prevent a loss of public value as audiences systems. Again, the risk for consumers is switch consumption from television and higher prices and a narrower range of radio to the new platform. content that may not include public • Second, is there a risk of spectrum scarcity service programming. and/or highly concentrated platform • Third, there is no evidence that consumers ownership that could limit the range and will suddenly start to take account of the quality of available content? If so, gate- broader social impact of their media keepers could emerge with an incentive decisions. Even a perfectly functioning and ability to limit the range and quality media market has no way of pricing these of content, or raise prices above the level externalities, and would continue to under- that is best for consumers. produce the kinds of programmes that create them. Left to itself, the UK’s media industry • Third, are the benefits of regulation greater would still produce and make available less than its market impact? Regulatory inter- – and more highly priced – good-quality vention should not disproportionately news, drama, comedy and educational damage innovation and investment. Market programmes than is in the public interest. impact assessments have become common practice for new BBC services and could be Overall, it is possible that less, not more, regu- extended to all regulatory interventions. lation will be needed in the media industry of the future, but the case is not yet proven. If the answer to all three questions is ‘yes’, it What we can safely say is that it is too early to means that the original reasons for regulating abandon the broadcast rulebook altogether. broadcast media are also likely to apply to the

Serving the public good in digital age: implications for UK media regulation But how should regulators decide when and new platform, and failing to intervene could how to apply it? In the next section, we set result in a loss of public value. Regulators out some ideas. should therefore consider using the established levers of broadcast regulation to ensure that 82 3. A proposed approach the UK’s media industry continues to serve the The complex nature of the evolving media public good. industry means that regulators will need to explore each new platform in turn, rather than However, if the answer to the three questions adopt a ‘one-size-fits-all’ model. Policymakers is ‘no’, then a more free-market regulatory should take a case-by-case approach and model should be considered. Computer games extend established broadcast policy into the such as X-Box and Playstation are in this new world selectively, based on the answers category – they are only lightly regulated to three questions: because the externalities created by the content are relatively low; they do not substitute for • First, is this new media platform likely to mainstream news and entertainment con- become a ‘mainstream’ means of media sumption; and the market that delivers them consumption? If so, traditional social is highly competitive. value and ‘externality’ arguments remain 038-097 6/11/06 20:14 Page 83

Perhaps not surprisingly, the most interesting Case example 1: digital television cases are those that give a mixed set of answers. Digital television has been the first test case Take, for example, a platform that is likely of regulation in the digital age. It provides a only to complement existing platforms rather useful case study because its regulatory frame- than be a substitute for them – so that its work is well-developed and we are able to see public value is not clear or at least not proven what it has meant for consumers and the – but that is likely to be highly concentrated. wider market. The expectation is that it should be regulated like telecoms, to ensure fair access for all service The regulatory framework for digital television, providers, but should not need traditional largely built by the ITC during the 1990s, has broadcast regulation. been modelled strongly on broadcast principles. All four broadcast policy levers were used: the But what about a platform that is clearly likely BBC was permitted to use licence fee funding to to be a mainstream means of media consump- develop digital television channels such as News tion, but which is delivered by a competitive 24 and BBC3; spectrum was gifted to public industry structure? The answer is that there may service broadcasters to ensure guaranteed still be a case for regulation, on pure public distribution; content regulation was extended value grounds. If the externalities of a platform from analogue to digital television; and a new are high – perhaps because of its contribution set of access rules was established to ensure to democratic debate, education, or social public service channels were easily available. In inclusiveness – then, as before, the market will addition, when the commercial ITV Digital not produce or distribute as much of this sort of service on digital terrestrial television (DTT) content as it should, despite being competitive collapsed in 2002, the ITC licensed a consor- in all other ways. Market signals about what tium involving the BBC to launch a free-to-view consumers are willing to pay still do not capture digital television service, known as Freeview.

its wider benefits to society. Clearly, the benefits and challenges Section 1: Trends of regulation then need to be weighed against This regulatory outcome is consistent with our the market impact on innovation, competition proposed three principles. and private investment. This balancing of • Digital television was predicted from an early 83 public value and commercial cost is at the heart stage to become mainstream, and indeed is of the so-called ‘net neutrality’ debate about now available in nearly 80 per cent3 of UK how the internet should be regulated (see case homes and accounts for 32 per cent of study below). viewing.4

To show how this approach could work in • The risk of both spectrum constraints and practice, we have looked at three case examples: new distribution monopolies was high, for first, digital television (DTV), for which the two reasons. First, the economics of digital regulatory regime is largely complete; second, television favour only a very small number the internet, where regulation is still evolving; of operators who could therefore use their and third, mobile broadcast, the least-developed market power to restrict access and raise of the three. prices. Second, available spectrum for the

3. Screen Digest estimates 4. Ofcom Communications Market 2006 report 038-097 6/11/06 20:14 Page 84

Total digital TV penetration (pay and free) as percentage of TV households 2006

UK 77

Japan 73

Hong Kong 66

Finland 58

Sweden 58

Norway 55

US 55

Italy 51

Australia 47

France 44

Spain 44 Source: Screen Digest: McKinsey analysis Germany 33

Figure 6: Digital television penetration by country

third digital television platform, DTT, was internet, offering mostly text-based websites, Serving the public good in digital age: implications for UK media regulation limited to 30 channels. has one set of characteristics. But the fast- growing rich broadband internet, which can Finally, and with the benefit of hindsight, it offer DVD-quality video-on-demand, is looks as though the benefits of regulation 84 another thing entirely. As a result, the have outweighed its costs by some distance. application of the three principles would give The UK leads the world in take-up of digital different answers for each. television (figure 6), and the range of available channels on both free and pay The case for extending broadcast regulation services is strong and growing. into the simple internet world is weak. The simple internet has not been capable of Overall, the public interest seems to have been becoming a mainstream means of media well served by extending broadcast principles consumption (except possibly for news) into digital television. because it could not carry video. Nor are there Case example 2: simple obvious capacity constraints or distribution and rich broadband internet monopolies – access to the internet for content providers has so far been fully open. The internet is a more complex case, not least And any attempt to regulate the internet could because it keeps changing. The ‘simple’ 038-097 6/11/06 20:14 Page 85

have dampened the creativity and investment the balance between the public value of the that has been vital to make it work. evolving internet and the negative costs of trying to regulate it – effectively a weighing-up However, the picture for rich broadband of the answers to questions 1 and 3. internet is starting to look rather different.

• Broadband internet does have the Case example 3: potential to become a mainstream source mobile video broadcasting of media consumption for news and Mobile broadcasting is the youngest of the entertainment content, and indeed is just three platforms; indeed, in many countries, that for countless young people. It will look it doesn’t yet exist. However, by 2010, most increasingly like television, with many developed countries including the UK will websites already rich in video content. have at least one mobile broadcast network • Though the answer to question 2 is still ‘no’ enabling ‘live’ television channels to be – the market for broadband internet is likely broadcast to mobile phones and other to remain competitive and well-functioning portable devices, and that will complement – its economic characteristics are changing. mobile services over 3G networks. This is because, to the surprise of some, the So far, different countries are choosing different internet is starting to hit capacity constraints, regulatory models. Regulators in Japan, South and some internet service providers (ISPs) Korea and Finland are applying the broadcast and network operators want to restrict model. They have imposed ‘must carry’ access to, or extract charges from, content requirements for public service content and providers who put heavy capacity demands have gifted or licensed spectrum, rather than on their networks. Their demands are auctioned it. Meanwhile, regulators in the US opposed by those who believe that the and the Netherlands have opted for the tele- whole point of the internet is to stay coms model, including spectrum auctions. ‘neutral’ between different types of content. and challenges Section 1: Trends The argument of the ‘net neutralisers’ is UK regulators will soon have to choose which rooted in public value and the positive model to apply in this country, and it will be externalities associated with a free and open an important decision because of the precedent 85 internet. They want regulation to guarantee it could set. If regulators choose to regulate it stays that way. mobile broadcasting on a telecoms model, it will be the first UK broadcast platform to depart • But many ISPs claim that the costs of from established UK broadcast policy. So what regulation would be unmanageable. Unless insight might our approach offer? Again, taking they are able to discriminate between each of the three questions in turn: different types of content in order to fund future investment in improving their • Although the future take-up of mobile service, the result would be that innovation television is difficult to predict, research by and growth of the internet, traditionally so McKinsey suggests that it could become a dramatic, would stall. popular and mainstream service by 2015. The net neutrality issue is a complex and Despite sceptics questioning the consumer important debate that is just beginning in the appeal of viewing on a small screen, UK. Regulators will have to come to a view on 59 per cent of UK consumers polled in a 038-097 6/11/06 20:14 Page 86

recent survey wanted mobile TV very Conclusion soon, and a further 15 per cent wanted it What regulators choose to do in the next five immediately. Early launches in South Korea years will have a powerful impact on the evolu- and Japan are showing high growth, tion of UK media. They face a difficult and especially among young people. Evidence important choice between two very different from UK trials suggests that the potential models of regulation: the telecoms model, for average daily viewing is in the region of based on spectrum auctions, price and access 20-30 minutes, per day per person. control, and content neutrality, and the • It is likely that the distribution of mobile broadcast model which is based on preferential broadcast channels will be concentrated, spectrum licensing, public funding of broad- at least in the early days, because the fixed casters, and content control. costs of building a mobile broadcast network will probably be high compared with An examination of likely market evolution revenues, meaning that only one or two suggests that, despite the dramatic changes in competing networks are likely to be viable. media technology, two of the most compelling In addition, spectrum allocated for mobile reasons for regulation of the traditional broad- usage may be limited. As a result, cast markets are likely to continue into the gatekeepers could emerge with the ability to new media era. First, the public benefits or restrict access and raise prices. ‘externalities’ of high-quality news, drama, comedy and sport are likely be as great and as • The costs of regulation are difficult to difficult for the free market to capture as ever; estimate at this stage, but would need to and, second, the tendency toward highly take into account the deterrent effect that concentrated control of media distribution in regulation might have on the willingness the hands of a few operators will still exist. For of potential major players, such as infra- these reasons, regulators should examine each structure companies and mobile operators, Serving the public good in digital age: implications for UK media regulation platform individually to assess the case for to invest in the platform. and against the extension of established The likelihood that mobile broadcasting will broadcast regulation into the new markets. account for a significant share of future news 86 and entertainment consumption, but will be The guiding principles for this decision should delivered to consumers by a small number of be based around three criteria: the likely future distributors, suggests that a broadcast regulatory importance of the platform in delivering news model should not be ruled out at this stage. and entertainment content to consumers; the Regulators should seek to understand as much likely amount of market power exerted by the as possible about the answers to the three main distributors; and what the market impact questions posed in this essay – usage, industry of regulation might be. This approach, rather structure and the market impact of possible than a single policy position for all platforms, regulatory measures – before taking this should enable regulators to ensure they build significant decision. a regulatory framework for this fast-changing new media world that demonstrably serves the public interest. 038-097 6/11/06 20:14 Page 87

The consumer agenda on regulation Ed Mayo Chief Executive of the National Consumer Council Philip Cullum Deputy Chief Executive of the National Consumer Council

Regulation has become an established whereby regulators increasingly act in the profession, no less important in a world name of consumers, but all too often fail to of complex organisation than its forebears understand them. of medicine, law and the mediaeval guilds. Beyond the myths Indeed, one distinguished US regulatory academic describes it as a ‘craft’1. And yet, Over the last two years, we have challenged like all professions, what counts for approval those engaged in the regulatory debate to move and success is shaped not just by a neutral beyond the urban myth that regulation is a interpretation of the public good but also cost to business. In a competitive market, this by the interests of those with the relevant is self-evidently not true. The true costs of expertise and knowledge, who participate. regulation are charged either to consumers, as The challenge in the debate on regulation, business costs are passed on, or to taxpayers, as with every other profession, is to reconnect as the costs of regulation grow. What matters

professional practice with public concerns in regulation, we have argued, is that we and challenges Section 1: Trends without loss to the expertise that required should start from the consumer and public such specialist knowledge and skills in the interest, rather than treat it as an afterthought. first place. The costs of getting this wrong, in terms of 87 economic performance and the wellbeing of If the current policy debate on regulation is society, are considerable. anything to go by, this will require very consid- erable cultural change. The public dimension To explore how to get this right, this chapter is all too often an afterthought. Yet the truth is looks at: that active consumers do far more to regulate • how consumers approach risk and markets than any government and regulatory regulation; institution. Their sensitivity to price and quality • a framework for understanding the is a powerful regulator of firms in itself, prom- consumer interest in regulation; oting efficiency and driving improvement. But the way in which this happens tends to be • a case study of consumers and regulation assumed or invisible to many regulators. This – weights and measures; and is symptomatic of a deep, contemporary flaw • a menu for action.

1. Malcolm K. Sparrow, The Regulatory Craft: Controlling Risks, Solving Problems and Managing Compliance, Brookings Institution Press 2000 038-097 6/11/06 20:14 Page 88

How consumers approach • regulators and government do not command risk and regulation a great deal of trust. This is down, in part, to high-profile examples of regulators not If you only read newspaper headlines you handling risk well, from transport accidents could be forgiven for thinking we are a nation and mis-selling of pensions through to the obsessed by risk. The view that risk dominates classic case of BSE in food. People are our lives finds support in the opinion of particularly concerned with what they see commentators such as Frank Furedi, who sees as a failure to present information in a clear widespread public panic over issues ranging and consistent manner. from GM crops and mobile phones to global warming and foot-and-mouth – in his words, Risk-based regulation, rightly, is the order of an “epidemic of fear”.2 Rick Haythornthwaite, the day. But who ultimately decides what risk Chairman of the Better Regulation Commission, matters? One assertion that we come across in claims that caveat emptor is heavily anaes- most ‘expert’ discussions on risk and regulation thetised in many markets, that we have seen is that the group least able to make this judge- an erosion of personal responsibility on the ment is the ordinary public. part of consumers, and that there are moves In fact, our research with consumers towards regulating every last risk.3 challenges and overturns a second urban So what is going on? Is the nation indeed myth: the professional assumption that the gripped by fear? Is anxiety paralysing our lives? public will get things wrong. Of course, At the National Consumer Council (NCC), we consumers are rarely experts in matters of have conducted research into how people deal service, technology or economic valuation. with risks and, frankly, we don’t recognise the But on the whole, they are very adept at picture that has been painted. weighing up risks and benefits for themselves, What we found was that: assessing information sources and coming to The consumer agenda on regulation their own conclusions. In fact, compared to • consumers are most concerned about the some models of regulation on risk, where issues of risk that most directly affect their ministers and committees are more concerned lives and families; 88 to protect their reputations by being zealously • higher-income groups and those aged over-cautious, the public may even out- 30-60 tend to think and engage with risk perform the experts. The House of Lords issues more proactively than other groups; Economic Affairs Committee 4 recently concluded that while there is little evidence to • lower-income groups, while used to dealing support the view that Britain has become an with risk, tend to be more reactive in their increasingly risk-averse society, “public sector approach to it; reward and assessment systems may… • family, friends and relatives are the most encourage excessive risk-aversion”. important influences when it comes to assessing risk; and

2. Frank Furedi, Epidemic of Fear, www.spiked-online.com 3. Rick Haythornthwaite (2006) The Regulation of Risk – Setting the Boundaries, Lecture for the Centre for the Study of Regulated Industries, University of Bath School of Management 4. House of Lords Select Committee on Economic Affairs, Government Policy on the Management of Risk, 7 June 2006 038-097 6/11/06 20:14 Page 89

What about attitudes to regulators themselves? regulators’ well-intentioned attempts at trans- parency – whether through open meetings or In truth, very few people talk about regulators consultation documents – reach only the usual with their neighbour over the garden fence – suspects. This can still be valuable, but it is not despite recent advertising campaigns by the the same thing as involving real consumers. Advertising Standards Authority and Ofcom. Ofsted, the schools inspectorate, is probably Above all, regulators and other decision- one of the very few exceptions. But when it makers need to understand the diversity of comes to the safety of the food you buy or the consumer attitudes, experiences and needs, money you have on deposit at the bank, most and put this at the heart of their strategy. This consumers will want the reassurance of having means having real insight into complexities someone there to make sure that things do not such as: go badly wrong. • how consumers behave in real life, away Even so, we have seen little evidence of from theoretically ‘perfect’ markets – in regulators investigating what value consumers particular, how they use information and seek from what they do. Regulators, like make decisions; businesses, can disappoint equally by failing to • different attitudes towards choice. deliver or indeed promising too much. What is With growing disposable income, more the Healthcare Commission offering the public consumers now prize convenience – valuing when it allows its logo to be widely and promi- products and services in terms of value for nently used in advertisements for private sector time, not simply value for money; health and plastic surgery clinics? Conversely, what benefit do consumers get from the • the extent to which minority ethnic groups rattled-off regulatory caveats on the end of are themselves far from homogenous, in radio adverts for financial investments? particular across generations. Of these, and challenges Section 1: Trends some Muslim communities, in particular What we have tended to find in qualitative Bangladeshi and Pakistani, fare considerably research is that, even where consumers are not less well relative to others in terms of conscious of regulation and enforcement, when educational outcomes and social exclusion; 89 they consider it, they think that some protection is important to prevent business taking advan- • the UK’s ageing population. The number tage of its power. They want the confidence of people over 65 (the ‘grey pound’) is pro- that they are going to get, and be able to make, jected to overtake the number under 16 by reasonable choices. They want to know roughly the year 2014. The most dramatic change is what to do, or where to go, if something goes in the proportion of people over the age of badly wrong. And they understand that they 85: 1.1 per cent of all men and 2.7 per cent pay for regulation, so they tend to prefer the of all women; minimum amount needed to achieve agreed objectives. • widening regional imbalances. Regional GDP figures vary more widely than in other But while regulators help to underpin visible European countries, and these are mirrored benefits for consumers, they may often be by other inequalities such as endemic long- close to invisible in doing so. In reality, many term health issues; 038-097 6/11/06 20:14 Page 90

• increased prosperity but also high rates of regulators and government should focus on relative poverty (particularly in households too. We’re in favour of well-functioning with children). Women are more likely than markets. Our starting point is that competition men to live in poverty – in particular, lone works, with well-informed consumers mothers and retired women who live alone; exercising real choice. As we will see below, it is sometimes necessary to have rules protecting • the goods and services that consumers individual consumers who may be vulnerable need. These include not only the everyday in a particular market. But at the same time, essentials to ensure health and well-being policymakers and regulators can do much to (such as energy for heating the home or promote consumer interests in the marketplace nutritious food for the family) but also and enable consumers to help themselves – the things that allow their active and getting it right, not just putting it right. meaningful participation in society and the economy. Its not in consumers’ interests to have unnec- essary regulation – after all, they pick up the tab. The consumer interest in regulation We also know from years of experience that In such a fast-changing context, it is important incumbent businesses often use regulation to to be clear about why better regulation is prevent or restrict competition, for example needed. But time and again, unnecessary by setting unnecessarily high entry standards. regulation is presented as a cost for business. Business may talk tough when it comes to The British Chambers of Commerce even regulation, but all too many companies – and publishes what it calls its business ‘Burdens indeed entire sectors – are willing to embrace Barometer’. There’s a real danger that (and sometimes lobby for) rules and restric- politicians and regulators ignore the true tions when they think it will help further their meaning of better regulation, and instead own position.

The consumer agenda on regulation engage in an unseemly race to cut as much red tape as they can. At the time of writing, the Law Society has persuaded the parliamentary scrutiny committee 5 The Better Regulation portal calls for examining the draft Legal Services Bill to recom- 90 “proposals for regulatory simplification from mend that will-writing services are regulated – business, the voluntary and community even though consumer groups point out that sectors, public sector front line staff and any there is no systematic evidence of detriment to of their representatives”. Not consumers. justify it. If enacted, this would mean higher The DTI’s website says “cutting red tape by barriers to entry, less competition and greater simplifying regulation is about reducing profits for lawyers. burdens on business... This is your chance to Regulation can inhibit business creativity and influence the DTI’s cutting red tape plans and innovation. This can be a particular issue for help achieve real results for business”. small businesses, so often a driver of new At NCC, our concern is to achieve real results ideas in our economy. In fact, it has been for consumers, and we think that’s what estimated that regulation has five times as much impact on them.6

5. www.betterregulation.gov.uk 6. Federation of Small Businesses, EU dialogue is failing small firms, warns FSB, 14 April 2005 038-097 6/11/06 20:14 Page 91

A survey of members of the Federation of Small The reality is that businesses benefit from Businesses7 found that the longer someone has much regulation, and they support it when it been in business, the more likely they are to be suits them – often justifying this as the need dissatisfied with the rules affecting companies. for a ‘level playing field’, when in fact they This is the deadening effect of regulation. want quite the opposite. And while most in Unnecessary bureaucracy like this also increases business say they do not like detailed costs, and as a result consumers and taxpayers regulation, many (not least those working in pay more. companies’ compliance departments) like being given direct instructions by a regulator. Indeed, the reality is that consumers have This is apparently known in some circles as benefited hugely from much deregulation over ‘Nike regulation’, after the sports firm’s the years. In markets as diverse as opticians’ advertising slogan ‘Just do it!’ services, conveyancing and air travel, consumers now have greater choice and lower prices thanks John Sunderland, Executive Chairman of to the opening-up of markets – moves sup- Cadbury Schweppes, is a fierce critic of much ported at the time by NCC. In each case, scare food regulation, denouncing ‘traffic light’ stories put around in advance were unfounded, nutritional labelling as ‘extreme’. But as and quality standards have been maintained. President of ISBA, ‘the voice of British advertisers’, he has called for increased Many business people routinely denounce all regulation of the BBC and for a proposed regulation in the strongest terms. The CBI talks merger of two TV companies to be investi- regularly about “a red tape tide”, while the gated by the Competition Commission.11 British Retail Consortium8 says that “excessive When they talk about the detail, business regulation and red tape are damaging business”. leaders often have pretty nuanced views about The British Chambers of Commerce9 goes regulation, recognising the pluses and minuses even further, declaring that “monitoring and

– yet such subtlety tends to be lost when the and challenges Section 1: Trends measuring the cost to business of compliance anti-regulation rhetoric starts. with regulation and red tape is one of [our] top priorities”. There is a pressing need for a more measured, intelligent dialogue about regulation. We 91 According to one PWC survey10, the world’s believe there would be much greater momen- top chief executives think over-regulation is tum towards better regulation if there were a the biggest potential threat to business growth more precise and upfront articulation of – more important than competition from regulatory objectives, which would often (but China and India, issues about human not always) be about protecting or promoting performance and skills, or the state of the the interests of consumers. This would also wider economic environment. This seems allow a much clearer assessment of what is unlikely to be correct. working and what isn’t.

7. FSB, Lifting the Barriers to Growth in UK Small Businesses, 2004 8. http://www.brc.org.uk/details04.asp?id=633&kCat=&kData=1 9. BCC, Cutting Through Red Tape 10. The Times, 30 January 2005 11. Speech to ISBA annual conference, 12 March 2003 038-097 6/11/06 20:14 Page 92

Where regulation does fail, it is often because We consider that there are two key types of it lacks focus or has become disconnected regulation. In both instances, critics are simply from its original purpose. The application of wrong to characterise regulation as a problem. the money-laundering regulations causes huge The first is lifeline regulation, which safe- problems for many consumers who want to guards consumers. The CORGI rules about gas open a bank account, while doing little to safety save lives – around 47,000 businesses deter criminals. The restrictions on the number employing 98,000 gas fitting operatives are of taxi licences in many towns simply protect now registered, ensuring that UK households incumbent operators – and mean you can’t benefit from a well-trained workforce. Set up find a taxi. Failing pieces of regulation such as 35 years ago, CORGI commands wide support, these restrict competition, limit choice and and no-one today seriously argues that it has raise prices. Far from protecting consumers, been anything other than a good thing for such rules and restrictions harm them – so consumers and business alike. In a similar vein, they should be swept away. lifeline regulation governs access to affordable When regulation works energy and water for vulnerable consumers.

This doesn’t mean that all regulation is unnec- The second is market-making regulation, essary – far from it. But we have seen shifts in which enables proper competition and choice. the focus for regulation, with different regula- The Building Societies Association says12 that tory approaches, as the economy changes. there is too much regulation and “an inade- quate recognition of the long-term benefits of The consumer movement in the 1970s, when competition in delivering consumer value”. NCC was founded, was primarily focused on But let’s not ignore all those instances where products; now it’s the service sector that regulatory intervention is needed to make dominates the UK economy, accounting for markets work.

The consumer agenda on regulation 71 per cent of gross value added in 2001. Common technical standards can help Communication technologies are accelerating establish competitive product markets; and this focus on service innovation, by changing ensuring that advertisers are not allowed to 92 the way that people (and things) interact. make misleading claims helps to promote Three-quarters of adults own or use a mobile choice. The current Competition Commission phone and over half have a home computer. inquiry into doorstep lending, prompted by But consumer concerns around services still NCC’s supercomplaint, should sort out a revolve around issues of information and market that is failing low-income customers. power – of not knowing what the quality of a Standards on food labelling can help con- plumber or builder will be; of being locked sumers make informed decisions and promote into contracts and costs; of not being able to new ranges of healthy food. gauge a fair price at the outset; of being open to mis-selling where the complexity of services Regulatory action to make markets work can mean you need to rely on the judgement be about cracking down on anti-competitive of others. practices. But it can also mean more positive steps such as sweeping away barriers to

12. BSA press release, High risk of over regulation, 5 May 2005 038-097 6/11/06 20:14 Page 93

switching between companies and promoting 22,000 businesses had no cases levelled informed choice. It can also be about enabling against them. But just 277 companies consumers to share their experiences of accounted for 103,000 complaints, which different companies, so that those who deliver means that one per cent of the companies good products and high service standards accounted for 91 per cent of the complaints. benefit, while those who don’t lose out. In legal services, just seven per cent of solicitors’ firms accounted for one-third of As one measure of the trend to more consumer complaints to the Law Society over a 12- power, NCC researched the consumer experi- month period. ence of switching suppliers in core markets between 2000 and 2005.13 The markets covered By publishing this kind of information about sectors as diverse as home insurance, current company performance; by encouraging account banking, gas, electricity, fixed telephony consumers to share their experiences; and by and mortgages. The results, in the NCC Active working with journalists to train a spotlight Consumer Index, revealed a remarkable change on companies that are letting consumers in the economic geography of the UK, with a down – we can provide a powerful incentive 52 per cent increase in consumer switching over for businesses to change their ways. the five years (figure1). Sometimes the best option can be self- We’d like to see greater use of what NCC regulation, allowing an industry to take terms ‘reputational sanctions’. We know that a responsibility for any necessary rules. The relatively small number of poor-performing premium-rate telephone regulator ICSTIS – businesses – whether they’re rogues or just which covers information and entertainment incompetent – accounts for a huge amount services – is one example. Co-regulation has of consumer detriment in different markets. built the consumer trust needed to make this £1.6 billion market work – double the size of Figures from the Financial Ombudsman and challenges Section 1: Trends the market in the USA which is now belatedly Service show that, in a single year, more than adopting the UK regulatory model.

300 93

250

200

150

100 2000 baseline

50 152 93 117 119 142 182 258 0 All sectors Home Current Gas Electricity Fixed Mortgage insurance account telephony

Figure 1: NCC Active Consumer Index

13. For full details, see Switched on to Switching? A survey of consumer behaviour and attitudes, 2000-2005 and The NCC Active Consumer Index: the rise of consumer power in the UK economy, NCC, December 2005 038-097 6/11/06 20:14 Page 94

However, in a failing market, self-regulation is weights? Why not 500 grams? Why not half a a privilege, not a right. Our research suggests kilo? Why not 750 for the other?” Another that it works less well in fragmented markets said “It is just irrelevant”. where there is a wide and diverse range of As well as challenging the assumptions that providers. Look no further than the car servicing have governed regulation in this field for and repair sector, a prime case study where decades, the research showed how consumers there is overwhelming evidence of massive are able to engage with complex issues about consumer detriment14 in the wake of 11 failed regulation, risk and prioritisation – provided attempts over the last 30 years to establish regulators approach this in the right way. effective self-regulation. We can build on some positive precedents. Regulation as if consumers mattered Ofcom’s predecessor, the Independent NCC has been working with the Department Television Commission was one of the UK’s of Trade & Industry on a pioneering project to early adopters of citizens’ juries, and the Food integrate consumer views by exploring a ‘value Standards Agency has a good record with this chain’ approach to the design of regulation. technique too. The National Institute for Health and Clinical Excellence (NICE)15 has established The field that we have explored is weights and a Citizens’ Council – a deliberative forum of 30 measures regulation. This is a classic area of people, a third of whom are replaced annually, consumer-focused regulation, but one in which facilitated by an independent organisation. the rules have been written and decisions The forum can cross-examine witnesses and about enforcement made without any obvious make recommendations; while these may not moves to ask the intended beneficiaries what be binding, NICE has to explain whenever its they need. decision differs from the Council’s view. When we conducted some qualitative research The consumer agenda on regulation An Open University evaluation confirms in this field, and explained the rules on units NICE’s view that consumer engagement in of measurement and prescribed quantities regulatory decision-making adds value – not (which among other things govern the weights by undermining professional expertise but by 94 of a loaf of bread and a packet of teabags), adding to it. NICE chief executive Andrew many consumers simply laughed. They told us Dillon explains: these rules are utterly alien to their day-to-day lives. One person searched in vain for some “It might be reasonable to assume that the kind of rationale: “Can I just make an public would to be prepared to accept that observation on the inconsistency of what you scientific value judgements should be made by have just mentioned? Tea in set multiples of those with the competence to do so providing, 250 grams which is a quarter of a kilo but always, that it is done transparently. Such then earlier you were talking about the experts do not, however, have any special standard weights for bread being 400 and legitimacy in making the necessary social 800 grams. Why make those particular value judgements. Those judgements need to

14. This is estimated to be as much as £4 billion a year in a £6 billion market. See for example Steve Brooker, At a Crosswords: Getting the UK Car Servicing and Repair Sector Back on Track, National Consumer Council June 2005; and Three quarters of garages leave faults after servicing cars. Trades Standards Institute, 21 June 2005. 15. NCC annual lecture 2005, Andrew Dillon, Involving the Public and Patients in the Work of NICE, 23 November 2005 038-097 6/11/06 20:14 Page 95

reflect the values held by those who pay for and the price we pay for them. Despite this and use the services concerned.” level of influence, we have rarely paused to consider in a systematic way questions Similarly the Human Fertilisation and relating to the quality of regulation. Embryology Authority has involved the public Questions such as: why we regulate, how we in decisions about highly technical and morally make regulations, what kind of regulation we complex issues, such as whether parents should want or what constitutes good regulation.” be permitted to select embryos to provide gene therapy for existing children. Here in the UK, the debate about regulation has seemed much less mature, too obsessed Future regulation could be a force for with the quantity – rather than purpose and democracy in addition to wellbeing and quality – of regulation, and too often economic advantage, by operating in ways dominated by vested interests. that open out complex issues and trade-offs for public deliberation. It’s time to abandon the tired rhetoric about business burdens. Let’s instead have a strong NCC’s work on weights and measures is signal from government that the consumer taking engagement a step further, by bringing interest should sit at the heart of much together policymakers, regulators, enforcers regulatory decision-making. Regulators need and consumers in a collaborative dialogue, so to start with a focus that sees the public not that all the key players hear each other’s views just as prime beneficiaries of regulation, but as and can develop a common agenda about co-producers of it. Consumer behaviour is what’s needed – and what isn’t. complex, based often on habit, social norms and a range of decision-making shortcuts. A menu for action But it can be understood and, in concert with There needs to be a fundamental shift in the action on the supply of goods and services,

UK’s regulatory culture. By far the best piece regulators are in a position to promote and challenges Section 1: Trends of government thinking on regulation comes consumer power. We define consumer power not from our country but from the Republic as “where individuals have the confidence, of Ireland, where a 2004 White Paper16 put capability and context to act purposefully, as 95 the issues starkly: interpreters of their own needs”. After all, with consumer power, people not only benefit from “Regulation affects the quality of everyday competition, but they initiate and sustain it. life. This includes the quality of our food and water, the safety of our workplaces as well as Regulation should also be seen in the context the range of products and services available of more measured debate and analysis of the to us and the price we pay for them. Despite different policy and institutional tools that this level of influence, we have rarely paused exist to address imperfect markets. NCC is to consider in a systematic way questions currently developing a detailed methodology relating to the quality of our food and water, for action to address failing markets. the safety of our workplaces as well as the We’d like to see regulators doing far more to range of products and services available to us engage consumers in decision-making. All the

16. Regulating Better: A Government White Paper setting out six principles of Better Regulation, January 2004 038-097 6/11/06 20:14 Page 96

evidence is that people are willing and able to This might not be the only way of increasing get involved in helping make tough decisions; public scrutiny. While regulators have demon- that they are comfortable about issues around strated increasing awareness and concern on risk and prioritization; and that public involve- issues of market competition, is there a case ment leads to better outcomes in terms of for the contestability of regulatory services regulation that commands widespread support themselves? Two recent examples demonstrate and is fit for its purpose. Yet our ‘regulator- how this might work. knows best‘ culture persists. The Department for Constitutional Affairs As we noted above, some in industry like to has taken on powers to regulate the claims be told by regulators precisely what to do – management sector, where there is evidence a phenomenon that has been described as of malpractice with consumers being at their business’s ‘dominatrix complex’. But regulators most vulnerable. They have contracted out the really need to aim at sustainable culture compliance and enforcement functions, after change in terms of how organisations relate market testing, to one of the larger trading to consumers, not just narrow compliance standards bodies in a local authority. This with detailed rules, so we support greater use could prove to be both cost-effective and is an of principle-based regulation. The Unfair innovative example of decentralisation in the Commercial Practices Directive is a welcome regulatory field, when the trend after Hampton19 step towards this, as is the Financial Services has been the other way. Authority’s ‘Treating Customers Fairly’ initiative. In terms of dispute resolution, Ofgem has been Both seek to encourage companies to take looking at different parties to run an energy responsibility for their own actions. billing ombudsman – a contract that has been Finally, once everyone is clear about when we won by Otelo, a communications ombudsman should regulate and how best to do it, let’s service. It is possible that legal complaints might

The consumer agenda on regulation establish some kind of regular, independent go a similar way. These offer a scenario in which assessment of regulatory performance. Local some regulatory functions could be opened up authorities have to account for what they’ve on a competitive basis – not least to those 96 done through the Comprehensive Performance people on the ground in trading standards Assessment, and the National Audit Office service who are responsible for so much of the already evaluates Regulatory Impact Assess- hard work of regulatory enforcement. ments17. Why shouldn’t regulators (including Consumers as an asset government departments) answer to consumers and business alike for how they’ve delivered There is, and will continue to be, a wide on the better regulation agenda? The Prime diversity of regulators, both in the UK and at Minister’s new Panel on Regulatory Account- EU and global level. Despite this, regulators ability18, which aims to “hold departments and tend to be entrenched within a particular their regulators to account for their regulatory discipline. Competition regulators tend, for performance” is good news, but like all Cabinet example, to view consumers as passive benefi- committees it does not operate in public view. ciaries of supply-side competition interventions,

17. National Audit Office, Evaluation of Regulatory Impact Assessments 2005-06, 28 June 2006 18. http://www.cabinetoffice.gov.uk/secretariats/committees/rbpra.asp 19. http://www.hm-treasury.gov.uk/budget/budget_05/other_documents/bud_bud05_hampton.cfm 038-097 6/11/0620:14Page97 tion ofregulation. and skillstoengageinthedesignevalua- in a‘deficit’mode, aslackingtheknowledge regulatory traditioninwhichthepublicisseen than economics. Allsharetherootstockofa cultures oflaw, scienceortechnology rather in relationtoregulatorswhooperatewithin homogenous. Asimilarsetofissuesmay apply utilitarian andthatconsumersarefarfrom the factthatconsumerbehaviour isnotalways findings ofbehavioural economics, suchas activity. Yet theystillrarelyintegratethe terised asanoccasionalconstraintonmarket consumer issuesasabout‘protection’,charac- utilitarian calculus. Theytendtoview or asactive onlythroughthenarrow lensof of how theybehave. where peopleare, ratherthanassumptions people asoneofassurance–startingfrom sees thecoreofitsrelationshipwithordinary Our visionforfutureregulationisonethat public.the regulatory gapbetween professionalsand to acasestudyofinnovation inclosingthe consumer interestinregulationandpointed prized by regulators. We general, consumersareanassettotheoutcomes pointed inthischaptertoevidencethat, Rather thanseeconsumersasadeficit,we have highlightedthe have 97 Section 1: Trends and challenges 098-139 6/11/06 20:24 Page 98

section 2 The changing nature of regulation in the public interest 098-139 6/11/06 20:24 Page 99 098-139 6/11/06 20:24 Page 100 098-139 6/11/06 20:24 Page 101

The public interest challenges for the communications sector over the next 10 years: contestable public service funding Chris Giles Economics Editor, Financial Times

The future could look like this Ministers also remain convinced of the power of video communication through the nightly It is the year 2015. New university graduates television news; they want everyone to have have never lived in a world without the access to the best information and entertain- internet. People turning 40, and close to the ment available. The public, when asked in halfway stage of their working lives, have never countless surveys over the previous decade, experienced an office without email. Even the have agreed. most technology-resistant pensioners now have multi-channel television since digital switch- But ministers are unclear how to secure these over was completed last year, after the public interest objectives. inevitable delays and teething troubles. Section 2: The changing nature of regulation in the public interest Successful incremental liberalisation of the The Government is in a bit of a pickle, however. telecommunications market over the past 30 years has left many companies vying for Ministers know what they want. They are 101 customers in big cities, small towns and convinced that broadband communication is suburbs, using a range of technologies, indispensable to modern life – not just to suitable for different areas. But these receive information from utility companies, companies, competing fiercely and making government, schools, hospitals and private respectable returns, flatly refuse to subsidise companies, but also to send information back, services in rural areas or to provide below-cost whether to report a leaking Victorian water tariffs for poorer people who still struggle to main or for rural pensioners to authorise their afford a broadband connection. Monopoly medical details to be passed from a doctor to profits at British Telecommunications have all a specialist. The newly retired Beatles but gone, and it recently won a legal ruling at generation cannot imagine life without access the European Court of Justice against the to broadband communications (even if quite imposition of a universal service obligation a few still choose instead to turn on, tune in that would require it to provide a copper line and drop out). connection to all UK households. 098-139 6/11/06 20:24 Page 102

In the broadcasting arena, only the BBC is left come with being classified in law as a public providing a regulated public broadcasting service broadcaster. years service. Its licence fee – still levied on the When Ofcom published its third public ownership of a television set, despite the service broadcasting review earlier in 2015, considerable blurring between TVs and other it conceded that only the BBC now had the visual display devices – pays for its audiovisual scope to provide a significant quantity of output across digital terrestrial, cable, satellite public service broadcasting. But it concluded and downloadable services. Every private- that the lack of competition from rival sector competitor complains it has an unfair broadcasters reduced the quality and quantity advantage, driving up their costs and reducing of BBC programming that could be easily their commercial revenues. described as fulfilling the purposes of public This argument has run for decades and is no service broadcasting. nearer resolution. But the BBC knows full well Across the communications sector, the that it must remain connected with the British realisation is that the public interest has not public if it is to keep its privileged position. been well served by the regulatory settlements So, to stay on the ball and to minimise the and compromises of the past decade. decline in its audience share and reach over the past decade, it has followed other My simple argument broadcasters with trends in programming. Now, I cannot predict what will happen over In some areas it has developed new formats the next decade. I know that the previous to keep audiences happy and stands accused, paragraphs will be wrong, and badly wrong in as never before, of sacrificing its public service places. But the bad world I have outlined is a remit on the back of a drive to maintain that distinct risk. And one that sensible public share and reach. policy should strive to avoid. the next 10 The public interest challenges for the communications sector over In the commercial sector, it has been a couple I will argue that thought needs to be given of years since ITV and Five were relieved of their now to the introduction of contestable formal public service broadcasting objectives. funding for public interest objectives, since the 102 The decision was taken when it became clear old cosy relationships and implicit funding that, in a fragmented broadcasting market, of those objectives will struggle in a world of advertising revenues could no longer fund the greater competition. higher cost of programming that genuinely served the public interest in a way that was I am well aware that there may be little point different from purely commercial broadcasting. in using the communications market to secure public interest objectives in the future: if Channel 4 is now a successful niche player, people will not watch PSB programming there producing programming that meets the desires is no point in subsidising its production and if of its relatively young audience profile. society is unaffected if some people choose However, very few people watched the not to adopt broadband, we should not waste ‘landmark public service programming’ it resources ensuring that everyone has access. highlighted in its 2014 annual report, when But I will not dwell on that possibility. bidding to retain the remaining privileges that 098-139 6/11/06 20:24 Page 103

I will assume that there will remain some The reason the government is slowly moving grounds for public interest interventions in in the direction of contestability was well communications markets and look at the best made by Julian Le Grand, the LSE professor ways of securing them, using universal service and former adviser to Number 10, in a recent obligations and public service broadcasting as article for the Centre for Market and Public

examples. Organisation: “Giving providers a monopoly has never been a good way to improve a No part of my case in favour of contestability service of whatever kind – and the ‘old’ health – that providers should compete for the interest and education systems were no exception.” funding and the right to provide the services

that elected governments believe enhance It is not just in the ‘newer’ bit of the Labour public

society – is new. None of it is radical or Party where this thinking is current. The the

sophisticated. In fact, it is blindingly obvious. Conservatives have taken contestability to in heart in their philosophy for public service Private companies contract with others on reform. In July, George Osborne, the shadow the basis of quality of provision and cost.

chancellor told the think tank Policy Exchange regulation They regularly sign long-term contracts with that his ambition was to introduce much of third parties but never guarantee to renew more “contestability, so that poor performance them without looking at the possibility

is vulnerable to someone else coming in and nature of alternative suppliers. doing better”. In the public sector, companies bid to run Contestable funding, therefore, shouldn’t be public services, including running trains on changing controversial. As I shall outline, it isn’t a big

the railways, building privately financed roads, The issue in telecommunications, in relation to operating the new NHS treatment centres, 2: universal service obligations in the future. emptying our dustbins, putting parking tickets But for some reason, it remains a very

on our cars and designing new government Section difficult concept for the current generation computer systems. of broadcasting executives at the BBC to get I deliberately include controversial services in their heads round. this list because, with the exception of the 103 Now that I have outlined the risks for the NHS treatment centres, the dissatisfaction public interest in communications markets, with these public services has not led to a and highlighted the general principle of desire to end contestable funding; only to contestability, I’ll look briefly in the rest change the incentives faced by the contractors of this essay at how the changing world is or, indeed, to change the contractors undermining the tried and tested methods themselves – something you can do with of securing certain public interest objectives in contestable funding. the communications sector, and highlight In the future, the operation of the proposed remarkable similarities between universal National Pension Savings Scheme will be put service obligations in the telecoms market and out to tender and contestability will play an public service broadcasting in the TV market. even greater role in health and education I’ll then take a look at what the public might services. hope to gain from contestable funding. 098-139 6/11/06 20:24 Page 104

Finally, using a universal service obligation that regulators have less scope to come to and public service broadcasting as examples, unwritten or written agreements with BT, years I’ll look at how governments, or regulators, forcing it to do stuff which serves the public could decide on the objectives they wish to interest in return for being allowed to make secure and how to go about it. higher profits in other parts of the business. It is simple: if the monopoly rents are not Securing the public interest in there, you cannot demand that BT lowers communications markets its profits for the greater good of British a) Telecommunications households.

Before privatisation in 1984, the telecom- Since 1984 in the UK, the main bargain agreed munications sector was often assumed to be between regulators and BT (and, in Hull, a natural monopoly in which competition Kingston Communications) has been that it would be wasteful and would duplicate provides certain universal services as part of its expensive capital investment. But in the licence to operate. The services include following 20 years, new thinking about connection to the network at a uniform price potential competition in many parts of the across the UK, schemes to help low-income telecommunications network, as well as new households, public call boxes in both technology and entirely new networks (such profitable and loss-making areas and help for as cable and mobile phones), has lowered the disabled users. The Government determines barriers to entry and increased competition. what these universal services are, although it is constrained by European legislation. The main public interest served by the regulators, Oftel and then Ofcom, has been Once competition in the telecommunications to increase productive efficiency (through market is strong, it becomes an empirical issue price control and gradual introduction whether the universal service conditions are the next 10 The public interest challenges for the communications sector over of competition), lowering the price of too onerous for BT to bear. Ofcom is currently communication and increasing the undertaking another cost-benefit analysis to opportunities of innovation to users try to answer the question. But what is clear is 104 of the telecommunications network. that as competition marches on, and regulation of the market improves, there will The telecommunications market is come a point where BT can no longer be complicated and, though competition has forced to make these services universal, or to increased, barriers still exist that require introduce new ones. continued regulation. Nevertheless, the scope for British Telecommunications plc to make But this is progress. Any redundancy of old monopoly profits is reducing every year as universal service funding techniques comes as competition on its networks, and between a direct result of benefits delivered in the form telecommunications networks, increases. of lower prices and greater efficiency from a better-working telecommunications market. In a world of less monopoly power, BT has But when that day arrives, it still leaves less scope to cross-subsidise loss-making government with a funding problem. activities from profitable ones. That means 098-139 6/11/06 20:24 Page 105

b) Public service broadcasting has also fallen. Just as the case for implicit funding of universal services gets harder to The TV broadcasting market, much as it likes press as excess profits reduce, so does the to think it is unique, nowadays shares many argument for funding public service of its characteristics with telecommunications broadcasting by private companies. and print publishing.

Again, this is progress. Consumers have It was not always like this. Unlike publishing, benefited enormously from greater choice in which commissions content and distributes the TV market, but the price of this progress interest product to readers in reasonably competitive has been a drying-up of resources to fund markets, the TV market has traditionally been public service broadcasting. public characterised by huge bottlenecks in the distribution. Those who controlled distribution But unlike universal services in tele- in (the airwaves) controlled the market. communications, broadcasting has a huge advantage. It already has a massive public Ever since TV was invented, successive fund – £3bn a year, raised by the TV licence

governments have believed the medium to be regulation fee – to spend on public service broadcasting. too powerful to allow a few private sector of The only problem is that the fund goes companies to broadcast. Initially, that’s why entirely to one company – the BBC – which,

just one organisation – the British nature on its own, cannot be trusted to spend the Broadcasting Corporation, an independent but money in the public interest. wholly owned public company – was allowed

to produce programming. The limited scope The Government has decided to give the BBC changing for competition, given the scarcity of available a ten-year renewal of its Royal Charter from The

airwaves, ensured that the BBC has ever since 2007 and, once granted, the incentive will be 2: offered its idea of public service broadcasting to show it can reach an audience – whether its

to the public. In the past 50 years, one, then programming will be in the public interest Section two, then three private sector competitors were remains to be seen. introduced, each of which also had The new BBC governance arrangements may obligations to produce programming that prove to be better, or worse, than the last. But 105 served the public interest. PSB is so difficult to define, and its objectives so The lack of available spectrum led to excess slippery, that I cannot foresee the management profits from advertising. And these profits having much difficulty in persuading the new were partly taken by the private sector BBC Trust that it is following its public service broadcasters, partly enjoyed by the taxpayer in remit, even if it is not in many areas. In fact, to the fees government charged for access to the assume that the management would not try to airwaves and partly spent in the production of play games requires a naivety that is rare in the non-commercial public service programming. modern world.

But as digital technology has taken hold and Table 1 outlines the similarities and the technological constraints have eased, differences between technological progress consumers have benefited from greater choice, and the ability to maintain public interest innovation and new services. Spectrum objectives as technology improves and scarcity and the opportunity for excess profits competition is advanced. 098-139 6/11/06 20:24 Page 106

Characteristic USO in PSB in TV

years telecoms broadcasting

Then Previously uncompetitive markets  Excess profits for private companies  Private companies told to meet certain public interest objectives  Implicit financing of public interest conditions  Severe technical constraints pose barriers to market entry 

Now Lower barriers to entry  Competing delivery technologies  Lower scope for excess profits  Benefits of increased choice  Reduced ability for cross-subsidisation  Existing public finance to procure public interest objectives  

Table 1: Similarities in securing public interest objectives in telecommunications markets and broadcasting markets

Contestability in markets provide the service and meet public interest objectives; there is a danger about generating The idea behind a contest to receive public too much bureaucracy in the grant awarding funding is straightforward. Competition for process; after winning a contract, the terms the right to produce a good or perform a the next 10 The public interest challenges for the communications sector over must be clear and easy to enforce; and those service will lead to lower prices and higher awarding contracts must have sufficient quality. If more than one provider receives a information to make effective decisions. contract, that competition can be sharpened 106 even further by direct comparisons between It is clear from this list of concerns that two or more winners of similar contracts. contestability is not a magic wand that can Those awarding the contracts can see how well be waved to ensure private contractors are each provider performs in head-to-head efficient and align their incentives with those comparisons with others. awarding the contracts. No one should be under any illusion that in an auction for It is generally accepted that this kind of public funds, issues of poor or asymmetric competition for funding is almost certainly information, market power and game-playing better than setting up a public sector operator will not go away. But governance and to perform the task, or handing money over to regulatory concerns exist in spades if you an incumbent. simply award a contract to a preferred bidder But there are reasons for some caution. There without a competitive process at all. needs to be genuine competition for the The argument is not that contestability is the contracts; the winners must have the ability to perfect solution: it isn’t. But for all its 098-139 6/11/06 20:24 Page 107

imperfections, it is certainly preferable to As Ofcom’s strategic telecoms review noted: the alternatives. “As competition continues to erode high margins across a widening set of products, at The practical application of some point providing the USO may become contestable public service funding an ‘unfair burden’ to BT and to Kingston. At in communications markets that point it will be appropriate to introduce In this final section I’ll return to my two alternative mechanisms for funding and examples where some form of public funding allocating the USO.” interest might be needed in future, since the How should the public authorities allocate the traditional ways of ensuring universal service funding for a USO? Well, Ofcom was again public in telecoms and a plurality of public service

very clear and precise. It said: “It is important the broadcasting cannot be guaranteed in a more to note that competition for USO is feasible.” in competitive landscape. I will argue that some But since the regulator will not know which form of contestable public sector funding is company could provide the USO most the best solution to the problem.

efficiently, an auction is the best way of regulation

a) Universal service obligation allowing the most efficient service provider to of in telecommunications meet the USO obligations. nature Since privatisation, BT has been subject to There are complications, of course. Incumbents a universal service obligation (USO). It has might have an advantage in any auction, and made sure that the company has charged might have to be forced to co-operate with a changing the same rates to almost all of its domestic different winning company. These can create customers, regardless of the cost, and has regulatory headaches. But at no point did The 2: offered low-cost options for poorer families. Ofcom, nor the weight of responses to the argument, suggest that establishing some

The costs of operating a USO were paid out Section competition for the market was wrong. of high-margin business elsewhere, although Oftel regularly claimed that BT actually Who would pay for the USO? Well, ideally it benefited from offering a universal service. should be the taxpayer directly; after all, the 107 money is designed to offset a problem for For the future, there are still valid arguments society. Tax finance is also transparent and the for thinking that some universal obligations in public can have some say, in elections, the telecoms market are a public interest worth whether decisions about the merit of the USO preserving. The telephone has become so vital conform to their views of the correct way to to modern living, it’s reasonable to regard it as spend their money. a necessity that every family should have. As Ofcom noted, however, the taxation route But as competition intensifies, so does the is unlikely to gain support since governments pressure on that higher-margin business that do not like transparency as much as voters. funded the USO in the past. It follows, then, This failure of government implies that the that it will no longer be reasonable for most likely form of finance would be an regulators or government to insist that the industry levy: individual households would legacy monopoly provides the USO. 098-139 6/11/06 20:24 Page 108

still pay, but in higher telecoms bills rather £400m a year to the BBC from the free than in higher tax bills. licences for the over-75s, and a whole series years of hidden subsidies to broadcasters, which b) TV Public Service Broadcasting reduce the revenues collected by the Treasury. One thing that people in the broadcasting Ofcom’s public service broadcasting review industry tend to agree on is that they are asserted that many of these hidden subsidies special. This is profoundly mistaken. would become impossible to continue: TV executives are certainly powerful: they have competition would erode the advantages huge marketing departments and an ability to enjoyed by terrestrial broadcasters, leaving the publicise their views in ways other captains of BBC as the only beneficiary after digital industry could only dream about. But in truth, switchover of public service broadcasting public service broadcasting can never compete financing, still receiving the licence fee and with health, education, emergency services or, direct support from the Treasury. arguably, telecommunications in the essential Ofcom thought that the result would be a lack role it plays in society. That much is clear from of “competition for quality”, and that this all the research. Indeed the Government’s would not be a desirable outcome. The White Paper on the BBC in the digital age Department of Culture Media and Sport makes the argument that a regressive licence agreed. The BBC half-agreed. I agree. fee is the correct funding mechanism, precisely because the public regards TV as a ‘luxury’ and The question for the future for public service there is no need for explicit redistribution to broadcasting is, in many ways, much simpler vulnerable groups. than it is for universal telecommunications services. The public authorities must decide For all the ordinariness of the television how much PSB they think should be funded, industry, I am happy to assume that there will

the next 10 The public interest challenges for the communications sector over and how to distribute the cash already remain some rationale for public funding for allocated for the purpose in a way that best public service broadcasting into the medium serves the public interest. term. It remains, however, extremely tricky to 108 articulate precisely why consumers would not The Government chose to delay addressing the pay themselves for a product if they value it issue until digital switchover. This was a so highly. missed opportunity. But others do not need to be so timid. The BBC certainly decided to let The question is how to distribute the amount its (unsurprising) views be known: that it of money that an elected government deems should receive all the public money for PSB. should be spent on public service broadcasting. Ofcom estimated in 2004 that the annual Its arguments were: a) that the public funds amount of public funds devoted to PSB was would be spread more thinly across BBC about £3bn a year, split between the BBC services; b) other broadcasters, but not the (£2.5bn), ITV (£0.3bn), Channel 4 (£0.2bn) BBC, might engage in ‘game-playing’ and seek and Five (negligible). Most of the money came funding for programming they would have from the licence fee (which raises over £3bn a shown anyway; and c) competition for year and also funds other BBC services), but funding might add bureaucracy and the rest came from direct taxation, paying over undermine creativity. 098-139 6/11/06 20:24 Page 109

The arguments are exactly what you would 1. An ‘Arts Council of the Air’. This would expect from an organisation that is dedicated fund individual programmes on to self-preservation and the maintenance of a broadcasters’ schedules. There would be no privileged position. The fact that the BBC special treatment for the BBC. It could cannot see the distinction between the public apply for funding like any other

interest and its own is a very powerful broadcaster. Otherwise, it would be free to argument in favour of contestable funding. In seek any other funds through subscription short, the BBC’s case is absurd. or advertising. interest

The new competitive landscape threatens to 2. Fully contestable funding at the

thin the spread of PSB funding, by eliminating broadcaster level. Broadcasters would public

subsidies from the BBC’s competition. That is compete for block funding for a specified the

the legitimate concern for the public, not the period – say three years – specifying what in BBC’s self-centred view that it is the only true sorts of PSB programming they would provider of public interest television. Game- produce.

playing is a problem wherever incentives regulation

between the funding body and the provider 3. Fully contestable funding at the of are not exactly aligned. That applies to all broadcaster level for a specific franchise. Broadcasters would compete to run a PSB- broadcasters and perhaps, specifically, to non- nature profit making broadcasters who cannot see a style channel. This is along the lines of distinction between self-interest and the Ofcom’s proposals for a public service

public interest. Also, a contest to receive publisher. changing funding for PSB could increase bureaucracy, or 4. The BBC competing with ITV/C4/C5 for The

it could reduce it. That depends on its design. 2: public money. A closed bidding process in So, consider this example for a bit of fun. which public money would be distributed to the current analogue terrestrial incumbents Section Let’s decide what we want from a system of according to their proposals and costs of distributing public revenues to public service meeting public interest challenges. broadcasting providers. The first thing that 109 gets almost universal support is “competition 5. The BBC alone as a commissioner without for quality”. I will split this into two and any production. This would turn the BBC interpret this as we want competition among itself into the ‘Arts Council of the Air’ with a producers of PSB programming, as well as schedule to fill that met the public interest. competition among commissioners to get that competition for quality. 6. Competition to run BBC services. The government could auction the right to Third, we want accountability and oversight manage and operate BBC services. For of public money. And fourth, we want brand example, it could auction the management awareness that drives people to watch their of BBC2. own publicly funded programming; otherwise, there is no point. 7. The BBC alone, doing the same as today but in the new digital world. This is the Now, let’s think about seven possible models outcome if current policies are left in place. that public funding could take. 098-139 6/11/06 20:24 Page 110

The outcomes are shown in table 2. I have shown on a widely watched outlet. The default given a maximum score of 5 each time if a option of allowing the BBC to be the only big years model is successful in meeting each of my player in public service broadcasting also four criteria, going down to 1 if it fails. I stress performed poorly because there would be a that this is not scientific. Each objective is lack of competition in production and given equal weight and my scores are little commissioning. Without an overall more than considered assertions – which, in competition for quality, oversight of public that respect, makes it rather like many money would be very difficult to judge. consultants’ reports. However, all the others score much better The minimum score for a model is 4 and the and I tend to be attracted either to fully maximum score is 20. contestable funding of all PSB, or to auctioning the right to manage and operate As you can see from table 2, many of the BBC services for specified periods. scores are quite similar, but two models score badly. The ‘Arts Council of the Air’ scored Please note that in this discussion, I have not poorly because there would be one mentioned the source of the funds. This is commissioning body, and with it the danger because it is largely irrelevant. TV broadcasting that its commissions would have little impact should be thankful for the fact that, unlike on the public as they would not necessarily be telecommunications, it currently has a

Competition Competition in Oversight of Brand in production commissioning public money awareness Total

‘Arts Council the next 10 The public interest challenges for the communications sector over of the Air’ 5122 10

Fully contestable funding at 110 broadcaster level 5534 17 Auction of a specific franchise 5433 15

BBC vs ITV/C4/C5 2325 12

BBC as the ‘Arts Council of the Air’ 5124 12

Competition to run BBC services 5334 15

BBC as now 2114 8

Table 2 Outcomes of various funding models for PSB in the digital age 098-139 6/11/06 20:24 Page 111

dedicated pot of cash, both through direct without explicit funding. This is a welcome taxpayer support and from the licence fee – development: it forces us all to think whether which, quite correctly, has been newly classified we really want to spend the money and, if so, by the Office for National Statistics as a tax. how we should allocate it.

What matters is the way the money is spent in While all markets are different, it is a universal

the public interest. And that requires some truth that outcomes are likely to be better if form of contestability to stop vested interests protagonists have to compete in some form for monopolising what is considered to be the their right to public funds. This is the principle interest public interest. behind contestable funding; it is a principle

that is universally accepted for a universal public Summary service fund. That consensus should also be the

No one can be precise about the future. But achieved in public service broadcasting, in given the trends towards greater competition but existing vested interests, particularly those in communications markets, we can all be of the BBC, alongside timidity in public

pretty sure that it will be more difficult than policy, will make the achievement of good regulation

before to secure public interest objectives outcomes harder to achieve. of nature changing The 2: Section

111 098-139 6/11/06 20:24 Page 112

What citizens need to know. Digital exclusion, information inequality and rights Damian Tambini Department of Media and Communications, London School of Economics and Political Science

General duties of Ofcom and intelligent persons, who have learned to read and write. Education is a necessary (1) It shall be the principal duty of Ofcom, in prerequisite of civil freedom.” (T.H Marshall carrying out their functions (a) to further the 1950 (1992): p16) interests of citizens in relation to commun- ications matters; and (b) to further the The rights both to a fair trial and to vote interests of consumers in relevant markets, contain within them the demand for universal where appropriate by promoting competition.1 rights to education, for without education, exercising those rights is a sham. And by the Introduction. Why are citizens’ rights same token, a basic level of material welfare different from consumers’? can be seen to be a necessary precondition

What citizens need to know T.H. Marshall, the leading UK theorist of of exercise of civil and political rights. For citizenship, had the view that rights beget Marshall, the basic civil rights to speech, rights: the emergence first of civil rights in movement and to a fair trial facilitate the the 17th century led to political rights through emergence of political and social rights: 112 the 19th century and, finally, to social rights in “The right to freedom of speech has little real the 20th. But why does Marshall claim that substance if, from lack of education, you have these categories of rights depend on one nothing to say that is worth saying, and no another? He draws on the example of the right means of making yourself heard if you say it.” to receive an education: Citizenship is based on an intertwining of the various types of rights and duties that enable “The education of children has a direct members of complex diverse societies to bearing on Citizenship, and, when the state function together. guarantees that all children shall be educated, it has the requirements and the nature of Consumers’ interests, on the other hand, citizenship definitely in mind. It is trying to can be reduced to individual choices in a stimulate the growth of citizens in the making. marketplace. The appropriate balance between Civil rights are designed for use by reasonable public provision through a rights-based system

1. (Communications Act 2003 1 (3)) (bold added) 098-139 6/11/06 20:24 Page 113

or distribution through markets is a question network. Public broadcasting is also regulated that is not peculiar to communications and to ensure that it is universally available. But broadcasting; it is a debate played out across competition has proved much more effective all the public services. at extending access than regulation did, and in a situation of abundance there is no longer In the context of a book published by Ofcom any need to ensure that a basic tier of services – a regulator with the duty to promote the is available to everyone. Critics of regulation interests of citizens – the next move would argue that rather than use regulation to ensure appear to be obvious: to loudly proclaim the interest strong foundations for digital citizenship, we 21st century as the age of ‘information rights’. should rather happily wave through the long- And, Ofcom’s role during that century would public overdue twilight of information citizenship

be to extend citizenship into the digital the and usher in the age of choice. domain by providing remedies and in interventions to support the provision of a Those calling for the state to withdraw basic tier of information services to all from all remaining forms of regulation of

citizens. Just as the basic provision of both communication are in respectable company. regulation

social welfare and education were necessary to We have a strong framework of freedom of of make social and civil rights viable in the last speech in the UK and elsewhere in the

two centuries, in this one no-one can fully Council of Europe. Given the abundance nature exercise their rights as a citizen unless they are of communication possibilities in the digital able to use communications media. age, the familiar argument runs, the state

should finally let go of the few aspects of changing A neat move perhaps – but not so fast. communication it does manage, rather than Regulators’ general duties are largely symbolic, The

modernise its regulation. 2: and Ofcom has the small practical problem of balancing hundreds of other statutory duties, In our attempts to grapple with these huge so will be unlikely to view itself as an agency questions we tend, surely mistakenly, to focus Section for promoting citizenship. Surely the regulator policy debate on institutions, rather than should avoid quaint notions of rights and get people. We have an extremely well-developed on with the job of maintaining competition set of arguments about the role and value 113 and protecting consumers: take care of of the BBC in relation to market failure, markets, and citizenship can take care of itself. citizenship and public value.2 We have less of a sense of the wider framework for It could be argued that information rights are communications as a whole, and the ways in an inevitable decline. We have long had a in which development of the market may policy framework in place designed to protect undermine citizenship. citizenship in media and information sectors. Telephony was provided by a publicly owned Ofcom and others have amassed an impressive corporation until the 1980s, which was under battery of evidence about the public broad- ‘universal service obligations’ to ensure, casters as a group, including the commercial through cross subsidies, that poorer and sector, in its recent review of public service peripheral citizens were included in the broadcasting (PSB).3 But a convergent world

2. The recent collection Can the Market Deliver (2005) is the latest in a long line of publications. 3. Ofcom Review of Public Service Television vols I, II, III, 2004 098-139 6/11/06 20:24 Page 114

will need a more holistic approach to the where there is a danger that citizens may citizenship role of communications that decide to exit from the normal processes of encompasses the entire range of commu- democratic communication. nications services; after all, citizenship is not In these early years of the 21st century, the just about the BBC and not even just about framework for regulating communications in broadcasting. It is about whether communi- the UK tends to be based on a market-failure cations undermines or supports every citizen’s model. There is a general preference for attempt to make their voice heard in the avoiding state interference and a gathering democratic process of the country. orthodoxy says it is only justifiable to involve This essay is a first exploratory foray into the law or public regulation where non- what might constitute that broader holistic intervention would result in a demonstrable approach. I will argue that Ofcom’s duty to decline in consumer welfare. protect citizens’ interests implies a notion of The old era of unquestioned public provision rights that is unlikely to be measurable of telecommunications and broadcasting through the standard approaches to consumer services is now gone: the burden of proof is welfare. You don’t have to be an ardent now firmly on the proponents of public supporter of T. H. Marshall’s grand historical intervention to demonstrate that a failure to theory to accept the basic point that rights are intervene would lead to market-failure and crucial in holding complex societies together, harm consumer welfare. The understanding of and that they tend to be interdependent. A market-failure is therefore absolutely critical. basic education and basic welfare rights are Given the importance of communications to required to ensure that citizens are able to citizenship, reflected in Ofcom’s general duty, exercise civil and political rights; by the same many attempts have been made to incorporate token, it is already becoming difficult for those citizenship into this framework, in particular

What citizens need to know excluded from key information services to through developing measures of public, social, participate in society as equal citizens. I will also or citizen value.4 A full critique of the appli- argue against a crude technological determinist cation of the market failure framework will view that focuses on connectivity. Citizenship 114 not be possible in this short chapter. In the requires access not only to networks, but to closing sections I outline some policy particular forms of content, and to a shared implications for the long term. space for views to be exchanged. Media and citizenship: much And it must be acknowledged that the task is more than just access to the net an urgent one. Marshall was writing at a time when the UK (or at least, its southern middle For Andrew Graham, there is a clear link class) was very homogeneous. But the between communications media and imperative for formal citizenship rights – citizenship: including information rights – that are held in “Citizens are entitled to core information about common becomes stronger as society becomes their society, much of which now comes from more complex and multicultural, and subject broadcasting. Citizens are also entitled to to social fragmentation and exclusion, and

4. Ofcom PSTVR, Spectrum Review 098-139 6/11/06 20:24 Page 115

participate fully in society; democratic tools and services. For a growing number of discussion, much of which takes place via people, ICT is increasingly necessary for work, television and radio, is an essential part of such keeping contacts with friends and relatives, participation… The delivery of these rights is social networking, obtaining information, not the purpose of the market. To be met, they transacting with businesses and

require the existence of broadcasters – public administrations.’’ (Kaplan Report July 2005, p17) service broadcasters (PSBs) – charged with There have now been at least ten years of different purposes from those of commercial academic research and public debate on the interest suppliers. In much the same way that we do ‘digital divide’. If there is any consensus at all, not expect our schools or universities to be run it is that access to the internet and other public by McDonald’s or Nike, we should not expect

platforms is only part of the problem. Policy the those parts of broadcasting that exist to inform, has often focused on the issue of physical in educate and possibly even entertain to be run access, when other issues may in fact be more in the interests of maximising profits and the decisive in terms of their impact on citizen- returns to shareholders.” (Andrew Graham,

ship outcomes. regulation The Guardian, Monday, September 1, 20035) of Figure 1 shows the complexity of the current If access to certain media services has become shift in communications and its implications for necessary to citizenship, as Andrew Graham nature citizenship. Internet access may be affordable asserts, how should that affect the regulatory and available, but if the economics of internet framework for communications media? Just distribution favour niche subscription services in how much digital exclusion should be changing contrast with the public goods of broadcasting,

tolerated, and at what point does citizenship The then relative inequalities of access to content become untenable for those excluded? Can’t 2: may increase. In the diagram, some of the we leave it to the market to provide the existing regulatory interventions illustrate how,

information services that citizens need in this Section thus far, the centre has been held by regulation. age of media abundance? We need to under- And the issue of media literacy and competency stand a little more about the nature and cuts across the other matters: all manner of dimensions of information exclusion before moves to make sure spectrum is available for 115 we can answer these questions. public services will amount to nothing if less Although the i2010 strategy launched by the technically competent consumers don’t know UK presidency of the EU in 2005 proposed how to use them. that key targets and policies will be agreed by And the reverse scenario could also occur: the 2008, there is already an acknowledgement of basic communications resources and forums the increasingly central role of ICT in social (such as those provided by public service inclusion. The EC working group on digital communications organisations) could remain exclusion reported in 2005 that: free at the point of use, but large inequalities ”Participation in contemporary society now in access to new platforms (mobile, requires a minimum (and ever-increasing) broadband and high definition) could grow. level of access to, and competence to use, ICT The notion that there are core services that

5. Graham develops this point about rights at length in his essay It’s the Ecology, Stupid in Can the Market Deliver? (op. cit). 098-139 6/11/06 20:24 Page 116

USOs Subsidy Price regulation Competition Public terminals

to ne ss two ce rk

c s

A

m A

u PSB c

r

c o

f

e

Universality of PSB ‘Water cooler’

d s e

s Government

Freedom of information r

a

t information provision

o Competencies and IPR/DRM h media literacy s c Subsidies for arts and Event listing o o t information services n t s Audio description e s Social capital nt ce Ac Right to reply

A n c c io Table 2 Outcomes of various funding modelses for PSBss in the digital age s to expre

Freedom of speech rights

Figure 1: An holistic approach: four dimensions of information exclusion What citizens need to know

should be made available under a ‘must carry’ or indeed thrives – in this current digital regime may translate onto certain new transformation depends on a complex process, 116 platforms, but not all. involving arcane areas of regulation: these include must-carry rules, intellectual property, The media necessary for citizenship involve, and even defamation and rights to privacy, as at some level, all of these dimensions. If an these forms of regulation are redefining the unacceptable level of information-inequality boundaries and content of the public sphere or exclusion does occur, it could be as a of openly available content.6 The technical consequence of each, or any combination, standards and codes of conduct for release of of these various aspects. public sector information, from crown Citizenship requires a public sphere where copyright to geo-data, have come under rational critical, evidence-based debate on the increasing public scrutiny, illustrating the decisions facing us can be carried out. The further politicisation of public policy for the extent to which the public sphere survives – public sphere. Citizens – and also businesses –

6. See Tambini, Damian. Transformation of the Public Sphere: Law, Policy and the Boundaries of Publicness. In: Harrison, J. and Wessels, B. (eds.) Mediating Europe. New Media, Mass Communication and the European Public Sphere, Oxford: Berghahn Books, forthcoming, 2007 098-139 6/11/06 20:24 Page 117

want access to public information goods, and Citizens also require a voice and access to the the tension between market exploitation of relevant forum in which to make themselves that information and provision to the public heard. Clearly, constitutional protection of sphere will continue to grow. freedom of speech affords a certain level of protection, particularly from government In figure 1, Access to networks refers to the restriction, but this does not entail a positive condition of being connected to a network, right to access to expression, i.e. the right to (e.g. a fixed or wireless telephone network, have one’s speech heard, or to have access to interest broadcast transmission network, broadband key media for expression. The regulatory internet) through purchase of a consumer challenges in safeguarding this is a particular public device, and/or as a subscriber. Public policy on challenge in the case of groups with a specific the spectrum allocation, subsidies, competition disability, as the long history of obligations on in and price regulation all impact on overall broadcasters testifies. Redefining accessibility levels and price points of access. So to do the of interactive services and its regulation in new package of measures referred to as Universal services will be a key challenge and one that Service Obligations which are subject to the would benefit from a notion of all users as regulation of measures outlined in the 2002 Universal citizens rather than merely users or consumers. Service Directive and sections 65-72 of the

Communications Act 2003. Access to the shared forum refers to the notion nature that citizenship practices take place in various However, merely having access to the network spaces, but are increasingly played out in

is not enough if key services are encrypted. media environments that range from key news changing Access to content occurs within additional legal, services and discussions to web forums, chat The

policy and economic frameworks. Some forms rooms and blogs. Not only do these offer 2: of information – such as government citizens the possibility of accessing informa- information – are subject to a particular

tion and having their voices heard, but they Section framework that is designed to balance rights of may also offer social capital (Brookes 2004) access with other considerations such as data and shared experience. This latter is partic- protection principles, privacy and secrecy. The ularly hard to capture using a market-failure 117 business framework governing which content perspective as there are collective action is unambiguously in the public domain is also problems that increase with media fragmen- undergoing fundamental shifts at present, as tation. As Brookes points out, markets Digital Rights Management technology enables regularly – and increasingly – fail to provide smarter approaches to exploit the maximum this scarce public good. revenue in the digital value chain, but may Market failure, communications impose a higher level of restriction, for example on users ability to share, copy or re- and citizenship use it. As Ofcom has acknowledged in the case Within a standard market-failure outlook, of broadcasting, it is becoming easier to intervention is justified where markets fail. exclude non-subscribers, and the ‘public good’ The assumption is that individuals are served features of broadcasting are in decline.7 best by the invisible hand of the market, and

7.Ofcom, Public Service Television Review 098-139 6/11/06 20:24 Page 118

their utility will improve as the forces of (such as public service broadcasting) can be a competition drive prices down and quality up. useful intellectual thought experiment, but can Monopolies and market failure are the central we seriously claim to measure all the positive problems for regulators in this perspective, and negative externalities of different forms of and the proof of market power on one hand, drama, news and speech? and market failure on the other, constitute the Market competition is often much more key triggers for intervention. effective than any notion of rights or basic There seems to be little reason to question this provision could ever be, in extending access thinking. The enormous success of market to networks. Few would deny that two decades mechanisms and competition in rolling out of liberalised telecommunications in Europe choice and new services to consumers is have led to intense innovation and huge undeniable. But what about citizens? If our consumer benefit. However, some questions starting point is not the interests of each remain that imply notions of access rights. The individual consumer but the overall public EC Universal Service Directive sets out a benefit in terms of maintaining a level of framework to continue to develop a dynamic citizenship integration, we begin to see the notion of which services remain necessary ‘for limitations of an approach that is based on social inclusion’.8 In particular, there are proving market failure as a trigger for regulation. repeated concerns that a small minority will suffer exclusion from certain networks. The presence of externalities is one reason why markets might fail to achieve optimum When the analogue television signal was welfare outcomes, and the regulatory debate switched off in the Berlin Brandenburg region tends to focus on categorising communi- in 2004-2005, the switch-off was delayed cations benefits to citizens as positive because a small number of viewers would be externalities. While this may be feasible on deprived of their rights to receive public service What citizens need to know a purely theoretical level, I would argue that broadcasting. Public subsidies were also when market-failure analysis of these provided for receivers. In the UK, the citizenship outcomes fails, the problem lies Government has committed to provide 118 with the method. It is extremely difficult to ‘targeted help’ to consumers left behind as the measure these outcomes and, as I’ve signals are switched off between 2006 and mentioned above, it is even more challenging 2012. How would universal provision of to track consequences of these multi- services provided by government and by the dimensional processes across access to BBC operate in a two-tier internet, where the networks, content, speech and common public market enables charging customers for faster spaces for communication. Market failure services? And as the role of broadband delivery measurement as a means to justify intervention (of government services, for example) changes,

8. In considering whether the scope of universal service obligations be change or redefined, the Commission is to take into consideration the following elements: • are specific services available to and used by a majority of consumers and does the lack of availability or non-use by a minority of consumers result in social exclusion?; and • does the availability and use of specific services convey a general net benefit to all consumers such that public intervention is warranted in circumstances where the specific services are not provided to the public under normal commercial circumstances? (Universal Service Directive 2002/22/EC, annex V) 098-139 6/11/06 20:24 Page 119

you might argue that public policy will need to significant body of political opinion argues grapple with the notion of broadband as a that the BBC should become a subscription prerequisite to participate; where access to the service.10 If this was the case, it is unlikely that network is a condition of exercising, say, your any other broadcaster could achieve the same civil, political and social rights. position. How would this form of ‘market

failure’ be valued? What would constitute an unacceptable level of inequality or exclusion from the point of And a longer-term perspective also has to view of citizenship? There is an unavoidable take into account changing perspectives on interest element of judgement here. In the 2005-6 EC standards and technology. It is increasingly

consultation on the review of the EC universal the case that the protection of intellectual public

service directive, the EC proposed that property is a matter not for general principles the

broadband penetration had not yet reached and authors’ rights, but for private contracts in the level where it should trigger the package of and smart software that will enable further measures designed to ensure that everyone exploitation of ever-narrower distribution

should have access at an affordable price. The windows. However, there is also growing regulation

DTI in the UK concurred in its response, but support that this should be limited, and that of both agreed there was a need for constant the public interest in innovation and access to

review, since levels of access range from knowledge would be served by a rebalancing nature 5%-35% penetration in Europe.9 in favour of users’ rights.11

Constitutional protection of freedom of speech While we do live in an era of manifold content, changing assumes that fundamental speech freedoms are we can imagine a scenario where access to The too important to be left to the private domain. content becomes subject to citizenship-based 2: Since J.S. Mill, and increasingly in the US and, claims and disputes. For example, you could more recently, within the system of the argue that content that is funded and provided Section European Convention on Human Rights, through public taxation – including govern- jurisprudence reflects the idea that democratic ment information – should be available to citizenship is one of the more important all citizens. Further, the existing regulatory justifications given by judges granting framework for broadcasting contains many 119 protection from interference in the rights elements which have the specific objective of of speech. (Barendt 1985) ensuring continuing availability. Not only do licensed broadcasters have coverage obligations, Access to content is more complex. The Today but platforms are subject to a regime whereby programme on BBC Radio 4 has, in a sense, they ‘must carry’ certain television channels, become part of the democratic constitution of and these channels also benefit from promi- the UK. Crucially, it is one of very few news nence in electronic programme guides. programmes with the ability to ‘empty chair’ (EC Directive 2002/22/EC art 31) a minister who refuses to appear. Yet a

9. See Dti Response to Commission Communication (9592/05) on the Review of the Universal Services (2002/22/EC) Available on the DG Infosoc/European Commission website (accessed June 2006) 10. Elstein recommendations. This review was commissioned by the Conservative Party but does not reflect Conservative Party policy. 11. (RSA Charter, Rufus Pollack Paper) 098-139 6/11/06 20:24 Page 120

When the democratic health of the country is the externalities concern concepts such as taken into account, we must acknowledge that ‘community’ and ‘citizenship’ that are usually widening and persistent inequalities of access deemed to be beyond the reach of economics – particularly when they overlay other social when discussing broadcasting.” (Martin divisions – could lead to the kind of exclusion Brookes, 2004, Watching Alone, p26) that ultimately causes democratic failure and, “Social capital results from broadcasting conceivably, even the use of violence as a through externalities. These are a source of political statement. It is imaginable that, at the market-failure in economics. A particular type very least, some audiences would drift away of externalities creates social capital – network from core public services to niche services externalities. My enjoyment of a programme which, in turn, would become the new ‘Today’ increases the more my friends or colleagues programmes. In the very long-term, the most have also watched it and can talk about it – excluded would simply be unable to afford there are positive external effects from people subscription services essential for the watching the same programme. A purely provision of information and debate that is commercial broadcaster without public service critical to citizenship. obligations will seek to maximise profits. In The notion of a shared forum general, this results in maximising the size of audience, especially among demographic Two of the key trends across media industries groups (e.g. young, upmarket viewers) which in the last decade have been the declining are particularly attractive to advertisers. This is reliance on blockbusters (Aris and Bughin) and not the same as maximising spill-over benefits the growing ability to exploit value in the ‘long and shared experiences. Consequently, such a tail’ – i.e. niche and specialist audiences.12 This broadcaster would produce too few of the has led to a concern for the role of media right programmes, resulting in an inefficiently products as central collective experiences, and

What citizens need to know small amount of social capital. A free market what Greg Dyke inelegantly called the ‘social in broadcasting would not produce enough glue’ role of public service broadcasting. Just as social capital. This conclusion is not a value markets may fail to make sure that uneconomic judgement but follows from standard 120 consumers of broadband are connected, they economic reasoning about externalities.” may fail to ensure that a good that consumers (Martin Brookes, p6) do value: social spill-overs and network effects,

13 will be provided. “Producing programmes with high viewer “Network externalities are the particular type ratings does not necessarily mean producing of externality involved here – the benefits programmes that a non-public service increase with the number of people who have broadcaster would produce. A public service watched the programmes and shared the broadcaster might produce programmes which experience. This distinguishes the argument target audiences from all ethnic groups, all from conventional discussion of externalities social groups, programmes which encourage and broadcasting. The other distinction is that debate or reflection, that highlight social

12. Chris Anderson Wired, October 2004. http://www.wired.com/wired/archive/12.10/tail.html 13. See also Sunstein, Cass. Republic.Com. 2001 098-139 6/11/06 20:24 Page 121

issues, etc. Such programming should be completely in the position of ‘the other’.” designed to attract significant audiences and (Graham 2004, p92) build social capital.” (Martin Brooks, p40) Conclusion It is worth noting at the outset that the ‘social “The current circumstances, remaking public capital’ arguments do sit somewhat uncom- broadcasting and struggling to construct a fortably with the traditional arguments for viable public domain within the emerging source, content and exposure diversity of moving image industries constitutes a titanic media. From the point of view of democratic interest task. But it is a necessary one if there is to be pluralism, it is often argued that diversity of any hope of defending and extending the media outlets and content, rather than public rights of complex citizenship.”14 (Graham

‘common experiences’, should be projected. the Murdock) In this perspective, common texts are in problematic rather than beneficial. Citizenship constitutes a package of rights and responsibilities that are held equally by all If a very broad notion of externalities is members of society. Because they are the same regulation

adopted, then it may be reasonable in of for everyone, they are a powerful force for theoretical terms to include citizenship integration, particularly in those societies that benefits as being externalities. But the are apparently becoming more diverse and nature standard measures of the utility of such goods fractious. Electronic communications are may not capture the general benefits becoming ever-more central to exercising

associated. Andrew Graham outlined the changing citizenship rights, just as a basic level of huge problems facing those who try to

education and welfare have been. The

measure definitively the value of broadcasting 2: for citizenship. In particular he questions “Citizenship is not just another sort of market current methods of research on public service failure, it derives from a different set of values. Section broadcasting, which ask questions about how As long as it can be shown that the media individuals evaluate broadcasting’s impact on plays a core role in the functioning of a other people as well as themselves. society, and access to it is a necessary condition for a well-functioning democratic 121 “The individuals replying [to BBC Public Value society, then the level, content and changing surveys] to have captured fully the value to basis for public service broadcasting cannot be society of PSB, it would be necessary for them encapsulated solely in the market-failure to be both perfectly informed and perfectly paradigm.” (Dieter Helm 2004, p5) altruistic. The assumption about information is required for them (a) to understand fully all Deiter Helm’s observation about citizenship the external effects and (b) to forecast the should be extended across converging merit good effects. The assumption about communications and not be restricted to a altruism is required in order that, having debate about PSB. There is a balance to be understood and forecast accurately, they struck when it comes to the overall level of would then be able to place themselves inequality in citizen access to communications,

14. Graham Murdock, Rights and Representations in Television and Common Knowledge, p16 in Gripsrud, J. (ed). Television and Common Knowledge. Routledge 1999 098-139 6/11/06 20:24 Page 122

and it is a delicate and crucial balance for to information services. The discussion here democratic development. has attempted to outline some of the com- plexity of the current shift in communications If all citizens access the same content, and citizenship. networks and public forums, we live in a totalitarian state. But at the other extreme, Principles and guidelines there is a point at which inequalities in access The services necessary to citizenship change to information and voice render democratic over time, and are changing rapidly today. citizenship untenable. In the current context, Until very recently, the basket of communi- fragmentation is a greater danger than cation services considered necessary for totalitarianism in the UK. If some groups of citizenship would have included only a citizens are extremely well-informed and have telephone, a postal address and access to free access to the means to co-ordinate and broadcasting. Whether broadband should be mobilise around their shared interests, and included in that package is largely a question communicate in a timely and strategic way, of when, rather than if. And if new media and others simply do not, then democracy standards (for example mobile, high- is a step closer to being a sham. definition television) become dominant and Ofcom has a duty to further the interests of necessary for access to public services, it may consumers. It also has a duty to further the be that mobile, high definition or broadband interests of citizens. You can only give services become part of the necessary meaningful protection to this latter group if citizenship package. Regulatory monitoring rights – civil, political and social – are taken and research needs to respond to this by into account. These rights cannot be given a developing rights-based notions of consumer cash value and measured as ‘externalities’ access research, to supplement the existing because rights are incommensurable with services. Without it, the provision of public What citizens need to know consumer value. An unacceptable level of services in a multi-platform environment will information exclusion is one that undermines be problematic, and pockets of multi-layered individuals’ abilities to perform the rights and exclusion may develop. 122 duties that society grants them as citizens. A Secondly, and related, a relative rather than dangerous level is where exclusion combines an absolute notion of inequality will be several of the four dimensions outlined above, appropriate, rather than an issue of achieving and is overlaid with other forms of exclusion: a baseline safety net of services. Citizenship for example, unemployment, lack of education is fundamentally a dimension of equality and linguistic ability. between members of the same group. What, if anything, should be done in the face Democratic institutions depend for their of rising fragmentation and information legitimacy on the assumption that the rules inequality? One very real possibility is that and conditions of participation are equal for regulators and legislators should do nothing. all. Apathy and cynicism will result if citizens It is entirely possible that the market provides. get the impression that the field is not level, Until now, however, there has been a very or if a small group of players don’t have well-developed framework of regulations that access to the means to play the democratic protects notions of basic provision and rights game. It is a problem for democracy if a 098-139 6/11/06 20:24 Page 123

limited group of the ‘super connected’ are dismissed on principle: at best, they are seen to control things. viewed as paternalistic; at worst, they represent a step on the slippery slope to censorship. But Third, from the point of view of social we must be clear about the dangers of the inclusion and the health of our democracy, opposite view: that the market simply fails to priority must be given to structured inequalities deliver the level of shared communications that are multi-layered and affect particular and a baseline of equal access, and that the marginalised groups. In the context of long-term social costs of this may turn out to representative democracy, intractable problems interest be enormous. result when particular interest groups and

minority opinions are systematically under- To summarise: a market-failure approach, public

expressed, under-represented and under- particularly one that neglects or under- the deliberated. The consequences of democratic estimates the role of citizen, social and public in disenfranchisement of key groups, and their value, is likely to be indifferent to the key subsequent involvement in anti-constitutional tipping points where digital exclusion begins

means of expression, are all too painful to to seriously undermine citizenship. Even regulation

observe. Monitoring of research on media notions of public, social value or externalities of should have a particular focus on key excluded do not take an overall view of the level of

groups such as disabled people and religious overlapping inequalities and the extent to nature and ethnic minorities.15 which they undermine citizenship per se. A notion of rights, and one that sees infor- So there are key implications for research and mation citizenship as a relative poverty issue, changing monitoring carried out by regulators and others.

is the best long-term framework to ensure that The There is a clear need for guiding principles other communications in the UK perform their 2: than market failure. These can be provided by integrative, democratic role. the notion of communications for citizenship. Section The policy consequences of all this are less This throws up many questions: should straightforward. The pragmatic approach spectrum licensing policy support, or even outlined in the 2003 Communications Act and permit, a new communications technology the EC directives of 2002 set out a framework (let’s say, a new standard for high-definition 123 for constantly revising the scope of universal television) if only a select few would be service. However, as I mentioned earlier, it is willing and able to pay a very large premium only by combining data on various aspects of for it? Or should there be a preference for exclusion and inequality, and assessing them technologies that are likely to be accessed by in relation to other aspects of social exclusion, most or all citizens, even if they have less that judgements can be made on whether collective economic clout? To what extent exclusion has reached unacceptable levels for should public broadcasters be funded when particular groups. their audience share and reach is declining? Regulators or governments that profess to And is it possible for public funding to be ‘know what’s best’ for citizens are quickly provided for non-universal services in

15. A useful model here is the report by Ian Hargreaves and James Thomas for the ITC: New News, old news (Independent Television Commission, 2002). This examined for example the differing perceptions of television news among various ethnic groups. 098-139 6/11/06 20:24 Page 124

broadcasting? Clearly, there is an urgent need have helped hold society together through the for reflection, and guiding principles. post-war period. Digital exclusion, in all its complexity, is likely to increase, and a T.H. Marshall had a quaint notion that regulator with a duty to protect citizens (and somehow, in the progressive unfolding of not just consumers) must develop ways of citizenship rights, “all shall become gentle- monitoring its key dimensions. UK communi- men”. This view was forged in the secure cations regulation must also develop a clear nationalism of the post-war British consensus. and open framework for justifying corrective Ours is a different Britain: the 21st century is intervention that goes beyond market failure. more affluent, but less equal. We have an This will require an open debate about abundance in connectivity and content, but communications for citizenship, and about there appears to be a growing gap in access, how Ofcom should honour its general duty and the potential to eclipse the common to protect citizens’ interests. reference points and spaces for debate that What citizens need to know

124 098-139 6/11/06 20:24 Page 125

The continuing need to advance the public interest

David Puttnam Member of the House of Lords Chair, Hansard Society Commission on Parliament in the Public Eye interest public the in During the passage of the Communications energy examining every single clause of a large Bill, which established Ofcom in 2003, I and very complex Bill. remember certain ministers becoming oddly It was a Bill designed to set the regulatory regulation

exercised over the use of the term ‘media of framework for the UK’s electronic communica- ecology’. They claimed that concerns for the tions sector, coming at a time when digital possible ‘environmental degradation’ of our technology was beginning to challenge some nature media were largely the prejudices of a self- of our most cherished assumptions about how selected group of ‘media-luvvies’. the media and telecoms sectors operate. A few years on, I think it’s fair to say that this changing It was also a Bill designed to look forward and environmental analogy between climate change The

anticipate some of the likely changes to the 2: in the physical world and parallel events in media landscape that would result through the the world of information, is strikingly clear – convergence of sectors such as telecommunica- certainly when you look at it from a regulatory Section tions and broadcasting. Most important of all, perspective. To perceive the marketplace as a it was a Bill that had to be ‘fit for purpose’ force of nature in which effective and sensitive from the moment it received Royal Assent. regulation can play little or no part is as 125 misguided as it is downright dangerous. As Four years on, and looking back on the work with global warming, we have had more than of our committee, I’m extremely proud of what enough international warnings – look no we achieved – principally because the draft further than Berlusconi’s Italy, or recent Bill, as originally framed by the Government, developments in Putin’s Russia – to see what focused on technology at the expense of regulatory toothlessness and inattention can content and audiences. ultimately lead to. It suffered from one of the classic symptoms In 2002, I was asked to chair a Joint of technological determinism: a belief that the Parliamentary Scrutiny Committee set up to new technologies could deliver a sufficiency of examine the Government’s draft Communica- content that, in themselves, would serve as a tions Bill. Over the months that followed, guarantor of diversity and plurality. It has long together with fellow members of the committee, been an article of faith with me that technology I spent an enormous amount of time and is a bridge, very seldom a destination. There is 098-139 6/11/06 20:24 Page 126

always a danger of confusing means and ends, the essentially ‘corporatist’ criteria of and there is a lesson here for those charged competition policy. with formulating and scrutinising future Contrary to what some may have felt at the legislation, particularly where it concerns the time, I’ve never had any instinctive antipathy communications industries. towards the notion that companies exist to Unquestionably, our most important conclu- maximise shareholder value – but I do believe sion was that, irrespective of technological that blindly obeying this imperative can, and development, primacy must always be sometimes does, directly conflict with a accorded to the protection of that which number of the basic tenets of a plural and underpins the principles of a vibrant and equitable society. diverse social democracy. This is particularly true in the case of media Social democracy and companies; their ability to shape and define the public interest test the way we see our world is at least as powerful – and sometimes more powerful – than the This concept has to be embedded at the very task of simply reflecting the realities of that heart of our approach to future regulation if same world back to us. we are remotely serious about promoting and protecting the public interest. If we fail in this, That’s why I’m convinced that the public the rights of citizens and consumers could be interest must lie at the heart of any thoughtful quickly eroded, as a new generation of media regulation of the media. It is one of the few giants takes advantage of every opportunity in weapons that can help enshrine and underwrite their determination to ‘optimise shareholder the basic rights of citizens in an evolving and value’. In this respect, recent history offers participatory democracy such as ours. some important pointers as to what we’re With this in mind, it is worth restating exactly

the public interest The continuing need to advance likely to see. what the Communications Act requires Ofcom That is probably why I take a great deal of to do: to implement the media mergers public personal pride in the fact that, at the heart of interest test, should the Secretary of State wish 126 the Act, we were able to enshrine something there to be further investigation of: that I believe will become ever-more important: a ‘public interest test’. • a proposed merger involving newspaper enterprises; This test requires Ofcom to investigate any matters of broad public interest arising from • a proposed merger involving broadcasting the merger of newspapers or broadcast media enterprises; or companies, should such an investigation be • a proposed merger between broadcasting requested by the Secretary of State for Trade and newspaper enterprises. and Industry. The very existence of the test sends a strong signal that the UK regards the In the case of a newspaper merger, the Act potential impact of mergers and takeovers defines the public interest considerations as: in the broadcasting and newspaper industries • the need for accurate presentation of news as something that cannot be left solely to in newspapers; 098-139 6/11/06 20:24 Page 127

• the need for free expression of opinion in decisions can, or even should, be dealt with in the newspapers involved in the merger; and that way. So while I feel we can be justly proud of what our committee achieved, the • the need for, as far as reasonable and pace of change demands that we cannot be practicable, a sufficient plurality of views remotely complacent. expressed in newspapers as a whole in each

market, for newspapers in the UK or part of Grasping the nettle of the net the UK. The communications world has changed interest In the case of a broadcasting merger or a a great deal in the space of just a few years. Blogs and community sites were really still

cross-media merger, the Act defines the public public interest considerations as: in their infancy as the Act passed into law in the July 2003. Skype was founded that year, and in • the need for a sufficient plurality of Myspace.com was launched the very month persons with control of the media the Bill received Royal Assent. Three years on, enterprises serving a given audience, in both have users measured in tens of millions. relation to every different audience in the And like many other brands on the net, their regulation of UK or a particular area/locality of the UK; phenomenal growth has largely been driven by young people.

• the need for the availability throughout the nature UK of a wide range of broadcasting which, In an important speech made to the Royal taken as a whole, is both of high quality Television Society in January 2006, Ofcom’s

and calculated to appeal to a wide variety then-Chief Executive, Stephen Carter, offered a changing of tastes and interests; and

salutary thought regarding the impact of these The

developments on public policy. He noted that 2: • the need for persons carrying on media while the word ‘broadcasting’ appeared 483 enterprises and for those with control of

times in the 2003 Communications Bill, the Section such enterprises to have a genuine com- words ‘online’ and ‘internet’ did not appear mitment to the attainment in relation to once, even though their impact on Ofcom’s broadcasting of the standards objectives set work is immense. out in Section 319 of the Communications 127 Act 2003. (For example, standards governing I don’t believe that the absence of these words matters of accuracy, impartiality, harm, was a sin of omission, or an act of naivety, offence, fairness and privacy in broadcasting.) let alone an indication of bad faith. In fact, I suspect that had we insisted the words be The public interest test challenges the notion threaded through the Act we would have been that one can legislate at all times, giving equal roundly accused of a sin of commission. weight to the imperatives of the citizen and the market. Many, if not most, of the There’s a real danger for legislators trying to challenges facing Ofcom present themselves anticipate the future of any rapidly evolving as being capable of commercial or market- industry: either they end up constraining its driven solutions. development by throwing up unnecessary regulatory roadblocks or, having misread the But in introducing the public interest test, our future, they simply legislate for a world that intention was to show that not all of Ofcom’s never comes to pass. 098-139 6/11/06 20:24 Page 128

The Government was very clear that the purpose something so fragile and enfeebled that it of the Act was not to extend the tentacles of needs unnecessary cosseting. I start from the regulation to the internet. I believe that, at position that the public interest is just one of the time, this was probably the right decision, the compacts (albeit a fundamental one) that precisely because of the unintended conse- underpin the whole concept of citizenship quences of trying to anticipate what remains, and civil society. even today, a very uncertain future. It’s equally As citizens we do have rights, some of which certain that legislation will be required in the are, or ought to be, inalienable; but equally not-too-distant future, extending Ofcom’s those rights bring with them a whole slew of remit specifically to include aspects of responsibilities towards our fellow citizens. In internet communication. this rapidly changing world, the public interest As the regulatory remit extends into new areas, should increasingly become a central tenet of it becomes doubly important that it is built a free and evolving society; it is not something around principles that retain a clear sense of that can in any way become superfluous as a cultural continuity with those that underlie our consequence of technological advance. current approach. It’s very likely that issues In this respect regulators must be primed to be around market dominance and its potential vigilant, and never to drop their guard. abuse will continue to exist, or possibly even grow, in the digital era. The media cannot be crudely reduced to the status of being mere commodities, any more The primacy of the citizen than other vital aspects of a self-respecting To the extent that the future is only likely to democracy such as our systems of justice, become more complex, our approach to regu- health, education or, more recently, the security lation will need to be ever-more sophisticated, of supply of water, light and heat. It’s for this reason I’ve consistently argued that the the public interest The continuing need to advance and our understanding of what is meant by ‘public interest issues’ ever-more acute. We interests of the ‘citizen’ must at all times retain cannot lower our guard in the belief that in a primacy over those of the ‘consumer’; it’s also world of digital plenty, the market alone will why the Communications Act rightly, and 128 provide. As with any laissez-faire approach to importantly, separated the notion of those two global warming, the potential for irreversible critical entities. damage at the hands of the marketplace will In a digital era, I believe that the definition be a constant threat. of the public interest in respect of regulation must continue to be informed by three over- In fact, I’d go further: in a fully digital era, riding principles: the need to advance the public interest as a governing principle, underpinning the reg- • first, that from the perspective of public ulation of the whole of the communications policy, wherever the interest of the citizen industry, remains every bit as important as it finds itself in conflict with those of the was in an analogue era, when scarcity was the consumer, the ‘citizen interest’ should dominant feature. retain primacy over that of the marketplace;

I use the word ‘advance’ rather than ‘protect’ • second, that diversity and plurality are the because I don’t think of the public interest as key touchstones by which we measure the 098-139 6/11/06 20:24 Page 129

extent to which the citizen interest is being significantly diminished – the traditional sustained and advanced; and barriers to entry are increasingly being removed – the difficulty of securing awareness • third, that we should seek to ensure that all (a form of market failure accurately defined as citizens have the means, and the ability, to ‘imperfect information’) is likely to remain. make informed judgements regarding the

nature and value of the media they access. A huge number of websites, for example, get very few visitors simply because they are adrift We should not pretend that the ubiquity of in a sea of information dominated by just a interest digital technologies is, in and of itself, sufficient few large brands. to ensure that the public interest will somehow public prevail. This will remain the case even if the The cultural tool of media literacy the phenomenon of the ‘long tail’ – which is now If our understanding of the world is in well-established on the net – makes a far increasingly shaped by electronic media, then greater diversity of information and material in order for the individual citizen to really available to consumers and to citizens com-

make sense of this world, to navigate their regulation pared with the analogue world. way through it more effectively, they must be of For example, as the pre-eminence of companies properly equipped: they need the ability to

such as Google and Yahoo demonstrates, scale understand the means by which the media is nature is still a very significant advantage in the online able to shape, represent – and indeed when it world. The internet unquestionably allows wishes, even misrepresent – that world. These

innumerable websites and blogs to bloom, are the outlets that have the power to give changing

yet it’s equally clear that size does not meaning to our lives – sometimes a bewil- The

necessarily bring with it immense or even dering multiplicity of meanings. 2: lasting advantages. Just try having Channel Four News, Google Section Of course, the issue is not simply about scale, News and others send headlines to your any more than it was in the analogue world. mobile by SMS, and see their capacity for Very large companies can, and often do, act interpreting similar events in very different to advance the public interest. ways. Rather than simply and ‘neutrally’ 129 reporting it, the media edit and represent the Yet equally, they can sometimes act in ways world as they see it. That is why the promotion that serve to diminish choice and plurality. of media literacy is so important, since it This then requires a regulator equipped with equips us with the creative, critical and cultural teeth, and a willingness to use them when the tools that help us understand the way in which occasion demands. We shouldn’t forget that the media help to ‘construct’ our understand- there are clear limits to the effectiveness of ing of the world around us. self-regulation, and it would be a great mistake to ask too much of it. As a former producer of both films and television programmes, I’m incredibly aware of It is equally true that smaller entities and the way in which they can influence our view communities feel that they face real obstacles of the world – for better and for worse. Movies in securing visibility and awareness. While the and television, like all other forms of digital problem of access to platforms may have 098-139 6/11/06 20:24 Page 130

content, not only serve as entertainment; they The digital world poses a number of challenges are also an important form of expression. around the question of value – most specifi- cally the value of intellectual property rights For many of us they are, first and foremost, (IPR). In the past, much of the premium a way in which we access and share stories, attached to IP was a natural consequence of its ideas, attitudes and opinions. They are nothing scarcity. How do we ensure that its value still less than the means by which we imagine our inheres in a world in which the IP itself is entire range of possibilities for the future, and infinitely reproducible, frequently at almost nowhere is this more important than in the zero marginal cost? lives of young people. This is a challenge that has largely been left Only by ensuring that we are all thoroughly to, on the one hand, content owners who ‘media literate’ can we be sure that we’re are seeking a regime of stronger enforcement sufficiently well-informed to exercise that through legislation, because simple self-interest whole swathe of judgements on which any demands that they seek to protect their existing healthy society is critically dependent. In fact, business models. On the other, there’s the in a world increasingly defined by the moving combination of technology companies and image, media literacy is not just about our ‘internet outlaws’ who believe that everything ability to understand and appreciate the way should be free to anyone with the power these images are put together – it is increasingly to access it. about underpinning the health of any fully functioning democracy. The battle between these opposing concepts of ‘ownership’ represents a challenge for all of us More than that, it helps make possible the with a stake in the public interest – after all, vitality and growth of our cultural and imagi- unless citizens value IP it becomes impossible native lives. Being media literate can only help to maximise its contribution to the health and

the public interest The continuing need to advance stimulate our creativity – most especially by the prosperity of our society. enabling us to engage with digital technology – whether making a 30-second film or creating I do not for one moment believe that everything 130 impassioned websites that highlight those should be free. However, I’m equally far from things that most concern us every day. convinced that putting all copyright material under lock and key is the answer either – most Thus media literacy, which the existing especially when public resources have helped Communications Act already requires Ofcom to create that content in the first place. to promote, can only become increasingly vital as a means by which we can advance the The moment we start to conceptualise intellec- public interest. tual property in primarily defensive terms, to the point of adopting the language of the IP: ownership and entitlement police state when discussing the value of However, to reap the full educational and copyright – that, for me, is the moment we cultural benefits of the digital dividend we fundamentally devalue the whole currency of also need to create public policies that provide media literacy. Some of the anti-piracy policies for a new settlement between citizens and pursued even by different sectoral interests can those who control intellectual property. look like the continuation of war by other 098-139 6/11/06 20:24 Page 131

means – hardly an effective strategy for winning primarily defensive. It was all about: how do the hearts and minds of consumers and citizens. we keep the franchise, how do we please or possibly even second-guess the ITC, how do It is easy to see how such a restrictive view we, year-on-year, incrementally increase share- might be encouraged by tabloid hysteria regard- holder value? There were very few leaps of ing rival media content, whether disseminated imagination, but this is not a criticism of the via television or on the internet. It’s easy to see Board; we were working within an environment how vested interests might only be concerned in which it would have seemed almost foolish with protecting the revenues of existing interest to view the future in any other way. business models, at the expense of more long-

term thinking – because in reality, they always Not only was the world of electronic public

have. But had such vested interests triumphed communications that now confronts us not the

in the past, the film industry would still be planned for; with the possible exception of in attempting to prevent the sale of movies to Rupert Murdoch, it wasn’t even conceived. television. In fact, one of the very big issues In this respect at least, I take my hat off to Mr.

for film is the length of the ‘windows’ through regulation Murdoch. He saw an opportunity, he moved, which the VCR, the internet and DVD find of he manoeuvred, he was prepared to adapt, their way into homes. It is almost certain that and did the one thing that the rest of us were

those windows in their current form will not nature frightened of: he believed in the possibility of survive the transition to a fully digital age. a ‘different’ future. I am not any kind of anarchist. As a citizen, So experience tells me that here is at least one changing I believe in regulation, sometimes even tough

extremely good reason for a strong, robust The regulation. As a copyright owner, I firmly believe regulator such as Ofcom, to try to imagine 2: in the adequate protection of authors’ rights. and anticipate the future – its opportunities

But I also believe that imparting an under- and its dangers – precisely so that society isn’t Section standing of the need for valuing and respecting continually outflanked by those who have intellectual property is best achieved by creating historically shown themselves to be far better a sense of empowerment, and legitimate at responding to changing market conditions 131 entitlement among users. – sometimes at the expense of much of what is most firmly tied to the public interest. As What’s certain is that those charged with we on the Joint Scrutiny Committee argued, advancing the public interest on a broad front ‘regulation has to keep up with technology; will require foresight and a bold and insightful ex post facto law is invariably bad law’. imagination. These are qualities we have not consistently displayed in the UK over the past Or as one of my personal heroes, the polymath few years. For almost two decades, I was a Dr Albert Schweitzer, cautioned: “Never let non-executive director of Anglia Television. your technology exceed your humanity.” During the whole of that time I can honestly That seems to me to be an entirely admirable say that we seldom, if ever, looked more than precept to which we should all adhere, if we five years ahead. are really serious about advancing the public interest in an environmentally dangerous I’d also have to concede that just about every digital era. move we made during those 20 years was 098-139 6/11/06 20:24 Page 132

The revolution of audiovisual services: culture, economy or both? Ruth Hieronymi Member of the European Parliament

The development of of media pluralism and the definition of the audiovisual services public service remit.

During the process of the global economy This, however, does not mean that the developing faster and faster, the special role European Union does not have a role to play of audiovisual services for safeguarding in the regulation of broadcasting. To the freedom of information, freedom of extent that broadcasting is a service, it comes expression and cultural diversity has been within the ambit of the European Treaty and recognised very late – hopefully, not too late. there is a role for the EU to remove restrictions in trans-national broadcasting, harmonise by The significance of audiovisual media and their minimum standards broadcasting legislation special role emerged when the era of moving and ensure fair competition. As a conse- pictures started and became increasingly quence, a common legal framework was important in everyday culture. Already in established by the EU Television without the early days, audiovisual services could be or both? economy services: culture, of audiovisual The revolution Frontiers, (TVWF) Directive1 in 1989. bought and sold across national borders, as films could be dubbed and subtitled. This facilitated the beginning of cross-border broadcasting. The advent of commercial 132 However, broadcasting was, and remains, television in the mid-80s and of digital TV in primarily a national issue. It has traditionally the mid-90s contributed to the growth and been a matter for national laws, intrinsically development of this sector. linked with national cultural and public interest concerns. European television and The audiovisual sector today radio stations are normally national in The television sector has gone through a phase coverage and in their audiences, primarily for of continuous dynamic growth during the last linguistic reasons. In the European Union, years. Today, there is television in 98 per cent the competence over fundamental decisions in of all European households, something that the domain of culture has always remained confirms the social influence of television and with the Member States. At present, Member its significance for opinion forming and the States have the exclusive competence in democratic process. At the beginning of 2004, licensing, spectrum planning, all aspects

1. Directive 1989/552/EC dated 03 Oct 1989, amended by Directive 1997/36/EC dated 30 Jun 1997 098-139 6/11/06 20:24 Page 133

there were approximately 220 regional television set themselves the high goal of “the EU channels. In addition, more than 160 television becoming the most competitive and dynamic programmes are broadcast on a cross-border knowledge-based economy in the world”.2 basis and are thus available in several of the 25 In this context, the new information and EU Member States (compared to a mere 68 communications technologies, as well as the

channels of this kind in the EU-15 in the year new media services, have a key role. The share 2001). This development has been accompanied of the information and communications by a respective increase in the total turnovers of technologies in the productivity growth in interest the TV stations and the advertising turnovers of Europe amounted to 45 per cent in the period private and public providers. between 2000 and 2005. The European public Commission forecasted that in the EU in 2011,

Regarding digital technologies and the the 22 million people would be employed in the emerging new audiovisual services, there are in multimedia and software sector alone. some figures indicating their dynamics in terms of demand. In 2005 23.2 per cent of all The expectations for economic growth were

households in the EU had reception of digital very optimistic and not all have been realised regulation

TV. In 2003 there were 230 interactive as forecasted. Nevertheless, the media sector of digital TV services in the EU-15. will without doubt be one of the most

dynamic growth markets in the years to come. nature These figures do not only indicate a fast At the same time, the European Union penetration of new audiovisual services and the continues to show a dramatic trade deficit use of digital technologies, but also their power compared with the United States in all changing to substitute traditional TV and the willingness audiovisual markets. For example, up to of consumers to use these kind of services. The 80 per cent of the films, audiovisual services 2: The increasing importance of digital and e-learning products on the European

technologies for providing audiovisual services market are of US origin. In this context, it is Section is underlined by the availability of computers important to ensure that Europe remains an in households in the EU. attractive region for economic investment, while ensuring that the rich diversity of 133 In 2005, 58% of all households had a European culture will continue to be computer and 48% had access to the internet protected. This needs to be achieved through in the EU-25, with a growing rate of access to a co-ordinated economic, media and the internet of 14% in the year 2004. This is telecommunications policy both at European even clearer for the EU-15: here 63% of the as well as at national level. households have computers and 53% access to the internet, with an increase in access to Television with new frontiers the internet of 10% in 2004. Up to now, the TVWF Directive has been the ICTs and the Lisbon strategy cornerstone of the EU media policy. When it came into effect in 1989, the predominant During their special Lisbon summit in March task of the TVWF Directive was to ensure that 2000, the EU Heads of State and Government television services could be provided without

2. European Council of Lisbon, 23/24 March 2000, Presidency Conclusions 098-139 6/11/06 20:24 Page 134

barriers within the EU internal market. transmission of major sports competitions, This was possible through the operation of the for example the football World Cup, the country-of-origin principle, which results in Champions League or the Olympic Games. the application of the rules of the country of An interim assessment at the end of 2005 establishment. Europe-wide consensus on the confirmed the overall success of the EU TVWF country of origin was only possible when Directive. All Member States now apply it, common minimum standards for advertising establishing a common legal framework for rules, protection of minors and human the audiovisual field. The regulations in the dignity, and a requirement on minimum field of the protection of minors and human shares of European and independent dignity have been implemented and complied productions were agreed in the Directive. with. The advertising regulations were, as As regards television advertising, a number expected, more controversial, but their of crucial rules apply at European level. For adherence was finally agreed. The share of the example, an obligation to separate editorial works of independent producers as well as the contents from advertising, a prohibition of prescribed 50 per cent share of European surreptitious advertising, as well as detailed works is considerably exceeded in most quantitative requirements for advertising Member States. In times of increasing media breaks. There are also strict qualitative convergence, however, the question arises restrictions on advertising directed towards whether this legal framework is suited to take children and young people. There are account of the revolutionary technological important safeguards for the protection of developments that we have witnessed in the minors against contents that are harmful, such audiovisual field over the last ten years. as pornography, violence and content that is The answer is no. With the development of discriminatory. Finally, with a minimum digital technologies and the growth of the

or both? economy services: culture, of audiovisual The revolution quota of 50 per cent for the transmission of Internet, national borders are becoming European works and a prescribed minimum increasingly irrelevant. Today, audiovisual share of 10 per cent for works of independent services are available worldwide and crossing producers, the Directive takes account of the 134 borders in a digital form – if and when the double-sided character of the television sector: prices for the appropriate technological cultural and economic. requirements can be paid – and have become In 1997, the Directive was revised for the first one of the most powerful markets in the world. time to take account of technological and Looking beyond Europe: the WTO market developments. The most significant regime for audiovisual services innovation was Article 3.a of the Directive, which regulates the transmission of listed Against this background, it is understandable events considered to be of major importance to that in the WTO rounds and in the GATS society. It provides the Member States with the (General Agreement on Trade in Services) opportunity to ensure live or deferred rounds concerning services, there has always transmission for all viewers in free TV, even if been a struggle for agreement on if, when and the transmission rights were exclusively sold to which audiovisual services should be included a pay-TV operator by the rights holder. In most in a worldwide trade regime. Member States, the listed events include the 098-139 6/11/06 20:24 Page 135

A part of this WTO world trade system is the financial support systems for local audiovisual GATS, which transfers rights and obligations productions; quota systems; must-carry-rules related to free trade to all service sectors in favour of local content; and a number of and thus also to audiovisual services. The media ownership rules. In addition, public EU refrained from any liberalisation in the funding of public services broadcasting may

field of audiovisual media in the Uruguay one day be found to be in violation of Round (1994). disciplines for subsidies under GATS.

Against this background, the new negotiation In the European Union, there is an intense interest for liberalisation, the so-called Doha Round, discussion between the Member States, the

started in the year 2000. It is not surprising EU Commission and the Parliament on this public

that the audiovisual sector has again proved question but there is general agreement on the

controversial, with the United States, Japan, the premise that audiovisual services are not in Brazil and South Korea demanding further only economic but, more importantly, cultural liberalisation of services in the audio- goods and services. Accordingly, the European

visual sector. institutions have in the past argued for the regulation

exclusion of audiovisual services from these of There is ample proof that the marketplace purely economic negotiations in the WTO alone cannot ensure cultural diversity. Thus,

and GATS rounds – especially the present nature the public policies in Europe are premised Doha Round. on the conviction that the responsibility of policymakers to foster cultural diversity Furthermore, on 20 October 2005, the Unesco changing extends to the digital environment. This also Plenary presented a worldwide Convention on means that governments must safeguard their the protection and promotion of the diversity The 2: flexibility to pursue national pro-active cultural of cultural forms of expression “being and audiovisual policies at international level. convinced that cultural activities, goods and But how should governments defend their services have both an economic and a cultural Section audiovisual policies successfully against nature, because they convey identities, values global developments that could put these and meanings, and must therefore not be policies in jeopardy? treated as solely having commercial value”. 135 In the member states of Unesco, the extremely If audiovisual services were liberalised under important ratification process: the precondition the GATS as some countries request, the most for the entry into force of the Convention, is basic and fundamental audiovisual and taking place at present. The Unesco Convention cultural policies would be put at risk. This is for the first time establishes a worldwide because the main principles of the GATS are legal instrument for the protection of cultural incompatible with many audiovisual policies, diversity that has to be respected by the which typically strengthen the cultural identity community of states, just as it does worldwide and discriminate against foreign audiovisual trade law. service suppliers. This kind of discrimination is prohibited under GATS through the Most Legal regulations Favoured Nation principle and the National in the European Union Treatment principle. Examples of national Despite this position towards WTO/GATS, the policies directly at odds with GATS include all status of audiovisual services inside the EU has 098-139 6/11/06 20:24 Page 136

not yet been legally clarified up to now. Only The key question is whether there should be for traditional television has the legal status a sector-specific media law at European level been clear, since 1989 due to the TVWF (lex specialis) or whether TV services on Directive. The Electronic Commerce Directive of demand should fall exclusively into the scope 2000 comprises the regulations for the of the e-Commerce Directive. exchange in the field of electronic services on The European Parliament has resolutely demand, which are defined as ‘services of the pleaded for the creation of a common legal information society’. Broadcasting services framework for all audiovisual services that have so far been excluded from the Electronic would address their double character as a Commerce Directive because of their double cultural and economic good. nature as cultural and economic goods, and because they have not yet been on-demand. The European Commission and the Council have reacted to this request and have demon- The EU Services Directive adopted in 2006, strated with a large majority their support for reiterated the special nature of audiovisual maintaining the sector-specific legal framework services: “audiovisual services, whatever their for traditional and new audiovisual media. mode of production, distribution and They have also rejected the classification of the transmission, including radio broadcasting and new media services as a pure economic good. the cinema” are expressly not included due to their significance for democracy and society. In December 2005, the EU Commission therefore tabled a proposal for a sector-specific The convergence of technologies, platforms directive for audiovisual media services3 to and media services, as well as the development amalgamate traditional and new audiovisual of on-demand TV services and new business media services with graduated regulatory rules, models, means there is a significant legal grey depending on the impact of these services on area for these audiovisual media services,

or both? economy services: culture, of audiovisual The revolution public opinion and the degree of choice and which are not identical with traditional TV. control exercised by the user. This has triggered discussions on what is the appropriate regulatory framework at the This proposal of a Directive cannot be applied 136 European level, and a second revision of the to all audiovisual services in general, however. Television Without Frontiers Directive is now on It creates a lex specialis, a sector-specific media its way. law for audiovisual services that are of special significance for the freedom of information, At present, there are different regulations in media pluralism and cultural diversity, and different Member States for the new audio- which are included in the definition of visual services; something that creates legal ‘audiovisual media services’. uncertainty and which is weakening the competitiveness of the European industry in The draft proposals define audiovisual media the audiovisual sector. In order to fully benefit services as services as defined by Articles 49 from the potential of audiovisual services, a and 50 of the EC Treaty, with or without common European legal framework for the sound, under the editorial responsibility of a internal market is required. media service provider, and which are directed

3. COM(2005)646 098-139 6/11/06 20:24 Page 137

towards the general public via electronic visual contents is a fundamental contradiction networks for the purposes of information, to the current audiovisual European approach. education and entertainment. The Com- Thus, without a legally fixed status for mission has proposed to differentiate between audiovisual media services, neither would the linear services with a fixed programme sched- competitiveness of European providers be ule that cannot be changed by the user, and strengthened nor pluralism of information non-linear services that can be watched on- and opinion be safeguarded. The necessity of demand and changed interactively by the user. establishing a level playing field, therefore, is interest In order to take account of the different in the interests of both the internet economy

character of non-linear services, only basic and cultural diversity in compliance with public

requirements on issues of protection of Article 151 EC Treaty. the

minors, human dignity and advertising are in At this stage of the debate, it can be said that mandatory. Furthermore, for these services the vast majority of the European Parliament Member States are encouraged to use co- and the Member States strongly support the

and self-regulation. regulation proposal of the EU Commission concerning of A future without media-specific law the Audiovisual Media Service Directive.

I truly hope that there will be a majority I would like to re-iterate that audiovisual nature support for this approach in the European services that are not audiovisual media services Parliament and the European Council. are not taken out of the application of competi-

Otherwise, what’s the alternative? tion and trade law at European and worldwide changing

level. They continue to be in a legal grey area. The An alternative approach that is supported by We hope for a future regulation that takes 2: parts of the industry – in particular by the account of the Unesco Convention on the pro- telecommunications, cable and internet

tection of cultural goods prepared and decided Section providers – favours the application of sector- in co-operation with the European Union. specific media regulation at European level only to traditional television with a fixed Conclusion programme schedule. 137 It is absolutely necessary to keep a sector- In my view, the consequence would be that all specific media law at European level. The those audiovisual media services that are not extension of the TVWF Directive to the new distributed according to a fixed programme audiovisual media services is the only way for schedule will not fall under a sector-specific safeguarding EU-wide freedom of expression media law, and will be left in a legal grey area and freedom of information, and furthermore where decisions as to whether the TVWF for maintaining cultural diversity. These values Directive or the Electronic Commerce Directive are considered to be most important to the is applicable are to be made on a case-by-case European Union, both as a basis for basis. The position that all services provided democracy and as a key feature of the EU. on-demand fall under the eCommerce All in all, a sector-specific media law does not Directive, independent of their content, neglect the economic character of audiovisual should scarcely be legally tenable. Such a media services, but allows the implementation unidirectional commercialisation of audio- 098-139 6/11/06 20:24 Page 138

of certain regulations to safeguard important June 2006, a communication was published and basic values connected to the cultural by the European Commission,4 On the Review character of these services. Only under this of the EU Regulatory Framework for Electronic common agreement on standards can the Communications Networks and Services. The country-of-origin principle be accepted. Commission’s proposal for a revision of the Framework Directives is expected for the end There should be a clear distinction between of the year. Important aims to be achieved are: the audiovisual media service providers that deliver content to the European citizens and • to strengthen incentives for investment the providers of communications networks, (which should be ensured through used for the transmission of content. The competition to provide infrastructure); former are to be regulated under the • to promote innovation through openness Audiovisual Media Service Directive, while the of the rules for new technologies; and latter would be regulated under the umbrella of the eCommunications strategy of the • to safeguard the European model of European Commission. freedom of information and freedom of expression, especially through the policy This eCommunications strategy involves the option of structural separation. Structural management of radio spectrum and the separation means that telecom regulators revision of the ‘regulatory framework for could require a dominant operator to electronic communications’. For the manage- provide non-discriminatory access to all ment of radio spectrum, the EU Commission operators by separating infrastructure states that the regulatory approach should provisions from service provisions to a be updated since electronic communication greater or lesser extent5. services such as mobile telephony rely on radio technologies, and these radio frequencies do All these EU approaches on services of or both? economy services: culture, of audiovisual The revolution not know borders. Recently, new and more the information society and electronic market-based approaches have been developed. communication have one thing in common: Also in this field, an update in legislation is their regulation will be based on a liberal 138 urgently needed. market approach, competition law and rules for safeguarding cultural diversity at the same As for the regulatory framework for electronic time, because audiovisual goods are both communications, it was established in 2002. cultural and economic goods. Currently, its revisions process is ongoing. In

4. COM(2006) 334 5. Speech/06/422 by Viviane Reding held on 27th June 2006 at the annual meeting of BITKOM 098-139 6/11/06 20:24 Page 139

139 140-201 6/11/06 20:27 Page 140

section 3 Economic regulation beyond 2010 140-201 6/11/06 20:27 Page 141 140-201 6/11/06 20:27 Page 142 140-201 6/11/06 20:27 Page 143

Creating an environment for rapid innovation Irwin Stelzer Senior Fellow and Director of Economic Policy Studies Group, Hudson Institute

“Obviously the face of the earth… looks as it of the most disruptive sort, can take decades does… due to the unremitting efforts of people to work their way into day-to-day business to improve, according to their lights, upon their operations. Still, it is better to have a clear productive and commercial methods, i.e. to view of the policy goals that might maximise the changes in technique of production, the innovation, than to stagger from issue to issue, conquest of new markets, the insertion of new with only ad-hockery as a guide. commodities, and so on. This historic and Macroeconomic policy irreversible change in the way of doing things we call ‘innovation’ and we define: innovations The relation between innovation and are changes in production functions which macroeconomic policy is not as straight- cannot be decomposed into infinitesimal steps. forward as it would at first seem. It seems Add as many mail-coaches as you please, obvious that a stable economy, growing at a you will never get a railroad by so doing.”1 relatively predictable, non-inflationary rate,

is one that maximises boardroom confidence, 2010 Section 3: Economic regulation beyond The creation of an environment in which keeps capital costs at a minimum, and pro- innovation can flourish requires that we get vides the general setting in which entrepre- 2 four major economic policies right: macro- neurs feel comfortable investing in new ideas 143 economic policy; the rule of law; competition and technologies. Perhaps. policy; and regulatory policy. Each one of these presents daunting problems for Disruption and crises can be an important goad policymakers; to get all four right might be to innovation. However, as a general matter it is beyond the reach of merely mortal politicians safe to assume that a growing, crisis-free econ- and regulators. Worse still, it is difficult to omy provides the optimal environment for measure the success of any policy designed to innovation. Such an economy, in turn, requires stimulate innovation: measurement difficulties the development of sensible monetary, and the fact that innovations, especially those economy-wide regulatory, and fiscal policies.

1. Joseph A. Schumpeter, The Analysis of Economic Change, Reprinted from Review of Economic Statistics, May 1935, in Richard V. Clemence, ed., Essays on Entrepreneurs, Innovations, Business Cycles, and the Evolution of Capitalism. New Jersey: Transaction Publishers, 1989, p.134. 2. It is beyond the scope of this paper to consider the non-economic factors that importantly contribute to the rate of innovation, most notably the degree of individualism a society endorses, as against deference to hierarchy, community and/or nation. 140-201 6/11/06 20:27 Page 144

But there is more to producing an optimal Which brings us to the role of fiscal policy macroeconomic environment than getting in maximising the rate of innovation. monetary policy just right. There remain the Policymakers have learned less than those nontrivial matters of macroeconomic who concentrate on monetary policy. In part, regulatory policy, and fiscal policy. the greater improvement in monetary policy since the 1930s, when the Federal Reserve There is less controversy surrounding the choice Board’s credit tightening at an inopportune of national regulatory policies that stimulate time contributed to prolonging the recession, steady macroeconomic growth because we is due to the combination of greater have had the benefit of a laboratory test: a experience and improved quantitative comparison of the relatively unregulated US analytical tools.5 But only in part. economy with the more closely regulated economies of the European Union. The core In important part the greater progress of EU economies – France, Germany and Italy – monetary policy, as compared with fiscal policy, have experienced declining labour productivity is due to its depoliticalisation. Following the over the past 30 years, and in the most recent lead of the United States, most leading five years for which data are available have countries have adopted the decidedly (non- averaged productivity growth rates of 1.8%, democratic) policy of turning monetary policy 1.3% and 0.2%, respectively, compared with over to independent or quasi-independent 2.8% in the US.3 Per capita income in those central banks. Although there is no agreement countries now averages 70% of that in America, among economists as to the effect of central “the largest gap since the late 1960s, thanks bank independence on the rate of inflation,6 to lower levels of employment, falling work there is little question that investors prefer to hours and Europe’s failure to harness gamble their wealth in an environment free of technology to boost productivity”.4 politicians manipulating monetary policy to

Creating an environment for rapid innovation suit their short-term ends – which, more often It would be foolish to claim that the EU’s than not, results in increased inflation. There’s greater reliance on regulation of product and little doubt that inflation has a “significantly labour markets is the sole reason for this negative” effect on an economy’s growth rate,7 144 disparity, but equally foolish to ignore the role and hence on the propensity of its played by Europe’s regulatory constraints on entrepreneurs to invest their sweat and capital managerial and entrepreneurial activity, in in the risky process of innovation. discouraging innovation and the associated increase in productivity and living standards. Fiscal policy, by contrast, remains the playground of politicians, and the focus

3. OECD, Labour Productivity Growth, April 20, 2006 4. Allister Heath, Only Fools and Europhiles, The Spectator, 1 July 2006, p.38 5. Although it is at times difficult to determine just how much we have learned since 1873 when, to cite just one example of his wisdom, Walter Bagehot advised that “it is the role of the central bank to lend… most freely in time of apprehension….” See his Lombard Street: A Description of the Money Market. Reprinted in 1999 by John Wiley & Sons, Inc., p.64. 6. Harvard University professor Robert J. Barro concludes on the basis of a study of 67 countries that the correlation between the extent of central bank independence and inflation rates is “negligible”. Determinants of Economic Growth: A Cross-Country Empirical Study. Cambridge, Massachusetts and London: The MIT Press, 1997, pp.104-111. 7. Ibid., p.117 140-201 6/11/06 20:27 Page 145

of fierce arguments among economists. Some And growth fosters a rate of innovation are in an old tradition that government must unavailable to stagnating economies, which balance its budgets, and that deficit financing innovation feeds back into more rapid growth, is “stigmatized as frivolous and unworthy of as the members of the European Union have respectable governments”8 and should be learned – or at least should have. avoided, if necessary by raising taxes. Others Rule of law contend that the budget deficit does not provide “a decent measure of the federal fiscal But growth is no more essential to innovation condition” 9, that measured deficits do not than is the rule of law. It is, according to present a clear and present danger to the US Professor Stiglitz, one of the “essential elements (or most) economies. Still others, the now- of a healthy economy”, and a system that famous supply-siders, argue that budget- provides “general confidence” that disputes balancing is a laudable goal, best achieved by surrounding property rights are resolved in “a a combination of spending constraints and tax fair and equitable manner”.11 Without the rule cuts that stimulate economic growth and of law, a capitalist system cannot survive – thereby increase tax revenues. contracts become meaningless, the state can intervene at any time to destroy private wealth Again, this is not an argument to be settled in (cf. Vladimir Putin and the sad tale of Yukos), this brief essay, beyond stating the obvious: and the rules governing business operations wildly unbalanced budgets require growth- can change without notice, and certainly not in stifling, tight monetary policy as an offset if the “fair and equitable manner” that Professor inflation is to be avoided; some tax cuts, Stiglitz counts as an essential characteristic of especially those on marginal rates, do indeed the rule of law. And without capitalism, we have produce revenues that in part at least offset found that efficient, durable economic growth the losses due to the lower rates. is somewhere between impossible (the former Section 3: Economic regulation beyond 2010 Section 3: Economic regulation beyond For our purposes here, we can conclude that if Soviet Union, much of Africa) and difficult to the rate of innovation is to be maximised, a obtain. As William Baumol, perhaps the closest combination of monetary and fiscal policies student of the process of innovation has put it: that produce steady non-inflationary growth 145 “The capitalist economy can usefully be viewed is essential. As one observer puts it, “Low as a machine whose primary product is inflation, government solvency, and slowly economic growth. Indeed, its effectiveness in adjusting exchange rates are necessary for this role is unparalleled.”12 economic growth to match growth potential.”10 So, too, is minimising regulation of labour In short, no rule of law, no capitalism; no and product markets. capitalism, no economic growth and no innovation.

8. Joseph A. Schumpeter, History of Economic Analysis, edited from manuscript by Elizabeth Boody Schumpeter. London: George Allen & Unwin, 1954, p.769 9. Robert L. Bartley, The Seven Fat Years and How to Do It Again. New York: The Free Press, 1992, reprinted in Neconservatism, Irwin Stelzer (ed.). London: Atlantic Books, 2005, p.183 (paperback edition) 10. William W. Lewis, The Power of Productivity: Wealth, Poverty, and the Threat to Global Stability. Chicago and London: The University of Chicago Press, 2004, p.230. 11. Joseph E. Stiglitz, Globalization and its Discontents. New York and London: W.W. Norton & Company, 2002, pp. 84 and 260-261 12. William J. Baumol, The Free-Market Innovation Machine: Analyzing the Growth Miracle of Capitalism. Princeton and Oxford: Princeton University Press, 2002, p.1 140-201 6/11/06 20:27 Page 146

This is perhaps clearest when it comes Mattioli Lecture Series, if one accepts this view to rights to intellectual property rapidly of one of the world’s great innovators, it becoming a principal source of the wealth of follows that “Perspiration will be more nations13. Intellectual property is the product forthcoming if it is well paid…. On this of the laboratories of giant corporations and view, innovative efforts, like many other the garages of college undergraduates. It is investments, are driven primarily by the return produced in the face of risks that the research they can generate, after adjusting for risk.”14 will produce nothing of commercial value, It should be noted that this view of the and that some other inventor/innovator will incentive to develop innovations is not be first to the finish line. unanimously held by economists and Where there is no firm rule of law, including policymakers. After all, man does not live by most notably effective laws covering copyright, bread alone, and there are substantial non- patents and trade secrets, add the risks that the monetary rewards accruing to an innovator. rewards to innovation will be diluted by Whether the rewards are pecuniary or psychic, pirating, illegal copying or government action the right to profit from one’s intellectual to appropriate the gains of entrepreneurs to property is an important driving force – but itself. For the level of reward for innovation is one that cannot be allowed to become a tool a direct function of the innovators’ ability to for stifling lawful competition, for example by deprive others of its use. To the extent that an tying a patented product to an unpatented innovator cannot appropriate the benefits of one, thereby reducing competition in the latter his work, either by producing and marketing it market. It is important to strike a balance himself or by charging licence fees to others, “allowing the inventors of new technologies his incentive to devote time, energy and to reap the benefits of their innovations, while money to the innovation process is encouraging the timely diffusion of new

Creating an environment for rapid innovation diminished. When free-riders can use the technologies and limiting the damage from results without sharing the costs and the risks monopoly power”.15 of research and development, investment in Competition policy 146 innovation will be at a sub-optimal level. Which naturally brings us to the third policy That, at least, is the story told by those who that must be got right if the pace of believe that Edison had it right when he said innovation is to be maximised: competition that innovation is “one percent inspiration, policy. In both developing16 and developed ninety-nine percent perspiration”. As Joseph economies such as the UK, the experience of Farrell and Carl Shapiro point out in their privatising monopolies without vigorous perceptive contribution to the Raffaele application of competition policy taught that

13. I borrow in the following passages from John H. Shenefield and Irwin M. Stelzer, The Antitrust Laws: A Primer. Washington, D.C.: The AEI Press, 2001 (fourth edition), chapter 10. 14. Joseph Farrell and Carl Shapiro, Intellectual Property, Competition, and Information Technology, in The Economics of Information Technology: An Introduction. Cambridge: Cambridge University Press, 2004, p.59 15. Roger W. Ferguson Jr. and William L. Wascher, Distinguished Lecture on Economics in Government: Lessons from Past Productivity Booms, The Journal of Economic Perspectives, Vol. 18 No.2, Spring 2004, p. 22 16. In connection with developing economies Stiglitz points out, “Privatization, unaccompanied by competition policies and oversight to ensure that monopoly powers are not abused, can lead to higher, not lower, prices for consumers.” Stiglitz, op.cit., p.84. 140-201 6/11/06 20:27 Page 147

detailed regulation is required to prevent constrain new entry and permit the “lethargic monopolistic extortion – and is likely to make or inefficient” to “shelter from a Darwinian a less-good fist of it than enforcement of struggle for survival…”20, suggesting an competition law. important role for an active competition policy.

A vigorous competition policy should Other economists point out that competition maximise the rate of innovation and the rate in product markets might deny innovators the of introduction of new technologies, in the ability to appropriate to themselves the fruits process denying what Hicks identified as the of their inventions, thereby discouraging greatest monopoly profit: a quiet life.17 To expenditure on research and development.21 In those who say that even monopolists have response, John Vickers, in a paper considering incentives to innovate so as to maximise the relation between competition and profits, the practical answer seems to be that productive efficiency, notes: “Competition they misunderstand the value of a quiet life. seems very well in practice, but it is not so Innovation is hard work,18 often resulting in clear how it works in theory.”22 failure that requires embarrassing explanation to colleagues, board members, shareholders A commonsense appraisal of real-life and others. Absent the threat to survival that experience – the comparison of productivity competition presents why not ensure a quiet growth in countries with and without life by deploying the weapons often available competitive market systems; Microsoft’s efforts to monopolists to make certain that chal- to use its dominance of the PC operating lengers have difficulty raising capital, or systems market to deny potential competitors getting distribution outlets, or obtaining access to related markets and to venture patent protection. Big, competitive firms capital; the rapid introduction of new electric might be necessary for some forms of generating technologies when competition was opened up in the electricity market; the

innovation, but monopolies are not. 2010 Section 3: Economic regulation beyond innovative services offered by the airline I recognise that the economic literature on this industry when competition replaced point is ambiguous. Mancur Olson argues that regulation; the flood of innovations when the supernormal profits created by innovation monopolies of BT in Britain and AT&T in 147 increase in the presence of “difficulties of entry America were successfully challenged – all and imitation”, increasing the rewards to “the suggest that competition means a fiercer gale innovations that mainly explain economic of creative destruction of old technologies than 19 growth and progress!” But even he worries does the cosier world of cartels and monopoly. that cartels, governments and lobbies can

17. J. R. Hicks, Value and Capital. Oxford: Clarendon Press, 1939. This section draws on a lecture I delivered at No. 11 Downing Street on 15 November 2000 under the auspices of The Smith Institute and reproduced in my Lectures on Regulatory and Competition Policy, pp.85-101, published in 2001 by The Institute of Economic Affairs. 18. Lewis, op.cit., pp.230-231 19. Mancur Olson, The Rise and Decline of Nations. New Haven and London: Yale University Press, 1982, p.61 20. Ibid., p.59 21. In this connection see Donald Hay and John Vickers (eds.), The Economics of Market Dominance. Oxford: Basil Blackwell, 1986, pp. 8-9 22. John Vickers, Concepts of Competition, Oxford Economic Papers 47 (1995), p.1 140-201 6/11/06 20:27 Page 148

This is especially important in this day of to unrelenting investment in innovation and the internet and related technologies. It is of that…provide incentives for the rapid course true that the claims for this technology dissemination and exchange of improved are somewhat overblown, and that electricity, technology throughout the economy.” 25 the telephone, the automobile and perhaps As with macroeconomic policy, so too with other inventions can claim to have had a competition policy: it is easier to call for greater impact. No matter: we are in the midst appropriate, innovation-oriented policy than of what Schumpeter referred to as a ‘cluster’. to devise one. This is especially true in an age Some 65 years ago he wrote: when it is tempting to believe, as many do, “Why should the carrying into effect of that competition policy developed in the days innovations...cluster at certain times...? One of smokestack industries is not applicable to answer suggests itself immediately: as soon our high-tech world. Even assuming that we as the various kinds of social resistance to can divide modern economies into high- and something that is fundamentally new and low-tech industries, (which, considering the untried have been overcome, it is much easier use of new materials and robots to produce not to do the same thing again...so that a cars in the supposedly ‘low-tech’ auto industry, first success will always produce a cluster... would be no easy chore), some competition This is indeed the method of competitive policy truths remain self-evident, or should: capitalism...”23 • price-fixing and cartel behaviour operate If we are indeed entering into, or are in the against consumers’ interests, tend to result early stages of, a ‘cluster’ of innovation, we in extortionate prices and stifled should be especially alert to efforts by those innovation, and warrant criminal penalties; threatened by change to deploy anticom- • a firm with substantial market power, even petitive weapons in order to thwart the Creating an environment for rapid innovation power fairly won in the marketplace, diffusion of new inventions and techniques. cannot be allowed to leverage that power Baumol put it in characteristically trenchant by tying other products to the one that it fashion: 148 dominates; “…What differentiates the prototype • a firm with substantial market power capitalist economy most sharply from all cannot be allowed to use that power to other systems is free-market pressures that bludgeon independent manufacturers not force firms into a continuing process of to deal with its competitors, or impose a innovation, because it becomes a matter of pricing system that accomplishes that same life and death for many of them.” 24 Baumol result; and goes on to attribute “the unprecedented and unparalleled growth performance of the • a firm with substantial market power over a capitalist economies…primarily to product, access to which is crucial for firms competitive pressures…that force firms… that compete with it in other product

23. Joseph A. Schumpeter, The Analysis of Economic Change, loc.cit. pp.141-142 24. Op. cit., p.viii 25. Ibid., p.3 140-201 6/11/06 20:27 Page 149

markets, cannot be allowed to deny access There are two sorts of regulation that can affect to its product. This latter point, I hasten to the rate of innovation. The first includes the host add, is more than a bit more controversial of rules designed to protect individuals from than the prior three. risks that bureaucrats and legislators see as threatening health and safety. Benjamin Franklin With those principles as bedrock, competition probably would have had difficulty getting a policy, intelligently applied, is sufficiently permit from the health and safety authorities to flexible to determine whether any market fly a kite tipped with a metal key into an dominance is likely to be merely transitory; to electrical storm, as he did in 1752 to prove that distinguish products competing in worldwide lightning “is really a stream of electrified air, markets from those facing competition from known today as plasma”. 27 And Bill Hewlett and less global sources; and to determine which Dave Packard would undoubtedly have been business practices increase or at least do not unable to have the Palo Alto garage in which diminish competition, and which unreason- they invented the audio oscillator, and which is ably reduce the force of the competitive gale now considered “the Birthplace of Silicon of creative destruction. Valley”,28 declared a safe work place. Regulation More recently, either out of a desire to protect Any discussion of the relation between micro domestic producers from competition or economic regulation and innovation must consumers from health-damaging foods, start from the premise that no matter how Europe’s regulators have fought to prevent clear the governing statutes, no matter how the introduction of genetically modified intelligent the administrators of those statutes, foods. Meanwhile, American regulators have regulation is an inadequate substitute for prevented patients with terminal illnesses competition in stimulating innovation. Alfred from having access to innovative treatment

Kahn, the dean of America’s regulators (and methods, on the theory that it is more 2010 Section 3: Economic regulation beyond deregulators: he was instrumental in the important for the regulator to avoid any deregulation of the airline industry) points blame in the event of some mishap than it out in his classic study of regulation: is for dying patients to avoid pain. 149 “Competition is far more powerful than The second set of regulations that can have an regulation in forcing businesses to explore extraordinary impact on the pace of innovation the slope of their cost functions and elasticity are those emanating from the various sectoral of their demands, and to push down costs, agencies charged with overseeing industries if they are to prosper. In those situations such as financial services, energy supply and in which competition is feasible, regulatory telecommunications. They include direct price commissions clearly should welcome and profit controls; rules on the terms of it rather than rush to restrict it.” 26 access to monopoly facilities (transmission

26. Alfred E. Kahn, The Economics of Regulation: Principles and Institutions. New York: John Wiley & Sons, Inc., 1971, Vol.2, p.112 27. Electrified Ben, The Franklin Institute Online, www.fi.edu/franklin/scientist/electric.html 28. www.hp.com/go/garage 140-201 6/11/06 20:27 Page 150

facilities in the electric industry, the networks Support for the view that industry-by-industry and ‘last-mile’ in telecoms); regulations studies can be more informative than concerning access to content (sports rights, generalisations about regulation can be found movie rights) and the nature of content in R.H. Coase’s discussion of how various (suitability for children, product placement,29 activities should best be organised and consistency with societal norms 30); control financed. In his classic essay The Lighthouse of, or acquiescence in, the deployment of in Economics,32 Coase instructs that: monopoly power and privilege in related “Generalisations are not likely to be helpful markets (BBC cross-promotion): and a host unless they are derived from studies of how… of other terms on which business is done in activities are actually carried out within regulated industries. different institutional frameworks”. Only after The role of regulators in stimulating or stifling having done such studies, can we arrive at 33 innovation in each of the regulated industries “generalisations that have a solid base”. would be worth separate chapters – the history Aware of McCraw’s warning, and with Coase’s of America’s transport regulators in discour- apparent blessing for “generalisations that aging innovation would make a cautionary have a solid base”, we examine below some tale worth reading by today’s regulators. One of the sector-specific regulatory regimes that scholar of the history of regulation argues, in affect the rate of innovations, and then effect, that such separate, sectoral consideration venture a few tentative general conclusions is essential since general treatises on regulation about Regulation (capital R), at least as it are not particularly useful. In view of “the relates to innovation. diverse and sometimes contradictory functions” of regulatory agencies, “all overarching theories Financial services and heroic generalisations about ‘Regulation’ The importance of the decisions of regulators

Creating an environment for rapid innovation (with a capital R) run an extremely high risk of financial services extends far beyond the of being in error. No single theory from any industries over which they have direct control. academic discipline can predict precisely which As two officials of the US Federal Reserve 150 industries will be regulated and which will not System have pointed out, “A…major ingredient … Like the application of regulation to in promoting the productivity gains associated industries, the behaviour of regulatory with technological innovation has been a commissions, once they have been created, complementary set of innovations in the 31 shows no clear single pattern.” financial sector that have changed the

29. Including or referring to a product or service in a programme in return for payment is banned by the European Commission’s Television Without Frontiers Directive, a rule that not incidentally reduces the revenue of commercial broadcasters competing with tax-funded public service broadcasters. 30. “If you think pornography and/or obscenity is a serious problem, you have to be for censorship…. If you care for the quality of life …, then you have to be for censorship.” Irving Kristol, Pornography, Obscenity, and the Case for Censorship, The New York Times Magazine, March 28, 1971, reprinted in Stelzer, op.cit., p.177. 31. Thomas K. McGraw, Prophets of Regulation. Cambridge, Massachusetts and London: The Belknap Press of Harvard University Press, 1984, p.301 32. In The Firm the Market and the Law. Chicago and London: The University of Chicago Press, 1988, pp.187-213 33. Ibid., p.211 140-201 6/11/06 20:27 Page 151

financial landscape in ways that were the public at the mercy of the unscrupulous or, especially appropriate to the predominant alternatively, one that is so costly that it drives form of business organisation in each up the cost of operation and hence the cost of period.”34 Thus the development after the US capital unnecessarily. Civil War of deep markets for debt and The most difficult question currently facing preferred stock, and after World War I of regulators is how to deal with hedge funds, markets for equities; the creation by Michael and the relation of those funds to the nations’ Milken of the market for lower-rated corporate banks. An attempt by the US Securities and debt (‘junk bonds’ to the WASP-establishment Exchange Commission to require hedge funds firms that found them a threatening source of to register was overturned in the courts. finance for often-Jewish ‘predators’); and the Whether that effort represents regulatory over- more recent emergence of methods for quanti- reach by nervous bureaucrats: or a response fying and managing risk – all represented to pressure from interested parties that find innovations of importance extending far the innovative activities of hedge funds beyond the financial services industry. In each threatening to their established way of doing case, financial services regulators had to decide business: or indeed prudential intervention whether to facilitate or impede these changes, that might reduce the risk of a systemic threat each affecting the cost at which American to the banking system – it remains an open industries can raise the investment capital question.35 As does the economic question needed to permit firms to fund growth and of the level of leveraging that can safely be investment in new technologies. tolerated in pursuit of financial innovation. These regulators also have an obligation to Financial regulation in America and Britain, offset the information asymmetry that at times whatever its defects, can claim two major gives innovators and marketers of financial accomplishments. First, despite a few failures in

products an undue advantage over buyers. The 2010 Section 3: Economic regulation beyond which scandals have shaken the faith of investors restless minds of investment bankers and share- in the ability of regulators to prevent fraud and and insurance-floggers are continuously creating other abuses (US), and the mis-selling of finan- new and complicated financial products, many cial instruments to buyers on the short end of 151 designed to allocate risk to those best able to the information asymmetry phenomenon (UK), bear it. This challenges regulators to decide regulators in the countries that are home to the whether these products, with their potential to world’s two most important financial markets enhance efficiency, are fairly described to have maintained investors’ faith in the integrity investors of varying degrees of sophistication of those markets. We can be reasonably certain and risk-tolerance. In that role, they can allow or that a cost:benefit analysis (if such a quantifi- prevent the sale of innovative products that offer cation of the intangibles present is indeed attractive risk-adjusted returns; they can possible) would show that the costs have been encourage or bar the emergence of firms far exceeded by the benefits. Whether those costs offering new products (think hedge funds); they have been at the minimum level attainable we can decide on a degree of supervision that leaves probably will never know.

34. Ferguson and Wascher, loc.cit., p.14 35. See report in Financial Times, August 9, 2006 140-201 6/11/06 20:27 Page 152

The second accomplishment in which financial takers who were hunting for extraordinary regulators can take some pride is that they have profits, while the public has benefited from not stifled innovation in the development of the onward march of new instruments that markets for financial instruments, or in the are improving risk management. invention of new instruments, including new Energy mortgage instruments; nor in the deployment of the technologies necessary to permit the Regulators of industries in the energy sector efficient, massive, worldwide trading of can adopt rules that pass on the gains of securities and currencies; nor in the methods innovation to consumers so quickly that of managing risk that have reduced the risk of companies have no incentive to explore new systemic failure of the financial system. Again, ways of producing and delivering energy, or we are not faced with an uninterrupted set of allow firms with monopoly power to benefit regulatory achievements, witness how close the excessively from cost savings generated by US came to systemic failure when Long Term investing customers’ money. Whatever one Capital Management (LTCM) collapsed. thinks of the economic viability of nuclear Whether banking regulators are to be faulted power, there is no question that regulators’ for failing to foresee and prevent LTCM’s treatment of investment in US nuclear plants debacle36, and the systemic collapse that it that eventually proved uneconomic con- almost produced, or praised for engineering tributed to the long period in which investors the takeover of the LTCM portfolio and the refused to make capital available for the interest rate cuts that, to cite a former Fed construction of new plants. Nor is there any Governor, prevented “a wave of destruction question that regulators’ treatment of [that] would burst through America’s biggest investment in equipment designed to ease the financial institutions, posing a serious threat to environmental impact of power production the sustainability of the [economic] importantly, and probably adversely, affected

Creating an environment for rapid innovation expansion”37 – is still debated. the pace of innovation in such equipment. Finally, there can be little question that the The lesson for students of regulation is this: deregulation of the electric and, probably, the restraint in stifling the introduction of new 152 natural gas industries, was not handled as well technologies – in this case, new forms of as they might have been. trading and risk management – is not without risk. Regulators must often balance the goal of To review all of the arguments on both sides allowing innovation against the goal of of these questions would consume – indeed, protecting the public from change that is not in has already consumed – volumes. Suffice it to the public interest. Economists generally hope say in this brief chapter that the electric power regulators will err in the direction of allowing industry in Britain finds itself the beneficiary innovation. In the case of LTCM, the regulators’ of the introduction of competitive markets, gamble seems to have paid off: the costs of but with insufficient capacity to prevent failure were confined to the private-sector risk- serious price spikes; that in both the US and

36. “With regard to derivatives, the policy-making arm of the Fed took a laissez-faire approach – starting with Greenspan, who was enamoured with the seamless artistry of the new financial tools.” Roger Lowenstein, When Genius Failed: The Rise and Fall of Long- Term Capital Management. New York: Random House, 2000, p.105 37. Laurence H. Meyer, A Term at the Fed: An Insider’s View. New York:HarperBusiness, 2004, p.115 140-201 6/11/06 20:27 Page 153

the UK, consumers are faced with choices Start with the political pressures. Legislators are between energy sources, and between sensitive to demands of entrenched interests consuming and conserving energy that are not seeking to bar entry by innovating challengers, guided by prices that reflect the true economic and to constituents who often have conflicting costs of consuming fuels of various sorts; and demands: they want freedom of expression, that regulators have yet to figure out how to but also protection of children from regulate transmission pricing so as to produce unwholesome programming; preservation of construction of an optimal amount of capacity the key role of state-funded public broadcasting, that is available on efficient terms to but a desire for multiple channels and varied independent generators. programming; access to sports programmes on a no-fee basis, but some method of funding This is, at best, a mixed record, and perhaps improved quantity and quality of sports events; a summation made excessively harsh by the unbiased news reporting, but no government author’s too-close involvement in the energy regulation to enforce such ‘objectivity’. regulatory process over many years.38 After all, regulators can reasonably claim credit for the Similarly, lawmakers want more competition, facts that: in most, although not all, instances but they also want small and rural customers the lights have stayed on, thanks in part to subsidised; they want to grant monopoly their vigilance in discharging the difficult franchises to US cable companies so that chore of supervising monopolists not they can wring various concessions from the uniformly renowned for their efficiency and beneficiaries of these grants,39 but they don’t ability to adapt to change; innovations in the want to confront complaints from customers generation of electricity have had a nontrivial about the monopoly charges and slothful effect on efficiency; and important sectors of service that inevitably accompany monopoly the energy industry have been deregulated. power; in Britain and in the EU, legislators don’t want to offend powerful constituents such Section 3: Economic regulation beyond 2010 Section 3: Economic regulation beyond Telecommunications/media as BT, or the BBC and other state broadcasters, In the telecommunications and media but they want users of telephone, broadband industries, converging at a rapid rate, and television services to have options if they 153 regulators have perhaps their most difficult are unhappy with those providers. role in devising strategies that optimise the The result is that legislators often seek to avoid rate of innovation. They have to cope with voters’ wrath by enacting vague laws that give political pressures not present in other regulators huge flexibility in – and industries, except perhaps during crises such responsibility for – determining how the as energy-price spikes, and with a set of telecommunications industries will develop. economic factors, including a rapid rate of The decisions that regulators make while technological change, that make regulation moving within the very broad parameters set extraordinarily complicated. by their legislator-masters importantly

38. During the course of that involvement the author counted as clients many electric and gas utility companies, and at this writing consults with a developer of wind farms. 39. In most cities cable companies pay franchise fees and allocate channels for ‘public access programming’. The latter are used by politicians to televise council hearings and other programmes in which they feature. Incumbent cable companies generally insist that potential entrants, such as telecoms companies seeking to offer broadband services, bear the same burdens as they have been forced to carry. 140-201 6/11/06 20:27 Page 154

determine the rate of technological progress charges lose business and the regulated price in these industries. structure threatened with undermining… This impact of new technology, and the dilemmas Not that legislators simply pass laws it creates for protectionist regulatory commis- regulating the media, and then move on to sions, are nowhere more clearly illustrated other matters. Because the media importantly than in the field of communications.”41 influence the political agenda and a nation’s ‘culture’ politicians do not hesitate to pressure Consider the complications America’s regulators regulators to adopt rules favouring their own face in separating the innovators from the positions and those of their constituents. In change-blockers. AT&T is developing video America, Michael Powell, former chairman of delivery systems that threaten the hold that the Federal Communications Commission, cable and satellite providers have on the market, was in effect ridden out of office by a congress but is also alleged to be fighting a rearguard that felt his attempts to reform the regulatory action to stem the advance of internet-based process were a bridge too far in the direction telephone services (voice over internet protocol, of a free market. In Britain, members of or VoIP) that have the potential of driving parliament and ministers often march to the the price of calling to somewhere between BBC’s drum, protecting its inflation-busting negligible and nil. Consider, too, the difficult mandatory licence fee from close scrutiny and choice the regulators face when deciding challenge by regulators, many of whom were whether the cable-telco duopoly is so powerful drawn from the ranks of BBC staff. In the EU, that its broadband activities must be regulated, eager regulators attempt to protect state or whether new investments in wireless broadcasters from private-sector competition technologies represent a sufficient challenge to by intervening in the process by which warrant allowing market forces to operate, broadcast rights are acquired, and by limiting unimpeded. Finally, consider the difficulty the advertising revenue of those broadcasters.40 Creating an environment for rapid innovation Ofcom has in deciding whether the move by the BBC into new services that compete with So much for the politics of telecoms and commercial broadcasters represents a passing on media regulation. Now to the economics. It is to consumers of economies of scale and scope, 154 fair to say that we have come a long way since or a warning to private entrepreneurs that a regulators regarded themselves as protectors of state-funded entity with no need to earn a the financial integrity of the companies they return on capital stands ready to drive any regulate. It is no easy thing for a regulator to interlopers from the field, as it attempted to do welcome to the field of battle for consumer in the field of 24-hour news. Remember: when favour an entrant that might threaten the it comes to technological competition, “no firm financial strength of the companies he is can be certain of being the winner – no matter charged with supervising. As Kahn notes: how much effort it puts in – unless it can make it “Technological progress…confronts regulatory unprofitable for rivals to enter the race”.42 commissions with the dilemma of seeing their

40. The reader is reminded that the author has in the past been a consultant to BSkyB and is currently a consultant to News International and to News Corp. 41. Kahn, Ibid., pp.29-30 42. Partha Dasgupta, The Theory of Technological Competition, in New Developments in the Analysis of Market Structure, Joseph E. Stiglitz and G. Frank Mathewson (eds.). Cambridge: The MIT Press, 1986, p.541. Emphasis added. 140-201 6/11/06 20:27 Page 155

If regulators are not to get in the way of between competing newspapers; now, innovation in the rapidly changing world of electronic media are equal contenders for telecommunications and media, they must keep many forms of advertising, most notably the that change in perspective. First, the emergence classified ads that historically have been the of ‘new media’ does not mean that the ‘old major source of profits for newspapers. Any media’ are disappearing, nor the regulatory newspaper’s share of classified advertising must issues associated with them. The history of the now be considered not only by comparing it industry is that television has not destroyed the with other newspapers in the relevant film or radio industries, cable and satellite have geographic area, but with the share garnered by not destroyed free-to-air broadcasting, and the competing electronic media as well. rise of the internet has increased, rather than Most important, regulators must recognise that eliminated, the demand for ‘content’ – news “Technology changes. Economic laws do not… and entertainment. So although regulation A few basic economic concepts go a long way should not be used to stifle the emergence of toward explaining how today’s industries are new media, neither can it be biased in their evolving.”43 For example, in the early days of favour, as may well be the case with state- and telephony the Bell System was able to stifle the regulator-promoted digital television. rise of local competitors by denying them Second, regulators must recognise that the interconnection privileges, or access; years later, survival of old media does not mean that the Microsoft was able to do the same to Netscape, world is unchanged. Competition between and BT to emerging competitors. The new and old is intense, and takes the form not technologies changed, but facilitating access to only of price competition, but of the more those parts of a network that the incumbent’s important competition to innovate; to develop potential competitors “cannot viably new delivery systems, to lower costs of provid- replicate”44 remains one of the key problems

ing service, to find new ways of promoting regulators face in trying to ease the path of 2010 Section 3: Economic regulation beyond services, many of which consumers have never enterprising innovators. It remains to be seen experienced. This has profound implications whether Ofcom’s solution – requiring BT to set for how regulators, who prefer narrow market up an “operationally separate business unit” 155 definitions that unreasonably magnify the under the supervision of an Equality of Access market shares of such firms as BSkyB, must Board, chaired by a BT non-executive director45 define markets when determining the presence – solves the problem all regulators face when or absence of ‘dominance’, and rule on the dealing with a vertically integrated company propriety of widely varying competitive tactics. with substantial market power in one horizontal segment of the industry. For example, it was not so long ago that competition for advertising was a battle

43. Carl Shapiro and Hal R. Varian, Information Rules: A Strategic Guide to the Network Economy. Boston: Harvard Business School Press, 1999, pp.1-2 44. Office of Communications, Annual Report 2005/6, p.18. The definition of which parts can and cannot be viably replicated will, of course, provide work for regulators and interested parties. 45. Ibid., pp. 19-20. The requirements under which this unit, dubbed ‘Openreach’, will operate include separate bonus schemes and uniforms, and “Chinese Walls” between Openreach and BT Group plc. 140-201 6/11/06 20:27 Page 156

In performing their pro-innovation function, Second, the rule of law must prevail, with regulators should keep in mind that sauce-for- intellectual property protected, but with rules the-monopoly-goose is not necessarily sauce- firmly in place to prevent its use to stifle for-the-new-entrant-gander. Monopolist- competition. incumbents should not automatically be Third, especially in periods of rapid allowed to employ competitive tactics that are technological change, and in industries in perfectly appropriate for newcomers to use in which such change is accelerating, less is order to blast their way into a highly more. A presumption in favour of allowing concentrated market.46 market forces to operate to choose the Most of all, those burdened with regulating the technology that best satisfies consumer needs, telecoms/media/internet/broadband world at prices consumers find attractive, should “should eschew prescriptive regulation because guide policymakers and regulators. …the prospect of open, competitive markets is strong enough to justify a policy of non- Technology can change more quickly than interference”,47 or at least to create such a laws or rules can be amended; incumbents presumption, subject of course to vigorous and know how to use the regulatory process to appropriate enforcement of competition disadvantage challengers, who rarely have policy. When such enforcement alone does not either the nous or the funds to win the satisfy the requirements of the legislature, and regulatory wars; regulators, often recruited regulatory action is required to supplement from the companies they will be regulating, competition policy, “agile administrative have a tendency to come to their task with adjudication”48 should be the watchword so as the worldview of the incumbents and to to keep regulatory costs, a particular burden on prefer modest changes in regulation to the new entrants, to a minimum. structural dissolution needed to end abuses by integrated companies such as investment Creating an environment for rapid innovation Conclusion banks/brokerages, and firms controlling The forces affecting the pace of innovation are network access. too varied, and quantitative measurement of That said, regulators cannot avoid the role 156 those forces too inexact, and the task of thrust upon them by legislators with often separating cause from effect too difficult, to contradictory and vaguely-defined roles, and permit firm conclusions concerning policies by the inability of competition laws to cope that encourage and, alternatively, inhibit with the entry barriers that incumbents are innovation. But a few observations are possible. often skilled in erecting. In performing such First, the macroeconomic environment – functions, regulators must be aware of the fact monetary, fiscal (including tax), and that new entrants do not have sunk investments regulatory policy – must be conducive to protect – indeed they are, by their very to investment and risk-taking. nature, destroyers of the sunk investments of

46. Ibid., pp. 302-304. Se also Joel B. Dirlam and Alfred E. Kahn, Fair Competition: The Law and Economics of Antitrust Policy. Ithaca, New York: Cornell University Press, 1954 47. Jonathan Sallet, Principles for Governmental Action in a Broadband World, working paper No. 273, published in Washington, D.C. by the Economic Policy Institute, November 2005, p.31 48. Loc.cit.,p.32 140-201 6/11/06 20:27 Page 157

incumbent service providers. They should “to extend the scope of statutory regulation therefore be permitted to deploy a range of to include non-broadcast audio-visual business tactics that are properly denied to content on the internet”, a move so far incumbents, who have a stake in denying opposed by Ofcom.49 This self-denying consumers access to new technologies. position fits well with its decision to allow markets rather than men to set calling rates Finally, regulators should be aware of the now that competition is sufficiently effective. tendency towards mission-creep. Regulation Other regulators might take these moves by often begets regulation, as is evidenced by Ofcom as a model when opportunities to the desire of the European Commission to expand their reach present themselves. revise its Television Without Frontiers Directive Section 3: Economic regulation beyond 2010 Section 3: Economic regulation beyond

157

49. Loc.cit., p.57 140-201 6/11/06 20:27 Page 158

The challenges of a digital world and the need for a new regulatory paradigm Leonard Waverman 12 London Business School

Introduction That world is one of multiple high-speed links to most locations. The growth and change in the telecommuni- cations sector since the waves of privatisations This new multi-path IP world – what I call that started in the 70s is well documented.3 ‘MIP’ – has its own set of challenges for Most developed economies have now regulators and competition policy authorities. successfully managed the transition from a Attempting to apply the same old regulatory monopoly provision model to a competitive principles, designed for the PSTN world, to market environment, with a multiplicity of these new emerging challenges often has players in various layers of the value chain. opposite effects to the ones intended. These developments have been achieved There are major consequences for society through a number of key regulatory of getting regulation wrong as we move from The challenges of a digital world and the need for a new regulatory paradigm The challenges of a digital world instruments focused on allowing market access issues on 100 year-old copper wire entry and curbing the dominant position legacy networks to fostering investment in of incumbent operators. Next Generation MIP Networks. The 158 The stated public policy objective was productivity boom in the USA since 1996 to develop competition in the telecommuni- has been attributed to investment in ITC cations sector while maintaining universal (Information Technology and service provisions to protect vulnerable Communications hardware and software). customers. However, the regulatory paradigm Europe and the UK lag behind the USA in and tools that have been instrumental in productivity and, indeed, that gap has been achieving public policy objectives such as this widening in latter years.4

are becoming increasingly inadequate in the The USA has recently moved to end access new, all-IP multi-access world we are entering. regulation and to emphasise facility-based

1. I also authored a paper on a similar topic for France Telecom. There is some overlap. My views expressed in both papers are my own and not necessarily those of France Telecom or Ofcom. These views are independent of the views of both France Telecom and Ofcom. 2. With the assistance of Benoit Reillier and Kalyan Dasgupta 3. Eli Noam, Interconnecting the Network of Networks, MIT Press, Cambridge MA, 2001 4. Bart Van Ark, Robert Inklar and Robert McGuckin (2002): Changing Gear: Productivity, ICT and Services: Europe and the United States, GGDC Working Papers GD-60 140-201 6/11/06 20:27 Page 159

competition rather than ‘me-too’ service • retail regulation of prices and offers by competition.5 Hence, relying in the UK and so-called dominant incumbent owners Europe on any existing telecom regulation of legacy copper networks. The rapid which is ‘unfit for purpose’ not only retards introduction of ‘triple’ and ‘quadruple’ telecom facilities and service growth but has plays by converged operators is quickly significant negative spill-overs to the economy redefining reference offers in the sector, – holding back growth and limiting and the traditional retail regulation relying productivity gains. on past definitions of markets and market power need to be revisited in this light; Today’s regulatory instruments, which need to be reviewed, are: • the concept of regulatory ‘certainty’ in an uncertain dynamic investment world needs • the traditional view that ‘access’ is a copper to be redefined. Investors in new wire essential facility that needs to be infrastructures – the so-called ‘21st Century regulated. This view may well be outdated Networks’ (21CN) – seek regulatory certainty for the reasons outlined below; before committing to large investments that • the economic tests used to identify, and could be undermined by the application of prevent, potential abuses of dominance. old regulatory paradigms. Firms viewed as These may no longer apply to some of these incumbents seek commitments from increasingly complex, dynamic test and regulators that they will not be required to sometimes ‘multi-sided’ markets. As former unbundle these new networks or be forced facilities-based monopolies come into to provide wholesale services for each new competition with each other, it erodes the retail service offered. Such certainty is, ‘market power’ in any one supply channel. however, not easy to provide and regulators Customers of all telecom services are are struggling with these demands for increasingly able to find alternative paths.

regulatory forbearance and regulatory 2010 Section 3: Economic regulation beyond Once, a copper wire pair to the home was in holidays; some sense an ‘essential facility’ as it could not be easily replicated by entrants. Today, • new issues on the agenda. As we turn our most businesses and homes have alternative attention away from ensuring access to 159 paths – cable, cellular phones, fixed wireless incumbent legacy infrastructure and focus and, potentially, satellite and power line; instead on the conditions of competition in MIP markets, we need to address new • the presumption of ‘market power’. In the issues: for example, the costs and benefits old paradigm, the infrastructure supplier of policies such as non-discriminatory had market power as they faced small treatment by infrastructure providers to buyers who had no offsetting buyer power. content and service providers.6 The ‘net The growth of ISPs and other buyers and neutrality’ debate in the USA is a taste of users of telecom services also mitigates the future, which will likely be one of against this traditional view of inherited mediating the change from today’s one- market power;

5. D.C. Circuit Court, 2 March 2002 in United States Telecom Association v FCC. US Supreme Court decided not to review this decision on 15 June 2004 6. See Christopher Yoo, (June 2006), Network Neutrality and the Economics of Congestion, 94 Georgetown Law Journal 140-201 6/11/06 20:27 Page 160

size-fits-all definition of service to one broadband or exclusive Premier League where many grades of service exist; Sports? Discriminatory yes, but is it anti- competitive? Surely not. We must therefore • regulation protects consumers. We are in be vigilant against the calls for regulatory danger of continuing to rely on an enforced non-discrimination, such as the institutional invention – independent advocacy for ‘net neutrality’. Instead, we must regulation – that fitted the world of legacy recognise that most so-called discrimination copper and cable infrastructures that each is actually differentiation and innovation. provided single services. The new MIP Mandatory imposed non-discrimination world has multiple technologies, all will likely reduce such differentiation and providing similar services. In this world, innovation and thus lower overall welfare. one needs to rely on an effective instrument Instead of ex ante regulatory-imposed ‘non- that all other dynamic markets rely on: discrimination’, we should rely on compe- competition policy. tition law to arbitrate on a case-by-case basis My central thesis is that we need to examine between discriminatory acts which are anti- all bases of existing regulation including its competitive and those which are not. most central tenet – non-discrimination. We From monopoly to competition: have come from a world of ensuring that regulating telecom former telecom monopolies could not discriminate – originally at the retail level Regulation was designed for an era where a among customers and, more recently, at the single firm dominated an infrastructure that wholesale level among those who use its provided separate services from another firm’s facilities. infrastructure. Thus telephony was essentially circuit-switched, person-to-person voice calls, This principle of non-discrimination was provided over a unique copper wire pair The challenges of a digital world and the need for a new regulatory paradigm The challenges of a digital world essential and central. But it emanated from a infrastructure. In the past, cable provided particular world which called for the opening- broadcasting over its own separate up of competition in voice services on the infrastructure. Mobile phones provided 160 legacy infrastructure of a single firm. In those mobility for voice calls, again over a largely circumstances, reinforcing ex ante non- distinct infrastructure. discrimination by regulatory fiat was beneficial to society. But the new world of MIPs is totally So in the minds of regulators, regulating the different: no longer do we have a particular PSTN network was equivalent to regulating service (voice, television) tied to a unique voice services since this was the purpose for infrastructure (copper, cable/satellite). Hence which the network had been designed. The in the new MIP world, we are no longer second path to many homes – cable – was a concerned with a particular service/infra one-way transmission of centrally-provided structure pair. There are multiple infrastructures television signals. Telephony and broadcasting – and hundreds and thousands of services. were thus totally separate offerings on both the demand and supply side. The key element So what is ‘discrimination’? Is it discrimi- of the past was thus a one-to-one correspondence natory for BT, for example, to offer Yahoo between infrastructure and services. All this is 140-201 6/11/06 20:27 Page 161

changing but the shift from a network-centric contact lists, e-mail capability and pre-paid model to a market centric one is still very service are innovations of mobile operators, much underway.7 yet could have been done far earlier by fixed- line carriers. This separation of infrastructure/service pairs resulted in market power over customers The introduction of competition in telephony wanting these services. And, as a result, regula- required a suite of new wholesale services and tion of retail rates was deemed necessary for mandated interconnection. A central debate telecom, but oddly – in most countries – not was over the type of competition – facility- for cable. based or retail service competition over the incumbent telco’s own infrastructure. Carrier Customers of the fixed-voice telephony service pre-selection services opened the door to a were buying directly at a retail level from the form of competition for long distance and integrated network provider that had rolled international telephone calls. Oftel in the out the infrastructure. This was the model in UK originally raised concerns about the invest- most countries and resulted in strong retail ment incentives of such types of regulation price regulation – originally rate-of-return but the EU decided that it would provide regulation and more recently (since 1984) more choice of providers in the short-term, price cap regulation (RPI-x%)8 often with the and won the argument. By the end of the 90s, use of a number of different baskets. carrier pre-selection was the main form of The aim of such regulation, from time to time competition in Europe. However, the intro- combined with rate-of-return targets, was to duction of these ‘indirect-access’ services prevent incumbent operators from increasing required a new regulatory focus on wholesale prices in the light of a lack of competitive prices charged for facilities used by these new constraints. However, rate regulation became long distance operators.

mired in a quasi-political morass of cross- 2010 Section 3: Economic regulation beyond It proved very difficult for new entrants offering subsidies and universal service concerns which voice calls or simple data connections to resulted in many rates, especially those for replicate local loop infrastructures in many access, being below costs. markets, partly because this segment of the 161 However, these blunt regulatory instruments, network exhibited many of the characteristics of while potentially useful, were only poor natural monopolies and partly because the retail proxies for competition and did not provide prices for access were regulated to be below-cost. the right incentives for rapid innovation. Even countries where very significant invest- Despite the torrid pace of innovation in ments in alternative infrastructure (cable) were electronics and PCs, the paradigm of the made – such as the UK – ended up with a integrated, slow-to-innovate phone company largely fragmented industry focused on remained intact for many years. Today, the broadcasting that also needed to consolidate fixed-line phone is still remarkably to be able to benefit from the economies of unintelligent. Advances such as integrated

7. From Open Networks to Open Markets: How Public Policy Affects Infrastructure Investment Decisions, Martin Taschdjian, November 2000, Centre for Information Policy Research, Harvard University 8. RPI is the economy-wide retail price index and x, the ‘productivity’ offset. 140-201 6/11/06 20:27 Page 162

scale required. The alternative infrastructure, computer assembly and delivery, Zara in which regulators hoped would provide clothing production and retail, Walmart in competition with the telcos, concentrated on retail and others were using ICT to broadcasting partly because of the regulatory- revolutionise their industries in a way called induced subsidy to telephony access. This can by Eric Brynjolfson ‘the Digital Organization’.11 be seen best in Canada where a strong and But telecom regulators did not move in nearly ubiquitous cable network did not offer tandem; they did little to ensure that telecom any telephony (i.e. voice services) until the IP networks would utilise the latest advances in revolution which allowed them to offer VoIP computers and to ensure the necessary over cable broadband.9 investment in telecom networks – the crucial The regulatory model in the 90s was still very infrastructure on which computer-enabled much concerned with managing the transition production moves. In the US in 1996, a year from a legacy network-centric, largely after the beginning of this new economy, incumbent-controlled environment to a more politicians designed an incredibly complex competitive, multi-operator market. The pace compromise between the might of AT&T of regulation was slow and steady; change was and the might of the RBOCs. incremental, and the regulatory paradigm The Telecommunications Act of 1996 ushered remained intact. Regulatory concerns, as in a decade of litigation and increasingly noted, shifted, albeit slowly, from retail constraining regulation of the telecom access regulation to wholesale regulation. Regulators providers, in order to ensure me-too service appeared to have the largesse of time – after competition. But politicians and regulators all, the telecoms sector was about voice calls lost sight of the crucial importance of telecom and leased line services which themselves also investment and pricing. Thus, the central changed slowly. importance of ICT to US economic growth The challenges of a digital world and the need for a new regulatory paradigm The challenges of a digital world However, the semiconductor and other and productivity may, suggest Jorgenson and revolutions began to permeate American Stiroh, even have diminished by 2001. With industry. The ICT paradigm shift was beginning. the 2005 ruling ending the UNE Platform in 162 In 1995, the then Chairman of the US Federal the US,12 Crandall (and others) see resurgence Reserve Bank coined the phrase ‘the new in US telecom investment. economy’, referring to the leap in economic In Europe, with the exception of the UK and a growth and productivity enabled by ICT. few other countries, competition in telecom Academics began to see sharp shifts in US services did not begin until eight years ago, in productivity performance and attributed this 1998. The EU has moved quickly to ensure rise to the use of ICT.10 Firms such as Dell in

9. Very small cable systems also exist for example in Kingston-upon-Hull and the Isle of White. The dozens of UK licensed cable operators that were operating in the early 90s have all merged and ntl, the new refinanced cable entity, is now the only significant cable player in the UK. 10. Dale W. Jorgenson and K.J. Stiroh (1999), Information Technology and Growth, American Economic Review, Papers and Proceedings, Volume 89, Number 2 11. Eric Brynjolfson (2003), The IT Productivity Gap, Optimize, July, Issue 21 12. D.C. Circuit Court, 2 March 2002 in United States Telecom Association v FCC. US Supreme Court decided not to review this decision on 15 June 2004 140-201 6/11/06 20:27 Page 163

similar policies across Europe, beginning with using IM to grow its ISP business through interconnection and basic Framework network effects and scale economies. directives to open up former monopolies. The Microsoft always trailed as an ISP – and 2001 Framework (actually introduced in July attempted both to interconnect with AOL’s IM 2003, and which began to be drafted in the network as well as to use antitrust policy to 1990s) mimics much of the US experience, force interconnection. albeit without the US’s political and adversarial Today IM is a service offered by many firms overtones. Hence, today the state of EU (and including a highly innovative US wireless UK) regulatory policy needs reconsideration. provider Nextel, the latest entrant into the US There are four key principles of current cellular market and which used IM as its regulation that I address: strategic differentiator. • interconnection; What if Microsoft had been able to use • retail price constraints; competition policy or regulation to access AOL’s IM service? AOL’s IM would have become • wholesale mandated offers based on a the incumbent offering and with mandated notion of the ‘Ladder of Investment’; and interconnection, its competitive advantage • equivalence. would have been eroded. Nextel may, as a result of regulation, not have considered IM to 1. Interconnection be a core strategic advantage, assuming that, Interconnection in general is of more value given what had occurred to AOL, its own IM to smaller networks than larger ones. Indeed, service could be viewed as exclusionary. large networks can limit entry and growth of This is not to say that the interconnection rivals by foreclosing interconnection13, which policies of the 1980s and 1990s in telephony is why interconnection was a vital regulatory were wrong – they weren’t. But today, we must 2010 Section 3: Economic regulation beyond tool in the 1990s. be careful in taking legacy regulatory However, mandating interconnection in instruments into a competitive world without competitive markets is not necessarily a legacy networks. We must evaluate the costs 163 socially-beneficial policy. If the larger firm has and benefits of mandating interconnection, as innovated and invested, its size reflects these well as the costs and benefits of the alternative 14 investments. Mandating interconnection ex post competition policy. then can allow free-riding, deterring those 2. Retail price regulation innovation and investment incentives in the first place. Take Instant Messaging (IM) as an Most regulatory agencies are abandoning retail example: AOL and Microsoft were the first price controls in telephony. This is a good thing, ISPs to offer IM, AOL purchasing Mirabalis but should have occurred earlier. Some ICQ and Microsoft purchasing Hotmail in regulators are still, however, fighting old battles. 1998. AOL was the predominant IM provider, For example, in 2003 the CRTC attempted to

13. Mark Armstrong, Chris Doyle and John Vickers 1196, The Access Pricing Problem: A Synthesis, Journal of Industrial Economics, Volume 44 14. Here I part company with Shelanski, 2006, most which I agree with. He considers interconnection necessary. I think we need to evaluate its pros and cons. 140-201 6/11/06 20:27 Page 164

raise regulated retail price floors, arguing that European regulators are firm believers in this entrants could not compete with the incum- model. The European Regulators Group (ERG) bents’ low prices.15 The obvious retort is that no states: consumers are hurt by low prices, and it follows “The…concept of a ladder of investment links that the welfare gains of keeping prices high are a pro-competitive regulation with investment non-existent. If an incumbent somewhere were which in turn is pushing broadband actually to engage in predatory retail price behav- penetration, in other words [sic] a virtuous iour, then competition policy could intervene. cycle has been created.” 18 3. Wholesale price regulation and A variety of other countries may beg to differ, the ‘ladder of investment’ theory16 where evidence fails to provide conclusive This theory (best articulated by Cave in support for the ladder of investment. While 2005)17 suggests the following: available European data does show some migration up the ladder (reflected by the • access regulation can encourage entry by growing importance of ‘higher-rung’ offerings setting low access charges for entrants who based on fully-unbundled loops and shared would otherwise find insurmountable access), there is also some evidence that the obstacles associated with replicating share of cable (the leading infrastructure incumbent networks; alternative to the incumbent fixed-line network) • entrants taking advantage of low access has suffered. For example, the broadband charges initially occupy the lowest rung of scorecard of the European Competitive the ladder, often doing no more than Telecommunications Association (ECTA) found reselling the incumbent’s service; that between the last quarter of 2003 and the first quarter of 2005, the share of cable as a • they then grow their customer and revenue proportion of all broadband connections had bases, while regulators gradually raise the The challenges of a digital world and the need for a new regulatory paradigm The challenges of a digital world fallen to 17 per cent from 21 per cent. price-of-access products so that those entrants that have gained sufficient financial There is therefore a risk that instead of strength can start moving up the ladder – 164 developing healthy infrastructure-based initially into other access products such as competition, poorly-designed access IP Bitstream and then into using fully regulation results in locking entrants to a unbundled local loops; and ultimately; business model where they rely on (arguably) • entrants start investing in their own subsidised wholesale access to the 19 20 significant infrastructure, and facilities- incumbents’ networks. based competition takes hold.

15. CRTC Telecom Public Notice 2003-8 16. This section here and in the paper written for France Telecom are quite similar. 17. Martin Cave 2005, Investment Incentives and Local Loop Prices, mimeo 18. See ERG Revised Common Position on Remedies, Explanatory Memorandum, ERG (06) 19, January 2006 19. Pindyck (2004), Mandatory Unbundling and Irreversible Investment in Telecom Networks, NBER Working Paper 10287, Cambridge MA, February, shows that accounting for opportunity costs or ‘option values’ but also adjusting for the fact that sunk costs are a barrier for entry, wholesale prices for network access are too low and thus subsidise entrants. 20. The European Regulators’ Group (ERG) has explicitly endorsed the ladder of investment theory and it is enshrined in the European Commission’s New Regulatory Framework. 140-201 6/11/06 20:27 Page 165

The best illustration of the substantial negative The example of UNE-Ps in the United States impact of subsidised access to ‘rungs on the illustrates the fact that access regulation can ladder’ comes from the United States. There, result in distorted competition, where entrants an unsustainable model of entry developed, fail to innovate or move up the ladder of based on leveraging the margin between the investment. When the regulatory decision to regulated rates for unbundled network scrap the UNE-P was made, the biggest entrant elements (UNEs) and the rates that the into the market (AT&T) chose not to migrate to Incumbent Local Exchange Carriers (ILECs) the next rung of the ladder – it simply withdrew were able to charge in order to satisfy from the local services market altogether. requirements on predatory pricing. In The ‘core capabilities’ (and the ‘core rigidities’) particular, AT&T and MCI-WorldCom made of a firm that ‘buys’ network facilities from the heavy use of the UNE-P platform, which incumbent and then relies on repackaging offered them the unbundled network elements incumbent services are potentially different plus switching. Entrants utilising the UNE-P from those of a firm that invests in its own were essentially the same as simple resellers. network facilities and offers the full range of There was no innovation involved, and services that its network technology enables. entrants using UNE-P did not branch out into Once they have developed a business model investing in their own facilities. based on regulatory arbitrage (the generous US Between December 1999 and December 2002, regulatory regime afforded UNE-P entrants UNE- prices decreased by a median of 28%, discounts of between 50 to 60 per cent off while the share of UNEs as a percentage of CLEC retail), it may prove very difficult for firms to switched-access lines increased from just over then make the leap to competition based on 20% to over 50%. (See Ingraham 2005).21 The developing their own facilities.22 FCC’s announcement in 2003 which abolished 4. Equivalence

the mandatory provision of UNEs had a major 2010 Section 3: Economic regulation beyond effect on the strategies of many CLECs. In August Ofcom has invented the new regulatory 2004, AT&T announced its intention to stop paradigm in Europe: equivalence. Equivalence promoting its local and long-distance services. is essentially non-discrimination in wholesale 165 The major motivating factor behind this was that services. That is, the incumbent telco – in this it could no longer use the UNE-P/resale platform case, BT – cannot discriminate at the wholesale and could not sustain its local entry strategy. level to the benefit of its retail arm. As a MCI was subsequently incorporated into one of principle, non-discrimination is hard to argue the largest incumbent carriers, Verizon. Both against. However, one must be careful to AT&T and MCI largely abandoned the residential distinguish regulatory-mandated discrimination local voice services market, once the UNE-P from competition policy findings of anti- was no longer available. competitive discrimination.

21. Allan Ingraham (2005), Impact of Mandatory Unbundling at TELRIC Prices on Telecommunications Investment, Powerpoint, Criterion Auctions 22. For a definition of core capabilities and core rigidities, see Leonard-Barton, D. (1992), Core Capabilities and Core Rigidities: A Paradox in Managing New Product Development, Strategic Management Journal, 13, pp. 111-125. 140-201 6/11/06 20:27 Page 166

The difference, I think, is clear: should we attributed to the growth in the penetration rate as a society impose ex ante rules on service of fixed-line telephones. Further studies such as provision? Or should we rely on competition those by Greenstein and Spiller (1995) and policy to sort out those discriminatory policies Correa (2003)25 find that the diffusion of which are anti-competitive from service telecommunications products and services into discrimination which is innovative and welfare- the wider economy has a significant spillover enhancing? The calls for net neutrality (see and impact. This impact seems especially below) push regulatory non-discrimination pronounced for the services sectors in general, principles too far. We are better off as a society particularly sub-sectors such as FIRE (Finance, in addressing anti-competitive discrimination Insurance, Real Estate) which drive the growth when and if it appears, rather than relying on of the modern economy.26 ex ante across-the-board regulatory mandates. Telecom networks are the key enabling The evidence appears clear that in ADSL infrastructure for the information economy. service provisioning, BT did give its own retail While existing studies suggest the impact of arm an advantage in terms of time, quality telecom is quite high, such studies might well 23 of service and so forth. However, dealing under-estimate the indirect impacts of telecom with the sins of the past should not prevent networks. These arise from the role of these us from questioning whether a current networks as the critical infrastructure over regulatory policy is sensible for a new era. which data, voice and video content is being The importance of telecom transmitted. It is the vastly increased ability to exchange information that drives the growth investment and its primary drivers of the high-tech knowledge-intensive service Investment is a significant contributor to sectors around the world; thus the role of economic growth. Most empirical studies of the telecom networks has grown ever-more critical

The challenges of a digital world and the need for a new regulatory paradigm The challenges of a digital world determinants of economic growth find a strong, as the diversity of uses for the network has positive and statistically significant correlation grown greatly in the past 15 years. There is no between overall economy-wide investment and indication that these uses will diminish in the growth.24 A growing body of literature finds 166 future, either. Indeed, the advent of Next that there are significant returns to investment Generation Networks will greatly increase in public infrastructure, including telecom- network speeds and also the multiplicity of munications. Roeller and Waverman (2001) uses for the network. found that as much as one-third of German growth between 1970 and 1990 could be

23. See Ofcom 24. The work of Summers and DeLong (1991), Equipment Investment and Economic Growth, QJE, May established that certain kinds of investment – for example, investment in machinery and equipment – provide an even greater spur for productivity and economic growth than other types of investment. 25. The Economic Impact of Telecommunications Diffusions on UK Productivity Growth, Queen Mary College, Working Paper 92, June 26. Greenstein and Spiller’s, Modern Telecommunications Infrastructure and Economic Activity: An Empirical Investigation, Industrial and Corporate Change, Volume 4, Number 4, econometric results suggest that a doubling of fibre optic cable leads to a more than 10 percent increase in the level of economic activity in the high-tech knowledge-intensive sectors. Correa’s input-output analysis of the impact of telecommunications investment eliminates some of the biases that previous macroeconomic studies of the impact of telecommunications sometimes suffered from; yet her work also suggests a very high impact of telecommunications investment on service sector productivity. 140-201 6/11/06 20:27 Page 167

ICT contribution to labour productivity differential 2003

USA EU-14 France UK Sweden

Output per hour worked $37 $35 $43 $32 $33 (in 2000 USD at PPP)

Non-ICT capital per hour worked $54 $63 $87 $44 $58 (in 2000 USD at PPP)

ICT capital stock per hour worked $6.3 $3.6 $3.4 $3.7 $4.9 (in 2000 USD at PPP)

Telephone penetration 118 140 126.03 150.69 174.62 (main lines per 100 population plus mobiles per 100 population)

Personal computer penetration 69 38 41.74 44.95 68.78 (PCs per 100 population)

Total hours worked (in 000s) 249,634 249,616 33,961 45,345 6,723

Source: Fuss and Waverman 2006

Table 1: Europe, the USA and UK compared

The European Commission recognises the South Korea. Between 1995 and 2001, importance of telecommunications networks productivity growth in the United States and, therefore, of safeguarding incentives for (as measured by growth in GDP per hour telecommunications investment. The worked) was 2.2 per cent per annum, Commission states: compared to 1.3 per cent per annum in the

15 pre-accession European nations. 2010 Section 3: Economic regulation beyond “The telecoms sector…[accounts] for 44.4 per cent of the total value [of the overall European Table 1 illustrates that Europe is lagging behind ICT sector] in 2005….ICTs drive about 40 per the United States in investing in ICT (as shown cent of productivity growth and one-quarter of by the substantially lower levels of ICT capital 167 overall growth in Europe. The contribution of stock per hour worked), but also in one means the telecom sector to Europe’s growth, jobs of ICT adoption: the penetration of PCs. PC and prosperity is therefore crucial.”27 penetration can be seen as an indicator of the pervasiveness of ICT in the wider economy, Europe has an ICT problem. In general, and the fact that Europe trails the US on this Europe invests less in ICT, and uses this measure suggests that European businesses and lower-level ICT less intensively, than the households are less technology-friendly than United States. While some European their American counterparts. countries are good performers on measures of ICT usage and penetration, the core The UK’s labour productivity is 15 per cent countries of Continental Europe lag behind below US levels and below the EU average, as the USA and countries such as Japan and well as that of France and Sweden. An average

27. European Commission, 11th Implementation Report on the Telecom Regulatory Framework (complete citation) 140-201 6/11/06 20:27 Page 168

worker in the UK has less non-ICT capital and Regulation that was designed to kick-start far less ICT capital at her/his disposal than the competition in the telecom sector in the era average US employee. A number of studies of fixed-line voice service monopolies runs the show that the salient difference between risk of ignoring the rapidly multiplying productivity in the UK and the US lies in the possibilities for substitutability across services much higher contribution to productivity and platforms. When ignoring the possibilities growth of the ICT-using sector in the US.28 No of demand and supply substantiation, one doubts that factors such as managerial regulators send the wrong signals to resistance, some remaining labour market incumbents and entrants alike, and these rigidities and other characteristics of the UK’s policies will likely result in a sub-optimal macro-environment contribute significantly to allocation of resources. the ICT ‘problem’. However, it is clear that there It is also crucial to note that not all investment is a productivity and ICT gap, and regulatory is equal. The investment that should concern policies which impede investment incentives in us most is investment in core network assets. MIP networks will only exacerbate the UK’s ICT Investment in switching, cell centres or even and productivity problems. intelligent network components such as The growth of bandwidth, investment in MIP DSLAMs certainly counts as useful, but networks and new service offerings increase ultimately it does not transform the network’s the challenges on regulators. We are moving core characteristics in terms of the services that into a new digital world, and thus the costs can be provided. Investment in new core of getting regulation wrong are high. As network capabilities has transformational Commissioner Abernathy has noted in capabilities and thus generates greater the United States: economic benefits. Regulation should particularly encourage investment in new core “Most economic regulation comes from the

The challenges of a digital world and the need for a new regulatory paradigm The challenges of a digital world network assets and encourage inter-modal rule-making process and the notion that we, competition between different core networks. as regulators, can always make things just a little better, no matter how competitive the The ladder of investment theory (LOI) 168 market may already be.”29 recognises that some investments are more worthwhile than others. However, a more Regulation of PSTN in the past did cause some careful analysis is required not only to spillovers to other sectors but any regulatory determine if entrants are climbing the rungs on error was largely subsumed within telecom itself. the ladder but also to determine if the ladder But today telephony can be provided over stretches high enough! The set of incentives multiple paths by multiple players, hence induced by the LOI approach may produce the regulating the previous telecom sector as a silo wrong investment, i.e. not the investment produces wide-ranging deleterious spillovers to a which maximises social returns, growth and variety of sectors. The costs of regulatory mistakes productivity. There is another serious concern in PSTN telecoms or in cable are now magnified with regulation that aims at one form of well beyond the areas where regulators act.

28. See Melvyn Fuss and Leonard Waverman 2005, Canada’s Productivity Dilemma: The Role of Computers and Telecom, Appendix E-1, Bell Canada. Submission to the Telecommunications Policy Review Panel 29. As quoted in ETNO Reflection Document RD-235, January 2006 140-201 6/11/06 20:27 Page 169

infrastructure. Regulating one MIP network – addition, competitors now have billing systems, that is, telephony NGN alone – runs the risk of customers, brand names and deep pockets. promoting service competition on these Regulatory policy evolved in the 1990s facilities but at the risk of lowering competition with the aim of encouraging progressive between infrastructures. The original focus of competition in local services. Mandated access Oftel was infrastructure competition and that’s to incumbent networks encouraged the growth something we need to return to. The best way of carriers who were either simple resellers or to be technology-neutral is to treat all tech- made use of local loop unbundling (LLU) to nologies equally. This does not mean to regu- offer their services over incumbent networks. late them all; rather, where possible, to use competition policy tools equally. At this point, regulation of access was arguably justified as a means of kick-starting competition. Regulation and competition policy However, regulation of access – most specifically, The justification for regulation in the granting entrants access to incumbent networks telecommunications industry has been the at regulated rates – rests on the presumption that legacy investment of the incumbents that the networks are inherently not replicable. Once began as monopoly providers. Regulation this presumption is removed, the rationale for began by allowing entry into national and regulation diminishes. international calling, activities which had The greater danger is that regulation, been the prerogative of a nationalised public particularly regulation pertaining to access to monopoly. Entry into the ‘last-mile’ local essential infrastructure, could induce too low a telecommunications was much more difficult level of investment – a tragedy at a time when – the market presented several challenges for such investment is ever-more socially useful. new entrants. Laffont and Tirole note that: “There is in

Most notably, replicating the incumbent’s general a trade-off between promoting 2010 Section 3: Economic regulation beyond network was both costly and inefficient for new competition to increase social welfare once the entrants, especially as public policy held retail infrastructure is in place and encouraging the prices below cost. We tend to forget the incumbent to invest and maintain the 169 importance of pricing. Even today, we continue infrastructure”.30 [My italics]. A potential to have national geographically-averaged rates analogy is the issue of patenting in the for both access to the PSTN network (the last- pharmaceutical (or other R&D-intensive mile) and for calling. It was unrealistic several industries). In the R&D case, it is generally decades ago to believe that new entrants could agreed that patents protect the firms’ (ex ante) build their own networks to compete with the incentives to innovate by allowing them to incumbents when they had no market presence earn monopoly rents on their innovation for a or customer base to begin with. limited period. However, ex ante regulation of incumbents’ new networks does the reverse. It Today, however, we do have ubiquitous undermines the incentives for innovation by competing networks (mobile) and competing threatening to expropriate part of those broadband in at least half the UK (cable). In returns from innovation.

30. p7 Jean-Jacques Laffont and Jean Tirole (2000) Competition in Telecommunications, the MIT Press, Cambridge Mass., London England 140-201 6/11/06 20:27 Page 170

To return to Laffont and Tirole’s point, the However, regulatory action or uncertainty can relevant trade-off that access regulation must clearly delay investment and such delay has make is between promoting competition once high social costs. The costs of delay in the case the relevant infrastructure is already in place of NGN in the UK and Europe are, in some and protecting the incumbents’ investment respects, higher than in the case of early incentives. For example, Telstra, the Australian cellular systems in the US. NGN networks are incumbent, recently announced plans to a vital component of firm-to-firm computer abandon its proposed high-speed broadband aided exchange, and hence are important to network since it could not agree with regulators raise productivity and growth. over whether competitors should have access at Secondly, the new networks require significant wholesale rates to this new network.31 risky capital outlays. Investors in new networks, The disagreement between the European whether incumbents or entrants, assume Commission and the German Government considerable risks, as we saw from the wave of about whether to grant Deutsche Telekom’s telecom-related bankruptcies in the United new VDSL network a ‘regulatory holiday’ also States, the UK and Europe during the late 1990s. captures the tension between foregone In the 1960s and 1970s, the period of rapid investment and the desire to prevent the new expansion of the existing PSTN in Europe, network from becoming a bottleneck that investments were far less risky simply because thwarts future competition. the incumbent operators were public monopolies entitled to recover their regulated Simply assuming that new incumbent cost-base through their rates. Today, incumbents networks automatically represent potential do not enjoy that luxury to take care of any bottlenecks ignores several important aspects unanticipated cost shocks, and face the of investment in new networks. additional risk that their rivals can either choose

The challenges of a digital world and the need for a new regulatory paradigm The challenges of a digital world First, new MIP networks offer the potential for to build out their own new high-speed networks vastly improved service offerings at lower prices or can wait for the incumbent to move first and to greater numbers of consumers than existing then ‘buy’ facilities from the incumbent. 170 networks. Thus the pure consumer welfare gain The ex ante imposition of regulated access on (i.e. households and businesses alike) from new incumbent networks creates significant such networks is potentially very large. The asymmetries between entrants and social costs of delay are also large. Hausman incumbents. Incumbents and entrants alike 1997 showed that FCC delays in licensing US could build new networks, with the only cellular systems cost some $20 billion in difference in cost being the (presumably) foregone annual consumer surplus. This is not lower costs of financing the investment for the to say that there is a direct comparison better-heeled firm. But the threat of mandated between not licensing cellular networks and access to the incumbent’s network raises imposing ex ante regulation on some MIP (asymmetrically) the cost of capital to networks (i.e. investment in NGN telecoms). incumbents by reducing the expected return on invested capital.

31. Wall Street Journal, Europe, August 8, 2006 140-201 6/11/06 20:27 Page 171

Thus, in a purely ex ante context, the threat of the dominant firm. In the absence of com- of regulation reduces the likelihood of petitive pressure, the dominant firm might well incumbent investment. Furthermore, option operate inefficiently, and offer consumers a values are not generally incorporated into limited variety of services at high prices. regulatory rate-setting or in LRIC calculations However, access regulation that favours a as they should be. Alleman, Darby and particular model of entry runs the risk of Rappoport (2005)32 point out that when distorting competition in such a way that the incumbent firms make large-scale irreversible dynamic outcomes resulting from this distortion (sunk) investments in their network infra- (where competitors base their business models structure they forgo their option to delay around mandated access to incumbents’ rolling out this network infrastructure. infrastructure) are decidedly sub-optimal. The current regulatory paradigm allows entrants ‘One-size-fits-all’ national policies no longer two choices: one, to wait for the incumbent to suffice. One way forward for regulation is to build its network and then either invest in their adopt a more case-by-case approach to own facilities or lease facilities from the incum- regulating access. For example, the underlying bent; and two, simply to roll-out their networks cost conditions faced by a new entrant regardless of the incumbent’s decision. Thus the operating in the centre of London are very entrants enjoy the ‘option value’ resulting from different from those posed in the Lake District the greater variety of choices they have relative to or the Highlands of Scotland. In the urban the incumbent. This option value is not factored areas, the incumbent network (even the into the Long-Run Incremental Cost (LRIC) existing PSTN) could be replicated by an models that are used to price network access. entrant investing in its own facilities (fibre- Unfortunately for incumbent and society, well- rings, for example). In such cases, it is functioning financial markets will take these appropriate to make geographical distinctions

opportunity costs into account, altering the cost 2010 Section 3: Economic regulation beyond in the nature of the regulatory regime since, of capital for financing entrant projects and otherwise, entrants could simply base their jeopardising incumbent investments. strategies on the best opportunities for None of this is to say that regulation is always regulatory arbitrage. 171 a bad thing for investment. Where there are Perhaps the more formal use of an ‘essential genuine bottlenecks, without regulation, the facilities’ test is the way forward, wherein no long-term consequences of an unchecked wholesale regulation is imposed where there monopoly could be just as bad for investment is a compelling alternative infrastructure (such and long-term welfare as the deleterious as cable). In these regions/areas, the pre- consequences of inappropriate regulation that conditions for healthy inter-modal we outlined above. Inasmuch as regulation competition between services offered over boosts competition, it helps to bring multiple infrastructures already exist. competitive discipline to bear on the behaviour

32. Alleman, Darby and Rappoport (2005), Optimal Pricing with Sunk Cost and Uncertainty, in Cooper and Madden, eds., The Economics of Information, Communications and Technology Networks 140-201 6/11/06 20:27 Page 172

New challenges Other beneficiaries of broadband networks, including providers of software, applications There are a number of new challenges for and content would by statute be insulated from regulators in a MIP world, three of which are paying providers of broadband networks.”33 addressed briefly here: The proposition is exactly as Darby puts it. • net neutrality and discrimination; Ex ante regulation binds us by limiting the • margin squeeze; and ways in which access and usage costs are allocated through prices. Such limitation is • content as a two-sided market neither efficient nor equitable. In the past we – ‘normal’ regulatory tests – predation, relied on end-users paying for all costs of cross-subsidy are not applicable. connection and transmission – but with circuit-switched calls, the calling and receiving Net neutrality parties did ‘bear’ infrastructure and usage Telecom infrastructure providers now offer costs. Thus ‘end-user pay’ made economic connectivity for more than a person-to-person sense. However in an IP packet switched voice call; with falling voice revenues, such world, there is no simple correspondence infrastructure providers are considering new between a user and its associated costs. Hence ways of ‘distinguishing’ prices. The old model there is no simple cost causality. of ‘value-of-service’ pricing, where long- Moreover, neither customers nor suppliers distance callers and business customers invest in broadband for one service only such generally paid higher mark-ups, is no longer as voice calls; the demand for broadband possible. Hence new ‘value-of-service’ models comes from the desire for access generally, and are being examined. These models include the desire by users to multi-cast content. charging intermediaries (such as ISPs or search Consider as an analogy the broadcasting

The challenges of a digital world and the need for a new regulatory paradigm The challenges of a digital world engines) for network access or uses. These world. The old model of free-over-the-air intermediaries who have not, to this point, broadcasting did not involve end-users expressly paid for transmission or (viewers) paying. However, advertisers did not differentiated quality argue that they should 172 ask for regulatory intervention to end this not be discriminated against. Hence net ‘discriminatory’ treatment and to force end- neutrality is proposed – that infrastructure users to pay. providers treat all content equally. Telecoms and Broadcasting are two-sided This principle of net neutrality should not, markets but we have done little to recognise however, be enshrined. As Larry Darby puts it: this basic fact in our analyses or polices (see “A key element of net neutrality put forth by below).34 Hence having advertising-based ‘free’ proponents is the proposition that of all voice calls, or having content providers paying stakeholders in the value chain, only end-users for network costs, is neither unfair nor may be charged for network access and uses. inefficient. The issue is not one of determining,

33. Consumer Welfare, Capital Formation and Net Neutrality: Paying for Next Generation Broadband Networks, Darby Associates, June 6, 2006 34. In two-sided markets, simple correspondence between prices and costs (i.e. price at LRIC) needs to be adjusted to reflect the externality on the other side. 140-201 6/11/06 20:27 Page 173

ex ante by regulation, who should pay what. The Europe, the calling party pays all the costs of issue surely is this: is the infrastructure provider the mobile call. These differences in charging acting anti-competitively by their charging policies appear to affect the volume of calling. mechanisms? We cannot rely on ex ante We do not as yet know all the economic regulatory prescription to answer this question. theory of two-sided markets, but we do know: Two-sided markets (i) efficient prices can be below, equal or There is a growing literature in the economics above marginal cost. That is, setting prices of two-sided markets. A two-sided market is at LRIC is not necessarily optimal!;36 and one where ‘platforms’ enable two or many (ii) this is because of the ‘opportunity cost’: the ‘sides’ to interact.35 Above, I discussed broad- impact that adding one user to one side has casting briefly. The provider of the platform on those on the other side. That is, there (be it cable or satellite, or indeed ADSL) can be an externality on the other side of enables content providers to reach an the market. This externality, say, to the R audience. Viewers want programming, and side, lowers the required price to the C side advertisers want viewers or eyeballs. So we and can lower it below marginal cost. have three, at least, sides to the market – viewer, advertiser and content provider. Rochet A typical example is a night club. The platform and Tirole show that a market is two-sided if: (i.e. the club) wishes to maximise revenue and can charge any price it wants to the two sides (i) the structure of prices and not just their of the market – men and women. Setting price level affects demand; and at marginal cost which is gender-neutral (ii) the two sides cannot transact an efficient requires equal prices to men and women. division of the price. However, many clubs offer free entry to one side of the market while charging the other

Broadcasting is a two-sided market: charging 2010 Section 3: Economic regulation beyond side a price that covers all costs. This appears viewers, instead of advertisers does alter the to be discriminatory but need not be once the level of demand. Telecom is also a two-sided externality is taken into account. market. For a voice call there is a calling party 173 (C) and a receiving party (R). Clearly, both A recent paper by Hausman and Wright 200637 benefit from the call yet in fixed line networks, is one of the first to address the setting of while both calling and receiving parties pay telecom prices using a two-sided theory. They for access, the calling party traditionally pays use a model where callers can be both fixed all the usage costs of the call. Mobile networks and mobile subscribers in order to address the differ across the world in their charging issue of whether fixed-to-mobile termination mechanisms. In some jurisdictions – the USA, rates are set too high. They calibrate this two- Hong Kong, Israel and others – the receiving sided model to Australian data for 2003. They party pays part of the cost of the call, as does find that equilibrium fixed to mobile termi- the call’s recipient. Here in the UK and in nation rates are well above estimated costs

35. See J Rochet and J Tirole 2004, Two-sided Markets, An Overview, mimeo, IDEI, Toulouse 36. See J Tirole, Industrial Organization of Two-sided Markets, UCL Two-sided Markets Conference, UCL London, 11 May 2006 37. J Huasman and J Wright, Two Sided Markets with Substitution: Mobile Termination Revisited, mimeo, April 2006 140-201 6/11/06 20:27 Page 174

and that regulating termination rates to costs a complete review of the bases for such lowers welfare. The reason is that raising the regulation. This does not mean that all current fixed to mobile termination charge makes regulatory instruments should be instantly mobile subscription and usage more attractive. disbanded. What it does mean is a re-evalua- Since most customers use both fixed and tion of the costs and benefits of a policy mobile phones, welfare effects must be framework of ex ante mandatory regulatory analysed by capturing these two-sided effects. intervention compared against the costs and benefits of relying on an alternative framework Conclusions and recommendations – ex post competition policy instead. This paper highlights the importance of We have come from a world of decades investment in advanced telecommunications of retail price controls on voice carrier services as a key determinant of economic incumbents, and a decade of mandatory growth. There is a growing concern around the wholesale access to these incumbents’ legacy productivity gap between the UK and Europe, infrastructure. The principles we developed, and the USA. Many academic studies point which basically revolved around non- to the greater level and use of ICT in the US discrimination by the incumbent telco, needs compared to the UK as one of the causes of rethinking. Discrimination, innovation and the productivity gap. investment are the ways in which markets Other studies point to a recent acceleration of function and firms add value. US investment in NGN following the dismem- The European Commission’s regulatory stance berment of wholesale access regulation of on mandated access (as embodied in a recent incumbent local telco access providers. There speech by Commissioner Reding) needs to is a risk that the continuation of existing regu- provide greater clarity. As part of her analysis of latory policies in the UK and in Europe could Deutsche Telekom’s argument for a regulatory

The challenges of a digital world and the need for a new regulatory paradigm The challenges of a digital world end up undermining investment in the very core holiday for its new VDSL network (an issue telecommunications networks that will be key which we do not discuss in this paper), the enablers of the Information Economy. Commissioner wondered whether the products 174 Just as regulators insist on ‘fit-for-purpose’ and services offered over the proposed network services from incumbent telcos, all current were not substitutable with products and regulatory instruments should be fit-for- services offered over the existing network. purpose and assessed to see if they increase However, the justification for extending access social welfare. Current regulation was based regulation to such new networks must rest on on the problems of dealing with monopoly evidence that the new networks are truly provision of services over legacy infrastructures essential facilities which only the incumbents with little or no demand or supply substi- could develop – which appears not to be the tutability between services. The new MIP case. It is far too narrow a test to rely only on world is very different. There are no legacy the substitutability of products and services investments and we are just beginning to see offered over these new networks with products the many services that will emerge. and services offered over existing infrastructure We cannot, as a society, risk maintaining legacy by these same incumbents. regulation for a new converged world without 140-201 6/11/06 20:27 Page 175

Regulation that encourages facilities investment of the Information Economy should inform by incumbents and entrants alike permits a regulatory decisions. greater variety of services (existing ones and • Regulators should consider adapting new ones) to be offered by a greater variety of regulation to suit different geographical and competitors over a greater variety of competing competitive circumstances. For instance, technological platforms. Regulation that densely-populated urban markets offer dampens such competition may have the short- greater entry possibilities for entrants of term merit of leading to greater services compe- all varieties (including facilities-based tition based on existing platforms, but the entrants); in this instance, there does innovation, investment and dynamic efficiencies not seem to be a justification for access it forgoes more than outweigh the benefits of regulation on the grounds of access to more effective services-based competition. essential facilities. Similarly, where The investment community remains ubiquitous cable networks exist, they concerned about the European Union’s provide alternatives to incumbent facilities regulatory stance. For example, Merrill Lynch (new or old) and in this instance, regulators comments that: should also rethink mandated access to new networks on the grounds that they are not “Although we expect some fibre build partic- an essential facility. In these instances, ularly…for VDSL in European countries with asymmetrical wholesale regulation of cable competition, we still see the regulatory incumbent facilities could prevent necessary backdrop as unsupportive of a sustained investment and facilities-based competition. increase in capital intensity.” 38 Such case-specific regulation could be Credit Suisse First Boston remarks: complex to implement, however, but as a theoretical precept it does provide guidance “We…see little incentive from a regulatory

about the merits of wholesale regulation 2010 Section 3: Economic regulation beyond perspective for incumbents in Europe to and its likely impact on investment. pursue FTTP [Fibre to the Premises].” • We need to rethink the central tenet of non- Regulators must always balance investment discrimination, on which current regulatory 175 incentives with the promotion of effective policy including equivalence is based. competition. However, when considering Discriminatory treatment, discriminatory the application of access regulation to new offerings and differential prices all exist in networks, regulators should pay attention to competitive markets. Indeed, the need to the possibilities for entrants to replicate these discriminate offerings is the key to compet- networks, and to the possibility that incum- itive success. We then need to take care that bents will severely delay or even abandon the old tenet of non-discrimination is their investment in new networks under the applied wisely, and not simply as a core threat of having to share them. A keen legacy instrument. recognition of the economic importance of high-speed telecom networks as an enabler

38. Source: Indepen, The ICT Sector and Productivity in Europe: the Challenge Ahead, Presentation to Global Communications Consortium, London Business School, June 29, 2006 140-201 6/11/06 20:27 Page 176

Market-based alternatives or complements to regulation Jonathan Cave Department of Economics, University of Warwick

If a market is seen as a form of democracy, fringe and potential), customers and societal the co-evolution of dominant firms and dominant stakeholders. Dominant firms tend to have regulators might be said to miss the maxim: “the the most intimate contact with regulators cure for the ills of democracy is more democracy”. while key societal interests have a political or Jonathan Cave policy voice. Information about other parties may be harder to come by, which can lead to Introduction mutually-reinforced structures of regulation Many economic regulation regimes are and industry, which may not adapt well or based on some concept of market failure swiftly to changing conditions. If relevant – a misalignment of power, information and information is not elicited or efficient, incentives that damages technical, allocational arrangements do not materialise, the com- and/or dynamic efficiency. More broadly, key bined system fails, and it is reasonable to ‘stakeholders’ affected by market functioning seek to (re-)design markets to fix failures in do not have an appropriate and efficacious regulatory systems devised to fix markets. Market-based alternatives or complements to regulation Market-based alternatives voice in market governance and hence may Technological changes, new regulatory not participate appropriately. challenges to traditional command-and- 176 This governance gap has led to three control regulation and advances in the theory broad classes of regulatory intervention: and practice of mechanism-design have raised general economic (competition), sector- hopes of market-like mechanisms to perform specific (industry, including technical) and or assist regulation; reduce or eliminate social, with their own objectives, stakeholder regulatory costs and distortions; and address relations and favoured tools, but a shared new regulatory challenges while relinquishing focus on the market. A changing environment obsolete ones and rebalancing regulatory roles and the lessons of experience suggest that and responsibilities. regulated markets may fail as well and that This paper considers the prospects for what structural rebalancing of roles and David Salant calls the “re-engineering of responsibilities between markets and regulation”. The concept is not new – concrete regulators can be enormously helpful. examples of new tradable property rights to The basic message is simple: regulators ‘carry’ externalities (marketable discharge balance the interests of firms (dominant, rights), mechanisms for allocating access 140-201 6/11/06 20:27 Page 177

to congestible public goods (spectrum ensuring satisfaction of consumer needs by auctions) and markets to ensure efficient quality-of-service (QOS) and related rules capacity creation and utilisation in the face and advancing general sectoral economic of long- and short-term risks (gas and goals of competitiveness (as distinct from electricity markets) have helped to fix ideas competition), growth, structure (especially and drive the integration of theory and SME participation), risk allocation and practice. Many have been narrowly conceived management, and so forth. in ways that produce unintended side-effects Societal regulation involves objectives outside or deepen our ability to improve the the immediate matter of commercial regulatory function of markets themselves, operations, including equity, macroeconomic realign administrative regulation and impacts such as employment, and by-products combine or unbundle economic, sectoral or externalities ranging from privacy to and societal regulation. environmental impact. Why regulate markets? Regulators pursue these objectives via a range Economic regulation arises out of the ‘failure’ of functions embedded in different of markets to ensure technological, institutional arrangements. These include: allocational and dynamic efficiency by means of long-term contractual relationships as well • selecting and regulating monopoly/ as investment and innovation incentives. oligopoly providers. These hoped-for consequences of competition • infrastructure provision of: (rather than competition itself) are the usual objectives of economic regulatory regimes, a) investment; but only rarely can regulators identify specific b) access, pricing; efficient behaviour. Section 3: Economic regulation beyond 2010 Section 3: Economic regulation beyond c) operation (esp. QOS); and It is often easier to reinforce competition or replicate market outcomes. This paper d) horizontal and vertical interconnection. considers the use of markets to perform 177 regulatory functions. Although primarily • universal access/service provision. concerned with economic regulation, it is • controlling and facilitating entry important to recognise that other forms and exit. of regulation also use market mechanisms and that this use may have implications • controlling access to congestible local for economic regulation. public goods to provide incentives, etc; and

Sectoral or industry regulation addresses • exploiting regulatory purchase to advance problems that reflect specifics of industrial indirect or general objectives e.g. content structure, technology and demand and are regulation, security, information assurance therefore poorly-served by general antitrust (integrity, authenticity…), privacy, IPR, (pricing and merger) regulation. The objec- environmental impact, etc. tives include facilitating entry and exit via These functions cross the borders of open-access and/or standards requirements, economic, sectoral and societal regulation. 140-201 6/11/06 20:27 Page 178

So too does the replacement of these Game theory in relation functions by market alternatives. In addition to regulatory design to learning from experience in other regu- This section sketches the main concepts latory domains, this also suggests that eco- of game theory as applied to the analysis and nomic regulation may, in effect, substitute for design of regulatory institutions. Further other forms under some circumstances. In details can be found in any modern game general, economic regulation by means of theory text, and especially Tirole. markets entails trade in complementary property rights, or unbundling those already A game is a general model of interacting traded, to ensure internalisation of external- rational choice, defined by a set of players, ities in market transactions; counterbalance who choose strategies in order to maximise concentrations of market power; or enable their expected payoff or return. The rules of efficient bypass of failed markets. But markets the game determine the outcomes (market created to advance sectoral or societal regula- and other) resulting from strategic choice. tory objectives may themselves fail or exacer- Players’ incentives are captured in the payoff bate failure of existing markets1 and thus function, and the expectations that guide involve more, rather than less regulation. their behaviour reflect their information about This is justifiable if the required (economic) likely outcomes, other players’ identities, regulation is more accurate or effective – and strategies, incentives and information, and less burdensome or distorting – than the so on. In tackling problems with substantial sectoral or societal regulation it replaces. information asymmetry or those where linkages among players are complex, In determining appropriate outcomes and ‘optimal’ strategies may be extremely ensuring that they are realised, regulators difficult to compute or implement and face two fundamental strategic problems. thus lack credibility.

Market-based alternatives or complements to regulation Market-based alternatives The necessary information is not always available to them, and must be gathered from To introduce a further note of realism, games interested parties – who themselves may be used for policy purposes sometimes include 178 partially informed or, indeed, disagree. ‘non-strategic’ players who follow behavioural Even if the activities can be determined, rules rather than optimising each choice they may lie within the competence of (e.g. consumer behaviour summarised in a unregulated parties, or outside the scrutiny demand curve) or alternate models of of the regulator. These information and rationality (such as what, if anything, they incentive problems are the subject of the maximise, and how much information they game-theoretic approach to regulation take into account). Regulation in a market sketched in the following section. game can affect each or all of these elements.

1. For example, the inclusion of airlines in the European Emissions Trading Scheme – or the creation of a separate scheme dedicated to airlines – may further enhance the market power of incumbent operators (e.g. national champions), especially when initiated by grandfathered endowment rights that institutionalise existing dominance and/or when used in combination with geographically localised slot markets. While access to a dominant airline’s slots, for instance, could be ‘purchased’ by an entrant for emissions rights, a favourable slot allocation could equally encourage predatory or collusive bidding. 140-201 6/11/06 20:27 Page 179

The game theoretic apparatus analysis is level. If the other firm has already deviated, completed by a solution concept. This the best reply is (defensively) to expand. summarises the information in the game The ‘game’ interaction does not affect the description and a qualified prediction of the strategy choice by the players, but does matter outcome in terms of the way players ‘trust’ to society, regulators and other ‘public-interest others to behave or think. It also reflects players’, and affects entry/exit decisions. whether players behave myopically or play A further example is bidding in a second-price, a ‘long game’. sealed-bid auction with independent private We can then further divide the analysis of values, where truthful bidding is dominant. games according to the ability of players to Many games lack dominant strategy equilibria. make binding commitments and the degree The most common alternative 2 is Nash to which the rules of the game can be changed equilibrium, in which each player adopts a by design. We start with the positive analysis best reply to the others’ strategy choices. of non-cooperative games, in which players Almost all games have at least one Nash cannot make binding commitments and the equilibrium. Implementing it does require focus is on describing what will happen if they players to know each other’s strategies, so it behave rationally. We then discuss the positive should be seen as an ex post stability concept analysis commitment and co-operation before of mutually-consistent expectations. concluding with an illustrative example of normative analysis or mechanism design, It is often inefficient, and its stricter concept in which the rules of the game are adjusted of rationality makes it a less compelling to implement a desired outcome. benchmark than dominant strategies, but it is easier to achieve. It is also significant to note The simplest class of non-cooperative games that it may not be unique. involve perfect information – players’ identities, Section 3: Economic regulation beyond 2010 Section 3: Economic regulation beyond strategic possibilities and payoff functions are An example is provided by equilibrium all common knowledge (each player knows bidding in an English (ascending oral) them, and knows that the others know them, auction. According to the Revenue Equivalence and so on ad infinitum). The key solution Theorem3, Nash equilibrium gives the same 179 concepts are dominant strategies, Nash result in this type of auction as in the second- equilibrium and perfect equilibrium. price sealed-bid auction in the independent private values, risk-neutral case, but in general A strategy is said to be dominant if it is the may have additional equilibria which may be best strategy regardless of what the other complex to compute. Roughly, each player players are expected to do. A simple example should bid the expected second highest bid is adhering to, or deviating from, a collusive conditional on his value being the highest output agreement in a Cournot (quantity among the bidders. competition) market. If the rival firm is expected to restrict output, the best reply is In some games, expected payoff depends on opportunistically to expand beyond the cartel contingent response behaviour of other

2. Not the only one – rationaliseable strategies are a viable alternative. 3. Ref: Klemperer 140-201 6/11/06 20:27 Page 180

players in the future. Such games typically The analogue of perfect equilibrium for games have many Nash equilibria, and the concept of incomplete information is sequential of perfect equilibrium reduces this equilibrium. All contingent actions (‘threats’ multiplicity. It is similar to Nash equilibrium, or ‘promises’) must be rational, given what a but requires all contingent threats and player should infer from the prior history. promises to be ‘credible’ (i.e. it is in the In many applications, one player knows players’ interests to carry them out). strictly more than another and the analysis An example is price-matching behaviour in divides into two special cases. In signalling a cartel. In general, price competition is games the informed player moves first, but unfriendly to collusion. Each firm has an if the uninformed player moves first, we have incentive to cut price unilaterally in order to a principal agent game – this type of model stabilise a cartel, so any promises to hold up the is used to analyse optimal contracting and price umbrella lack credibility. But if the firms regulatory design. A well-known example is publish ‘price matching’ policies, a firm knows price cap regulation, in which the regulator that price cutting will not increase market share, allows the monopolist flexibility in setting but will only reduce prices for all firms. individual basket prices.

In games with imperfect information, the In some games, the players have the further players do not necessarily know each other’s power to ‘escape from’ non-cooperative payoffs – or even their own. In such games, solutions by negotiating binding agreements. we must take account of the behaviour of In bargaining games, players choose among players with different information and treat agreements based on individual threats or them as separate players. The analogue of ‘reserve prices’. Nash equilibrium in such games is Bayesian For example, in imposing content regulation equilibrium, where each ‘type’ of each player

Market-based alternatives or complements to regulation Market-based alternatives on the audiovisual media services industry, (in other words, each possible combination the burden of regulatory compliance can be of a player and what he might know) is reallocated among the parties in various ways.4 expected to play optimally given his The agreement that will be reached in practice 180 knowledge and others’ (type-dependent) will differ depending on whether the de jure strategies. This builds in inferences from regulatory burden falls on content providers, observing others’ behaviour. service providers or end-users. One example is provided by spectrum auctions. In co-operative game analysis the emphasis If a bidder thinks a given licence is valuable, his shifts to groups – threats may involve changes knowledge of the experience of other players in alignment and co-ordinated predatory or may tell him something about the correlation defensive behaviour, and some solution of his valuation with the valuations and concepts even predict which groups will form bidding behaviour of others. In particular, this and what (if any) side-payments are used. allows him to revise his estimate in the light of others’ observed bidding behaviour in an Examples include the Shapley formula for ascending oral auction. allocating joint costs in a multi-product firm,

4. RAND Europe (2006) 140-201 6/11/06 20:27 Page 181

and its application to, for example, access reported benefit. In this case, firms will pricing. This can be used to indicate outcomes attempt to ‘free-ride’ on each other by in markets for network capacity if there were under-reporting their benefits – there is no ‘serious’ externalities and possibilities for guarantee that the appropriate standard will shifting alliances and mergers. A second be chosen or the burden reasonably example is the reformulation by Sharkey of divided.

the ‘contestability’ criterion for arguing that 2. The regulator could fix cost shares ci (x)! 5 for an apparently non-competitive outcome (e.g. each standard and ask firms to report their

with one or a few firms) is actually efficient net profits (x) - ci (x).!! Again, the standard (using the core of the associated cost game). with the greatest total net benefit will be The normative or mechanism design analysis implemented. In this case, firms whose looks at how to design a game that will profit exceeds cost will over-report their achieve the regulator’s desired outcome gains, and those whose net benefits are without obliging the regulator to know and negative will exaggerate their losses. Once use information the parties may not wish to again, there is no guarantee of an efficient provide, or to monitor and enforce detailed outcome. conduct prescriptions. The main analytic 3. A third alternative is to proceed according results are that only a few regulatory objectives to option 2, but add a ‘pivot tax’: if a firm’s can be attained as dominant strategy announcement changes the selected outcomes, but more interesting alternatives are standard, it must pay an additional amount available if Nash/Bayesian equilibrium is equal to the aggregate change in net value enough – in other words, if firms can be relied for the other firms. (In other words, it must on to think strategically about each other. pay the full marginal external cost of its Further results relate to the existence and announcement.)

structure of optimal (regulatory) contracts and 2010 Section 3: Economic regulation beyond auctions, and the consequences of requiring It is easy to show that under the third that regulatory markets be robust to collusion. mechanism, firms have a dominant strategy to report truthfully – that is, it is in their best One simple example is the design of a 181 interests to do so regardless of their mechanism for choosing a common standard expectations about others’ behaviour. to be used by many firms. To keep the example simple, assume that there are two A further example is provided by the well- standards (A and B), that standard x will cost known Baron-Myerson mechanism for C(x) to implement and that the consequences regulating a monopolist with unknown costs, to the firms are given by incremental profits in which the regulator designs a contract that i(x). Consider two decision mechanisms: induces the monopolist to price in the way the regulator would prefer, regardless of his 1. The regulator could ask the firms to report marginal cost. their profits and implement the standard with the greatest excess of total profit over We conclude this section with an example cost, dividing the costs in proportion to related to the ‘net neutrality’ debate. Suppose

5. Where c1(x) + c2(x) + … = C(x) 140-201 6/11/06 20:27 Page 182

that there are two types of firm (content If the service providers say yes, the regulator providers P and service providers S); three asks the content providers whether they want regulatory regimes (a – to prohibit charging charging prohibited (option a). If they say no, based on content; b – to allow unrestricted the regulator allows full charging (option b). charging on the basis of content; and c – to use Otherwise, the regulator bans charging, a ‘heavy’ rule of reason/administrative procedure imposes a small fine on service providers and to evaluate cases and/or allow parties to sue each imposes on content providers a fine F that is other). The firms’ preferences depend on the large enough so that they would rather get effectiveness of competition between the Ps, their preferred outcome (no charging) and pay the Ss and possibly integrated players and the fine (compared to full charging and no on transactions costs. fine) if – and only if – the market is in state 1. Consider these two possibilities that are known It is easy to see that the unique outcome of to the firms but not to the regulator. this game is the socially efficient outcome, no In state 1, the Ps prefer no charging to matter what the state is. unrestricted charging and unrestricted charging The example illustrates a different sort of to ‘rule of reason’, while the Ss prefer ‘market alternative’ in that the two parties to unrestricted charging to ‘rule of reason’ and the vertical relationship compete for the ‘rule of reason’ to no charging. regulator’s attention. In state 2, the Ps prefer no charging to ‘rule Evolution of the regulatory relationship of reason’ and ‘rule of reason’ to unrestricted charging, while the Ss prefer unrestricted In many arenas, initial regulatory charging to no charging and no charging to developments were driven by market power. ‘rule of reason’. This was most visible – and most easily

Market-based alternatives or complements to regulation Market-based alternatives addressed – in the case of monopolies or The socially efficient decision is option a single dominant enterprises. Potential market (no charging) in state 1 and option b failure in sectors dependent on bottleneck (unrestricted charging) in state 2. This cannot be facilities or shared network infrastructures 182 implemented by any ‘purely’ market-based game such as transportation, energy and tele- (i.e. without fines or penalties).6 But if the communications was initially managed in regulator can threaten fines, there is a game that many countries by creating public utilities to implements a socially optimal solution without operate in society’s interest. In the event, they – in equilibrium – collecting fines, no matter became increasingly profit-driven and much which state prevails. of the early development of regulatory The regulator begins by asking the service economics was devoted to reconciling providers whether they want unrestricted socially optimal behaviour (e.g. Ramsey charging (option b). If they say no, the regulator pricing) with reasonable reward (rate-of- bans charging (option a). return regulation, etc.).7

6. The optimal rule is non monotonic – in moving from state 1 (when a should be chosen) to state 2 (when the choice should be b), no player has increased his preference for b over a. 7. Sherman (2001) 140-201 6/11/0620:27Page183 ‘policed’ pricingbehaviour. to distortinvestment behaviour even asthey and continuedaccesstocapitalwere shown mechanisms toensurecommercialviability vulnerable toinformationalcapture. Simple information aboutboth,andthusare it mightnot.Regulators typicallyhave worse possess, andondemandinformationwhich cost informationthatthepublicutilityshould not even befeasible. Ramsey pricesdependon pointed outthattheoptimalbehaviour might Both empiricalandtheoreticaleconomists 10. Theobservation that‘fixing’oneofalinkedsetmarketsmay reduceoverall efficiency. 9. USv. Terminal railroadAssociationofSt.Louis, 224US383(1912) 8. Averch-Johnson (1962) well-informed agentsbehaved optimallyin principal-agent world whereone(ormore) and –perhapsabove all–were basedina asymmetry assumptionsaboutinformation; very well; madestrongindependenceandeven they didnothandle(imperfect)competition Of course, theyalsohadsimilarweaknesses: problems by meansofsimilarmodels. on optimalcontractingwas solving similar Simultaneously, with facing regulators, thosetheyregulate andthose of theanalyticsimilaritybetween theproblems action andprovided astrongearlyindication information aswell asproblemsofhidden These modelsaddressedproblemsofhidden mechanisms (orgamesforfirmstoplay). normative domainby modelsofoptimal specific regulatorytaskswas extended tothe Use oftheoretically-derived mechanisms for (e.g. price-capregulation). deadweight losswithinnovation incentives to balanceprevention ofrent-seekingand was extended,‘smart’regulationattempted game theoreticanalysis ofregulatory tools whom regulatedfirmscompete. corporate financeliterature 8 As thepositive facilities (inthiscase, abridge)from Railroad transportation networks. The1912 assets suchaskeypartsoftransmissionor to naturalmonopolysuppliersofbottleneck ‘essential facilities’doctrine, whichapplies Perhaps thebest-known exampleisthe mechanisms by theregulatedentity. can choose, ormandatoryuseofmarket different optionsfromamongwhichtheagent contracts, inwhichtheprincipalspecifies regarded asmarkets. Examplesincludemenu Often thesecontractsorgamescouldbe a strictlyless-informedprincipal. a gameorcontractproposedimposedby of aninfrastructureowner whooffers We canillustratethispointby the example competition throughthesecond-bestprinciple. market activityandcanthemselves distort access rights, andsoon.Suchrulesconstrain connection, easement(useorshare, use or lose) of commoncarrier, open access, inter- competitive failurearisingelsewhereby means reasons), andprotectthoselayers from (for technological,cost,structuralordemand (or mimic)competitionwherefeasible regulators shouldstrive tointroduce It isnow commonplacethateconomic generalised tomulti-layer markets. markets. Theessentialfacilityideacanbe a legalbasisforaccessandinterconnection the sametermstoall-comers, andthusgave downstream marketsbutmustbeofferedon facilities cannotbeusedtoforeclose use it.Thisestablishedtheprinciplethatsuch discriminating amongfirmswhowishedto case 9 prohibited owners ofsuch Terminal 10 183 Section 3: Economic regulation beyond 2010 140-201 6/11/06 20:27 Page 184

interconnection on non-discriminatory terms external regulation, but eventually by market to downstream entrants with different forces related to inputs (e.g. finance, fuel (U-shaped) marginal and average cost curves. supply or content), outputs (e.g. reselling) and An infrastructure provider who charges a substitutes (bypass markets). However, in most possibly non-linear, but non-discriminatory cases the principal-agent relationship persisted, price for interconnection may create a albeit adjusted to multiple layers of agency ‘winner-takes-all’ condition in the downstream (a regulator dealing with more than one market and deter all but the incumbent or a infrastructure provider), multiple agents and subsidiary – even if it is not technically the even (especially for international intercon- most efficient.11 Alternatively, the access price nection and capacity-sharing13) multiple may be set at such a level that only the most principals. But all were seen as games in which efficient downstream firms can survive, players moved sequentially and dynamics transferring all surplus to the infrastructure could be handled by the tools of repeated or provider and removing those downstream (rare) dynamic game analysis. This perspective firms’ incentive to innovate or invest in led to some unexpected and undesirable efficiency gains. results, and at least one major redesign of a market substitute for administrative regulation. Infrastructure providers may even seek to In what follows, we consider the evolutionary foreclose downstream markets by keeping a symbiosis between regulators and regulated set of downstream firms in close competition firms and the regulatory and market impli- with one another. In doing so, they cations of changes between client-server and accomplish two valuable tasks. The mere P2P architectures. fact that many providers buy access under changing terms may convince antitrust While utility industries progressed from public regulators that the downstream layer is firms assumed to operate in the public interest

Market-based alternatives or complements to regulation Market-based alternatives effectively competitive. Perhaps more to monopolists regulated at arm’s length, importantly, such a strategy may give the and eventually to dominant hubs in more-or-less infrastructure provider not only the star-shaped network industries, the single 184 downstream firms’ producers’ surplus but regulators who oversaw this development their information rents as well12. typically underwent no such liberalisation and were to some extent preserved by it.14 Long-term As public utility sectors matured, dominant relations between regulator and regulated created firms were gradually privatised and vertical durable links and barriers to access and market power was eroded – initially via information. Some regulators found it difficult

11. A potentially more efficient firm may not be able to ‘jump’ to a scale of operations where its cost advantage was realised. 12. This can be accomplished easily if the downstream firms’ cost information is affiliated, by using a Cremer-type two-stage mechanism. In the first stage, the bidders effectively reveal each other’s information, and in the second stage they are charged the infrastructure provider’s optimal access price. 13. Newbery (2003) 14. The point could be elaborated to argue that the resulting regulatory creep led to gaps, duplication and working at cross purposes, especially between economic and sectoral regulators. 15. Two supporting footnotes are possible – the first would refer to Ofcom’s experience with BT in areas such as introduction of ADSL, LLU and international settlement, while the second would refer to sectoral asymmetries in the 1996 US Telecommunications Act – such as cross-ownership – or even the AVMS, which attempts to extend broadcast-style regulation to the internet and, by implication, to telecommunications providers. 140-201 6/11/0620:27Page185 international andsectoralboundaries. encourage ‘serious’entry, particularlyacross to actvigorouslyrestraintheirchargesand industry agreement)were setuptoregulatelong-termloadbalancingand short-termpower exchange. 16. ExamplesheremightincludetheCalifornia combinedregulatoryregimeforpower, inwhichseparate organisations(with for amarketparticipantandcansometimes An effective regulatorisanattractive target open theserelationshipstoexternalchange. regulatory functionsmay betradedcouldatleast dependence. Suitablemarketsinwhicheven foreclosure) butingeneralseemedanaturalco- took predatoryform(regulatorycaptureor determined efficientoutcome. Thissometimes order toapproachmorecloselyananalytically- regulating pricingandothermarketconductin determining andenforcingqualifications competent toallocatetherightoperate, short, cametoregardthemselves asuniquely While someoftheirstructural interventions and theirpowers ofcommitmentarelimited. others. Sotheyarenotsimplefirst-movers, tend tolistensomepartiesmorethan representatives, amongothers. Butregulators firms, customersandsociety’s political bases aresetby many principalsincluding manipulated. Theirlegalandoperational ways principals; theyactintheirown interestin In reality, regulatorsareagentsaswell as decentralisation andinformationalefficiency. to thestrengthsofmarkets, including or computationsinvolved. Thisseemstoplay or thesheercomplexityofinformation be capturedby informationalasymmetry more power thanwas necessary. regulatory relationships, insomecasesceding challenges andsoughtinsteadtoexploit world) foundithardtorespondmarket private sectorinamoregloballycompetitive (particularly thosemakingthetransitionto same token,somewell-regulated firms that canbepredictedoreven 16 Regulators, in 15 By the away away This isnotasteadydriftorcycle towards or together compriseevolution. standardisation…). Thesethreefactorstaken outcomes) and selection driven by commitment, bothstructureandconductare market system orhasperfectpowers of Because noplayer iswholly‘outside’the constantly shifting. auctions shows thatthegoalpostsare experience ofwholesaleadoptionspectrum can bethoughtofasdesign,thevery mixed • • • • problems, including: forms have arisentoaddressparticular mechanisms intheirown rightandinnovative by franchising;and provision andother‘naturalmonopolies’ economic regulationofinfrastructure decisions onmarketsignals; behaviour implicitlybasesregulatory economic regulationofcompetitive the useofyardstick competitionfor liability permits, landingslots, etc.; linked totheproblem–dischargerights, dominated inrecentyears by tradeinrights societal regulationofexternalitieshasbeen returns fromuseofthepublicgood; or policydecisionsandcapturesome relevant toothercommercial,regulatory efficiently, aswell astoelicitinformation auctions areusedtoallocatetheright Licensing createsatradablerightand especially thosereachedviacommons. sectoral regulationofmarketaccess, from freemarkets. Marketsareregulatory (conscious designandmarket variation heredity (innovation andshocks), (persistence, imitation, 185 Section 3: Economic regulation beyond 2010 140-201 6/11/06 20:27 Page 186

• efficient discharge of public service This reduces concentration and the risk obligations, attained by broadening the of structure-induced market failure. At this market choices of potential providers point the regulatory arrangement facilitates through ‘pay or play’ provisions, auctioning collusion and should ‘sunset.’ In much the the right to provide universal service or same way, behaviour in networked markets through redesigned public procurement is strongly influenced by the geometry of arrangements.17 connections among participants.

Not all of these have passed the tests of Regulation can change that behaviour, selection and heredity but variation continues. but the required intervention may be substantially distorting compared to a more We should not make the mistake of thinking modest approach that exploits evolution by that evolution is the same as improvement; it encouraging beneficial cascades and possibly does not always operate at the expected level. changing the network structure.20 This is Some regulatory objectives cannot be imple- reflected in, for example, competitive effects mented in the strict (dominant-strategy) sense merger analysis, which relies implicitly on of a competitive market and must either be markets for corporate control. sought through less certain Bayesian equilib- rium in market-like games, or compromised. Regulatory challenges Hybrid regulatory schemes may attempt to The introduction of new markets is ‘steer’ the natural evolution of market – or should be – a likely development in structure, conduct and performance. the evolution of utilities which support the An example is provided by marketing boards dynamism of the economy as a whole and used to allocate a number of commodities are inevitably dragged across regulatory between more- and less-elastic markets.18 boundaries. But specific challenges give the

Market-based alternatives or complements to regulation Market-based alternatives Typically, a voting regime is used19 to choose a development of regulating markets special ‘pro-rate’ – a common maximum proportion urgency and specific shape. of capacity that can be sold on the less-elastic Infrastructure provision requires a number 186 (more profitable) market. In a concentrated of factors: ongoing investment by owners only industry, introducing this kind of board partially able to appropriate returns; non- improves allocational efficiency. Smaller discriminatory interconnection; availability participants both drive the selection of a of essential facilities; and prevention of relatively generous pro-rate and are more foreclosure. Short-run pricing, co-location or likely to sell up to the maximum allowed, technical requirements ‘solutions’ create future so they are more profitable and gradually regulatory risks that discourage investment or accumulate capacity. favour investment in exclusion.

17. Notable among these are compulsory competitive tendering of public service contracts, PFI arrangements and the redesign of the Procurement Directives to increase the market-like character of tendering (by means of, e.g., competitive dialogue, electronic markets and Most Economically Advantageous Tender rules). 18. Cave and Salant (1995) 19. The same result can be achieved through a secondary market in capacity tied to voting rights. 20. E.g. by means of divestiture or merger policy. 140-201 6/11/0620:27Page187 as operatingcosts. Where stopping andstartingimposescapitalaswell as gasturbine‘spinningreserve’) iscostly, but fired power plants:continuedoperation(e.g. generator side, particularlyforcoal-andgas- not both.Therearealsoexternalitiesonthe opt forload-balancing is onereasonwhy regulatoryregimestypically without distortingforward contracting,which or the(typicallypublic)network operator or should,beplacedonindividualgenerators whole may ‘godown’. Notallofthisriskcan, close balance–otherwisethenetwork asa demand andsupplymustbekeptinfairly example iselectricity;itcannotbestored,so market features. Perhaps thebest-known management canbecomplicatedby specific capacity utilisation(andcapacity),risk In utilitymarketswithvariable demand end ofthe‘first’contract). reducing innovation (andthusacceleratethe and thefirm’s incentive toinvest incost- the regulator’s flexibilityifdemandchanges payment oftheresidualvalue, thuspreserving terms allow eithersidetoterminateon renegotiation orhold-up.Finally, contract of returnandthusthescopefor the incomeflow requiredforcompetitive rates to bids. Suitableauctionformscanalsoreveal forecasts, andthustheriskpremiumattached This reducesdependenceondetaileddemand of revenue inordertooperatethefacility. operators bidtherequiredpresentvalue fixes theinfrastructureuserfeeandpotential flexibility canbeachieved iftheregulator terms. Theydemonstratethatnecessary success stemsinlargepartfromfixedfranchise Engel, et.al.(1997)arguethattheirlimited In analysing repeatedfranchiseauctions, has perverse effects whendemandshocksare through contingentcontract trading, butthis relatively predictable, thiscanbeaddressed or power-trading, but aggregate ex post demand is discourage investment andtriggeraself- greater competition.Thisregulatoryriskcan to moreonerousregulatoryintervention and insufficient capacitymay triggerareversion possibility thatanauctionresultingin yardstick andotherregulation.Henotesthe which theymightbepreferredtoprice-cap, interconnection –identifiesconditionsunder network capacity–inparticulargrid (2003) discussionofauctionsforelectricity exacerbated by network externalities. Newbery communication networks andcanbe The problemoccurswithtransportationand dominate. correlated orwhensecurityofsupplyconcerns collections of‘idiosyncratic properties’must To achieve anefficientoutcomeoptimal commercial purchasetocover investment. market power orprovide insufficient may betoothinononeside, createtoomuch location. Iftherightsare‘wrong’market terms offrequency(range),power and to bedelimited:spectrumrightsaredefinedin optimal access‘size’. Marketablerightshave A thirdchallengeistheproblemoffinding investment andcapacityutilisation. accomplish thetwingoalsofefficient bought atauctionmay belesslikelyto long-term contractsfromshort-term competition. Thealternative ofsynthesising auction themwithoutendangering shorter entitlements, itwould bepossibleto rights allocatedatauctioncouldberesoldas investment payback period.Iflong-term a termcommensuratewiththecapacity which would provide revenue assuranceover Directive) againstlong-termcontracting, of theregulatorystance(inElectricity Secondly, Newberyconsiderstheimplications fulfilling collapse. 187 Section 3: Economic regulation beyond 2010 140-201 6/11/06 20:27 Page 188

be identified either inside the market or before participants bid on different allocations of it operates, but bidders have only limited licences across the entire bidding population. incentives to reveal relevant information. In ICT-rich sectors, traditionally regulated The dynamic challenge may be even greater: activities are increasingly important how can we adapt the allocation of rights to complements to unregulated activities and fit demand or technology changes? both are subject to rapid and often disruptive Incumbents can use endowments to foreclose technological change. This sharpens challenges entry, supporting, for example, technological to conventional regulatory paradigms. collusion and distort innovation. Dynamic efficiency (incentives to invest in To date, economists have concentrated on innovation) may be as important as short-run identifying correct initial structures via a technical or allocational efficiency. modified Vickery combinatorial auction. Necessary investments are risky and often This is enormously complex and costly to protected by intellectual property rights. operate, vulnerable to strategic behaviour and Recent US merger policy puts control of key does not always produce a core outcome; IP on the same footing as control of ‘real’ for this reason, various proxy auctions have goods and services markets. The same been devised.21 These solutions do assume that considerations apply to regulation of access bidding firms are able to evaluate different to protected facilities or the granting and combinations. Like most market access licensing of key patents. This does not auctions, design is complicated by risks or invalidate regulatory procedures, but changes arising in response to, but also enormously complicates asset and market outside, the auction: failure of regulatory valuation. Markets in access rights – commitment (for example, a price so high including IP access – can at least simplify that the ‘winner’ was allowed to default); the regulatory problem.

Market-based alternatives or complements to regulation Market-based alternatives the bankruptcy or merger of some or all winners; or a shortage of capital needed Two further implications follow. First, Ramsey to realise anticipated licence values.22 pricing theory and the analysis of non-linear prices and bundling23 suggest that ‘light-touch’ 188 In these and other cases (such as electricity regulation of part of a mesh of comple- auctions) the returns expected by bidders also mentary markets can have a better overall depend on the fate of other bidders. A firm effect than regulating all connected markets or that fails to win (or even enter) an auction full unbundling. Second, the emergence of may be strongly affected by the identity of the substitutes for (some) services offered by a eventual winner(s) and the price(s) paid. This regulated firm may weaken its market power suggests some form of menu auction where

21. Ausubel and Milgrom (2004) 22. Or debt overhang problems associated with distorted financial structure. 23. See e.g. Armstrong and Vickers (2006) and Mason and Valetti (2001) 24. This has been argued in the case of fixed-line telephony, gas pipelines (USDOJ (1991), etc. 25. In this way, for instance, ONP provisions enforced under a dominant-firm relation with BT effectively created a market for interconnection that fostered cable and mobile alternatives and thus allowed a weakening of price regulation. Note that the expansion of a competitive market at one part of the value chain may, in turn, create the conditions for extending competition vertically, as with LLU. 140-201 6/11/06 20:27 Page 189

to the point where it no longer needs to be market options, service providers (ISPs) regulated24 – indeed, regulation of part of a provide users with access to third-party value chain may encourage or forestall ‘bypass’ content. If the roles of content user and substitution, producing dynamic effects quite content provider are clear and fixed, the ISP different from the immediate response.25 can offer the protections of a closed environment at both financial and connectivity Access rights – and regulatory liability cost or a riskier ‘open access’ environment. In – allocations that are needed for short-run all regulatory environments, the ‘walled efficiency may have to be adjusted as markets garden’ protection offsets regulation cost. It is evolve. Administrative proceedings tend to not, in general, efficient to regulate content understate the ‘real options’ aspect and there is providers or peer-to-peer content hosts, so no a priori reason why a market in regulatory internalising costs through service markets risk might not simplify the construction of may be the only way to change their incentives. adaptive markets capable both of rebalancing regulatory pressures and enabling ‘make-or- To achieve reasonable outcomes in the face buy’ decisions about self-regulation. of incentive, information and communications problems may require structural intervention For network industries, changes in legally- (such as limiting contract type and duration, or required regulation affect the interacting by ISPs imposing content-based charges on ecologies of legal postures and regulatory content providers). This is less a matter of strategies. For instance, as discussed in RAND mechanism design than guiding the evolution (2006), content regulation of internet of the distribution of ISP models and thus the audiovisual media services may fall on a layer internalisation of regulatory externalities of the market that is naturally regulatable, but among content providers, content users and which may not be in a position efficiently to redistributors. Finally, the globalised nature monitor behaviour or enforce compliance. The

of ICT-rich markets – at least compared to the 2010 Section 3: Economic regulation beyond net effect will depend on the degree to which distribution aspects of other utilities regulatory costs can be monetised and – means that regulatory stance will be chosen transferred to content users and/or providers, via a game among regulators mediated through and on resulting changes in behaviour. These 189 the market. in turn reflect the magnitude and nature of those regulatory burdens and the willingness Many of these markets will involve explicit or to pay for outsourced protection by those implicit auctions. The most notable recent potentially liable. successes in the economic access regulation have come from auction theory, and many Regulatory strategies range from heavy and other problems could, in principle, be literal enforcement on those currently addressed the same way. This might be as regulated to ‘light-touch’ regulation that simple as replacing detailed access price makes maximal use of market forces (but may regulation with a requirement to provide not keep pace with subsequent changes) to a access using a certain type of auction. strategy that relies on lawsuits to impose and Alternatively, the regulator or other public continually re-examine the application of body could design and implement a specific (if not the need for) regulation, albeit at heavy auction to replace or accompany regulation administrative and risk cost. Simplifying 140-201 6/11/06 20:27 Page 190

in the usual sense. Auction design involves, views values as unaffected by the auction at a minimum: outcome – while there may be externalities (such as distribution of property rights among • what is auctioned (e.g. size, scope, duration, rival firms) and bidders may know more subsequent tradability, etc.); about values after the auction closes, • initial conditions (choosing an auctioneer the underlying values themselves do not or initial distribution of rights); change. Experience has generally shown that specific auction forms (such as simultaneous • analysing the identities, exploitation ascending, Japanese, package and modified possibilities, information, incentives and Anglo-Dutch auctions) tend to work well strategic sophistication of potential bidders; under specific circumstances – but the same experience suggests that learning about • technical aspects – the form of bids auction forms strongly affects their (amounts of money, shares, contract terms, performance.26 etc.), entry qualifications and requirements (e.g. deposits), bid qualification rules As mentioned, debt arising from auction (e.g. reservation prices, activity rules) and prices may affect winners’ investments; ‘auction form’ (open- or closed-bid, inter- this line has been taken strongly by some and intra-round information, provisional commentators on the German and UK 3G allocation rule, ending rule and subsequent spectrum auctions. negotiation); In addition to foreseeable financial effects that • provision for risks of inadequate or could be taken into account via real option inappropriate entry, predation, collusion, analysis of bidding strategies27, public-sector hold-up etc.; and or regulatory risks may arise from the auction mechanism itself. These include retroactive

Market-based alternatives or complements to regulation Market-based alternatives • specifying the conditions prevailing before charging of non-participating incumbents; and after the auction. ‘beauty contest’ allocation of unsold licences; There is a vast literature on auction design. additional spectrum made available as a direct 190 Some assumptions of conventional auction result of auction revenues; or changed analysis are questionable in industries subject competition policy in response to concen- to strong technological change, network tration via the auction or subsequent merger, externalities and/or extended value chains. takeover and exit. Bidders’ values are likely to combine These resemble the regulatory risk identified common and private elements (especially by Newbery (2003, see above) and could be when access value depends on access to addressed by inclusion of option arrange- content, finance or customer loyalty) and ments in the licence contracts or by increasing will be to some degree affiliated. the freedom to resell, subject to rule-of-reason Auction theory as generally employed also competition policy.

26. Klemperer (2005) 27. As pointed out implicitly by Binmore and Klemperer (2005). 140-201 6/11/06 20:27 Page 191

These endogenous changes exemplify larger especially when the ‘client-server’ roles of knock-on effects. Consider a network-based supplier and user become blurred (by peer-to- service provided by several suppliers via client- peer networks, combined heat and power server architecture and delivered over an units, and so forth), shifting the revenue- infrastructure requiring long-term investment. generating activity to the periphery and Markets have to reallocate services in the reducing overall private investment incentives. short-run to meet demand, supply and price Newbery identifies conditions under which shocks while providing investment and capacity auctions will avoid the inefficient capacity balancing for the network as a whole. equilibrium and recommends regulation for Balancing is critical in networks without much other cases. But the choice of equilibrium storage slack (such as congested transport – like the choice of ISP strategy in the networks and electricity networks). previous example – may be an endogenous A large literature has analysed the contractual consequence of evolutionary forces and forms and novel assets arising, and various network geometry. regulatory institutions have been used to assist Reduced to its simplest form, a co-ordination their function. But contingent contracts, novel game has two strategies – aggressive or timid derivatives and the like are adapted to eliciting bidding – either (but not both) of which could and aggregating information to reach unique prevail in equilibrium. Because the auctions run outcomes and work best with relatively repeatedly, firms may adjust their strategies as exogenous shocks. circumstances change. They will not do so every time; necessary computations are complex and But there may be multiple equilibria as depend on the expected behaviour of other in Newbery (2003) which gives rise to a bidders who may in turn be learning. ‘co-ordination game’ problem: if bidders believe the auction will lead to weak In addition, participants do not always face Section 3: Economic regulation beyond 2010 Section 3: Economic regulation beyond infrastructure investment, they may anticipate the same bidders, as demand and supply regulatory efforts to secure additional critical fluctuate. We can model the situation using a infrastructure investment, further weakening variant28 of Young (1993), in which players bidding and leading to a low-investment periodically re-optimise their strategies in the 191 equilibrium with an ongoing need for light of opponents’ current behaviour. Due to regulatory support. imperfect information, they do not always succeed and result in a Markov process whose Alternatively, strong bidding can lead to states are distributions of bidding strategies. higher direct investment and returns that reflect limited supply and lower regulatory In a fully-connected network (where the set distortion and cost. The inefficient of bidders is the same and comprises all users of equilibrium could be headed off by regulatory the rights on offer) the long-run stable outcome commitment but this seems difficult, behaviour is the ‘risk dominant’ bidding

28. See Young (1993) for the basic model, and RAND (2006), Annex A for an application to the ISP game. 29. This analysis deals only with long-run outcomes. The short-run behaviour may display sudden jumps or cycles, but the same policy interventions or market conditions that encourage efficient behaviour mitigate these problems as well. 140-201 6/11/06 20:27 Page 192

behaviour that would be best against a instance, creates new issues for regulation but randomly-bidding opponent. Quite which also creates new possibilities for attaining equilibrium meets this criterion (or its multi- regulatory objectives. These range from the strategy generalisation) depends on out-of- relatively trivial (for example, using ICTs for equilibrium outcomes. Conditions for evolution electronic mechanism implementation) to the in the direction of the efficient equilibrium are more profound – such as the emergence milder than those under which capacity auctions of layered structures and sector convergence always work – and the corresponding light-touch or splitting, that allow regulation ‘at a regulation may be relatively modest.29 distance’. We noted that regulatory and market structures tend to co-evolve, and that There are also additional challenges for inappropriate outcomes on one side can be regulation of network industries arising from stabilised on the other. New forms of the network layering. Regulation of parts of regulation, including self- and co-regulation, extended value chains (such as essential facility make greater use of commercial interactions and access price) exploits competitiveness to address governance issues. Finally, advances in one layer to mimic market outcomes in in mechanism design experience and analysis others, with suitable vertical coordination and have led to better (and better-understood) cross-ownership controls. Similar principles options for meeting new challenges and should apply in layered network industries but recognising and relinquishing obsolete ones, the dynamics and bypass possibilities may be as well as a new suite of candidate market greater. Bypass is not harmful in itself. designs and business models. We conclude Proposals for auctioning universal service by describing two specific possibilities. provision rely on incentives to develop more efficient ways of meeting universal service One is a market for regulatory liability, access needs. Problems arise from persistent isolated and/or compliance. This could concentrate

Market-based alternatives or complements to regulation Market-based alternatives pockets of inefficiency and the threat that compliance around a regulated firm or take bypass might pose to ‘converged’ regulation. the form of compliance outsourcing. The latter market may show a ‘tipping’ reversion from One particularly difficult aspect is cross-sector 192 oligopoly regulation to a co-regulatory convergence, when entrants with superior relationship with an industry representative. network reach can achieve predatory market The only difference would be market- power across other sectors. Another concern mediated participation, which would certainly is the ability of differently-configured network lower compliance burdens and distortions and or network-enabled service providers to could also mitigate hold-up and foreclosure. ‘unbundle’ economic, sectoral and societal regulatory objectives. An example is the The second is a market for regulatory services. current evolution of VoIP services and Given partially overlapping jurisdictions and emergent business models for exchange regulatory agendas, there seems little a priori of copyrighted content. reason why sectors or individual firms should be regulated based solely on the jurisdiction Conclusion of establishment or on changeable ‘principal The discussion above considers the forces lines of business’. There is some evidence that driving regulatory change. Technology, for local oligopoly provision of regulation has led 140-201 6/11/06 20:27 Page 193

to regulatory flight, forum-shopping and even auctions, Journal of Economics and the distortion of business models and Management Strategy, 6(3): 497-527 investment flows. These may have as much Averch, H. and L. Johnson (1962) Behaviour to do with specific regulators’ policy objectives of the firm under regulatory constraints, and tools as with their regulatory remit. American Economic Review, 52(5): 1053-1069 A system whereby firms – especially those operating in multi-jurisdiction markets – Bacon, R. (1996) Competitive Contracting for could choose among competing regulators Privately Generated Power, in Public Policy or provide acceptable self-regulation – would for the Private Sector: Infrastructure. seem eminently feasible and could produce Washington, D.C. World Bank Group a more proportionate allocation of regulatory burdens, mitigate ‘unforeseen consequences’ Baron, D. and R. Myerson (1981) Regulating a of broad directives and provide efficiency monopolist with unknown costs, Econometrica, incentives for regulators themselves. 50(4): 911-930

Mechanism design tools, traditionally and Cave, J. and S. Salant (1995) Cartel Quotas sparingly applied to firms, can be applied to Under Majority Rule, American Economic a population that includes all stakeholders Review, 85(1): 82-102 (including regulators). The result will be Cave, J. Georghiou, L. and R. Wilkinson transfer of some command-and-control (2006) Public Procurement for Research and functions to suitably-regulated markets and Innovation: Developing procurement practices a greater dynamism of regulation itself. favourable to R&D and innovation, European References Commission

Armstrong, M. and J. Vickers (2006) Cramton, P. and S. Stoft (2005) A Capacity Market that Makes Sense, Electricity Journal, Competitive Nonlinear Pricing and Bundling 2010 Section 3: Economic regulation beyond mimeo at: http://else.econ.ucl.ac.uk/ 18: 43-54 papers/uploaded/220.pdf Crew, M. and P. Kleindorfer (2002) Regulatory Arozamena1, L and E. Cantillon (2004) economics: 20 years of progress?, Journal of 193 Investment Incentives in Procurement Auctions Regulatory Economics, 21(1):5-22 Review of Economic Studies, 71(1): 1-18 Demsetz, H.(1968) Why Regulate Utilities?, Arrow, K., and R.Lind. (1970) Uncertainty Journal of Law and Economics, 11, 55-66 and Public Investment Decisions, American Engel, E., Fisher, R. and A. Galetovic (1997) Economic Review, 60: 364-78 Revenue-Based Auctions and Unbundling Ausubel, L. and P. Milgrom (2004) Infrastructure Franchises, Inter-American Ascending Proxy Auctions, Stanford Institute for Development Bank, Infrastructure and Economic Policy research Paper, 03-035 Financial Markets working paper, IFM-112

Ausubel, L. Cramton, P. McAfee, R. and J. Joskow, P. and J. Tirole (2004) Reliability and McMillan (1997) Synergies in wireless competitive electricity markets, NBER Working telephony: evidence from the broadband PCS Paper No. 10472 140-201 6/11/06 20:27 Page 194

Laffont, J-J (1994) The new economics of Sorana, V. (2000) Auctions For Universal regulation ten years after, Econometrica 62(3): Service Subsidies, Journal of Regulatory 507-537 Economics, 18(1): 33-58

Mason, R. and T. Valetti (2001) Competition Stavins, R. (1998) What Can We Learn From in communication networks: Pricing and The Grand Policy Experiment? Lessons From Regulation, Oxford Review of Economic SO2 Allowance Trading, The Journal of Policy, 17(3):389-415 Economic Perspectives, 12(3): 69-88

Milgrom, P. (1996) Procuring Universal Service: United States Department of Justice (1991) Putting Auction Theory to Work, Lecture at the Comments of the United States Department of Royal Swedish Academy of Sciences in honor Justice in Response to Notice of Proposed Rule- of William Vickrey’s Nobel Prize making, Docket No. RM91-11-000, for In Re Pipeline Service Obligations and Revisions to Mougeot, M. and F. Naegelen (2003) Using Regulations Governing Self-Implementing Auctions for Contracting with Hospitals When Transportation Under Part 284 of the Federal Quality Matters, International Journal of Health Energy Regulatory Commission’s Regulations at: Care Finance and Economics, 3(1): 5–23 http:// Newbery, D. (2003) Network Capacity www.usdoj.gov/atr/public/comments/200509.pdf Auctions: Promise and Problems, Utilities Williamson, O. (1985) The Economic Policy, 11(1): 27-32 Institutions of Capitalism, New York: Salant, D. (2000) Auctions and Regulation: The Free Press Reengineering of Regulatory Mechanisms, Young, H.P. (1993) The Evolution of Journal of Regulatory Economics, 17(3): Conventions, Econometrica, 61(1): 57-84 195-204 Market-based alternatives or complements to regulation Market-based alternatives Shleifer A (1985) A theory of yardstick competition, Rand Journal of Economics, 16(3): 319–327 194 140-201 6/11/06 20:27 Page 195

Communications policy, economic policy. The inextricable link Reed Hundt Senior Advisor, Telecommunications and Technology, McKinsey & Company

For any country, its communications policy is continents and the American machine kept one of the most important aspects of its overall generating new wealth. economic policy. But where did all that growth come from? The In fact, the microeconomics of communi- surplus was an effect, more than a cause. If cations markets drives much of the macroeco- investment was the fuel of this growth engine, nomic performance of national and regional what provided the ignition plug that caused it economies. It follows, then, that if you want to to roar into life? The answer, according to Paul determine the best communications policy, Romer and the other new growth theorists of the start with selecting the goals for economic late 1980s and early 1990s, was technology. And policy as a whole. nowhere did technology show its suzerainty more dramatically than in the communications The desired result for most countries will be and information sector. the same: to create ubiquitous broadband access for which public users such as schools At the core of not only American but global and libraries pay nothing, private users pay economic growth since at least the early 90s was only a little more than nothing, and virtually a trilogy of technology advances, identified by 2010 Section 3: Economic regulation beyond everyone is on the net all the time. cable tsar John Malone as the microprocessor, digitisation and fibre optics. In more general Economic growth is the best social policy, terms, hardware, software and the networks to 195 preached Robert Rubin, and indeed while he carry data were responsible for the economic was President Clinton’s Treasury Secretary boom that started in the United States and now Americans of all income classes saw their wages reverberates throughout China, India and the rise. Coupled with a judicious tax policy, that rest of what was formerly, and rather economic growth produced a strong American derogatorily, known as the Third World. dollar, a national government surplus, a stock market boom, and increased investment in Yet technology is just technology. Alone, capital. Even when the stock market inflated it could have done nothing to improve into a bubble and popped into a bust, standards of living, had entrepreneurs been American growth tempered only slightly. From unable to translate its breakthroughs into 1998 to 2003, the United States accounted for goods and services generated, distributed and 98 per cent of all global economic growth, as sold in ever-increasing volumes and at ever- China’s growth was offset by declines in other lower prices per unit. 140-201 6/11/06 20:27 Page 196

The entrepreneurial revolution in information applied by the Federal Communications and communications policy deserves as much Commission (FCC) in the 90s, encouraged credit as scientific discovery for the fact that competition in services or applications the United States became the epicentre of the developed in that physical medium. growth earthquake. That development had its That medium can be wire-based or wireless; roots in the American culture. Its three archi- it can be Malone’s famously identified fibre, tectures were the openness of technological Alexander Graham Bell’s copper or Marconi’s knowledge, the strength of the leadership gene electromagnetic waves vibrating in the non- or character in American business, and the existent ether at distinct frequencies which commitment to open markets of American were capable of coding messages through law and regulation. modulation of many kinds. Until the 90s Genetic entrepreneurship such media were owned by governments and assigned either to state-owned or state- However, in the 21st century, the United regulated firms organised into monopolies States has tended to dismantle all three or oligopolies. architectures. Secrecy has cast a veil over openness, as intellectual property rights have The tremendous change in the 90s was the become excessively complex and extensive. imposition of the concept of communication Too many leaders have contributed to a across networks of networks. Instead of one culture of deception, and law has been used firm operating a single network from a client to close markets and limit freedoms. device (such as a computer or telephone) to all other client devices, many firms might Nevertheless, even when judged by its short- build and operate pieces of networks that comings, entrepreneurship lies in the DNA of could interconnect. Any particular packet of American culture. Indeed, some scholarship communication might trace a route that, like a

Communications policy, economic policy. The inextricable link economic policy. Communications policy, suggests that this trait is literally genetic – pathway traversing the property of different those people who migrated from their origins landowners, comprised portions of many in eastern Africa to Europe and, ultimately, different networks. To make this new model to America, brought their exploratory genes. 196 practical, the new legal paradigm granted Even if this is true, surely nurture as well every network owner the right to lease and as nature breeds entrepreneurship, and the connect to other networks. particular nurturing force for information and communications rivalry in the 90s was the set Just as important, although far less clearly of policies embodied in the Tele communi- identified in the early years, this new para- cations Act of 1996. digm also granted users of the networks the right to be free from commercial restrictions It was a law aimed at breaking up monopoly imposed by the networks. The most impor- and opening the communications and tant example, by far, was that American information markets to new entrants, in two telephone companies could not charge extra, dimensions. First, the law used unbundling much less deny the use of their networks, to and other network sharing provisions to those who leased the network for the purpose encourage competition in the physical medium of carrying bits to and from computers of communications. Second, the law, at least as participating through common shared 140-201 6/11/06 20:27 Page 197

software, in the vast voluntary consortium prices by the turn of the millennium fell fast called the World Wide Web. enough to enable some consumers to substitute wireless for wire. To extend the metaphor, if some wanted to use the pathway over the network of networks, for Under the Bush administration, the policies singing and dancing, the network owners could shifted back toward permitting network not charge for, or otherwise limit, that activity – owners to use their physical medium in order even if they were also in the business of selling to obtain competitive advantage in the services songs and dreaded losing revenue to all the new or content markets that used the ‘pipe’ to gain collaborating singers. So it came to pass from access to consumers. Similarly, the Bush the early days of the new paradigm that the far- ‘reforms’, championed by Congress and the sighted could see that the web would destroy regulators at the FCC and in the Department the voice business. If client devices could use of Justice, with crucial help from the White software to send messages over the physical House and friendly judges, encouraged wire- medium of the networks, then the network based businesses to consolidate with each owners would not be able to charge money other, and to acquire wireless firms. for the service of carrying such messages. Yet the web kept escaping the grasp of The purpose of the new paradigm was to both regulators and consolidators. The new open up the market to entrepreneurs to phenomenon of the web was social net- build networks and generate new services. working, meaning that end-users connecting The desired effect was to lower the cost of to each other fashioned their own content, transmission of such information and to and demanded low-price, high-speed connec- expand the potential for value creation in tions to make it happen. Services such as the form of web-based businesses and social Skype, Vonage, Facebook, MySpace, YouTube activities. New goods and lower transmission and millions of individual blogs represented cost led to expanded economic growth and intensely creative user-managed and user- 2010 Section 3: Economic regulation beyond a higher standard of living. crafted content of both voice and video dimensions. They placed new demands on In this new world, communications networks physical network owners while, at the same 197 were divided between conduit and content (or time, almost casually supplanted at least some bits carried), and the so-called triple play of of the value-capturing strategies of traditional voice, video and data (a.k.a. web material) was content generators, such as movie studios in not then necessarily provided by the owner of the visual arts and voice connectivity by the the conduit. traditional telephone companies. The new paradigm was anathema to the Content vs. conduit American network owners. Meanwhile, they faced the additional threat of the fourth In current times, then, the battle between addition to the triple play: wireless services. content and conduit has taken on a new shape. Under the auction methodology of the 90s, It now appears that the pro-content side carries the FCC in the United States created a multi- the banners of individual freedom and creativity. firm competitive wireless market that drove The content side now seems to embody much prices down and penetration up. Wireless more of the entrepreneurial spirit that in the 90s, 140-201 6/11/06 20:27 Page 198

under most aggressive regulatory intervention on Suppose telephone companies in the United behalf of market entry, could also be found in States installed a fibre access network to my the conduit markets. house. In general, they would have to spend a couple of hundred dollars on the electronics, We saw recent proof of content’s power in about $400 on labour, and about $200 on the rise of the net roots – frequent visitors to overhead (and these numbers could be on the popular blogs, especially on the left of the low side). But who would pick up the tab? political spectrum – as a source of some Either the Government has to fund it from significant opposition to the new telecom- taxpayer’s money, or shareholders have to be munications bills moving through Congress. willing to make the investment in return for In general, these bills focused on enhancing the prospect of profit. There is no other way to the power of the telephone companies, some- pay for the build of that fibre. Yet without it, I what at the expense of cable, and definitely to cannot watch the video, much less send my the disadvantage of social networkers, content own breakthrough-contribution to YouTube. firms and consumers. The net roots denizens rallied support for open networks, under the But what is the national economic policy in code name ‘network neutrality’ and, at the the United States – or indeed anywhere? time of writing, at least temporarily halted According to Michael Porter in the Competitive the congressional progress. Advantage of Nations, it is to generate a high and rising standard of living for the country’s What, then, is the new economic policy of the citizens. Although Professor Porter does not current one-party government? No one knows. dive into the details of communications policy, There is a distinct lack of co-ordination in the that standard of living goes up, generally, as United States Government on policy issues of the cost of transmitting bits falls and as the all kinds. No one seems to have decided what number of people reached by the means of to do about North Korea; the calamitous

Communications policy, economic policy. The inextricable link economic policy. Communications policy, transmission grows. In other words, a major, events in Iraq, Israel and Lebanon; or issues at perhaps essential, contributor to a high and home, such as the federal deficit and the rising standard of living is ubiquitous and truly widening income gaps among Americans of high-speed broadband at very, very low cost. 198 all classes. Not surprisingly, the crucial topic of communications policy also draws less To this end, every nation needs a network and, focused attention than at any time in the 90s even better, a network of networks, in which or even the 80s. case a country can depend on competition to generate new technologies that increase the Yet policy-makers deserve some charity speed and extent of broadband access. because, in fact, good communications policy Particularly vital to this end is the creation of at this point in the development of markets unlicensed and licensed spectrum in vast and technology is particularly difficult to amounts, so that a licence is as easy to obtain determine. It does seem plain, for instance, as a franchise to open a Starbucks coffee shop. that if a big firm or millions of individual users want to send large video files over This need is always underestimated when physical networks, they must expect the national policies are shaped: in country after builders of those networks to be reimbursed country, too few wireless licences are granted for the cost of transmission. with the inevitable effect of diminishing 140-201 6/11/06 20:27 Page 199

welfare gains. There is no reason why the to make sure that network builders have market for spectrum should not be flooded enough profit to encourage them to build with licences, just as there is no reason why a high-speed networks. On the other hand, it mall should not have as many stores as there wants the input of communications services – is demand by retailers for space. In addition, the transmission of bits – to make a very small unlicensed spectrum can be an ideal testbed addition to the total cost of generating the for innovation: WiFi has grown to be a major fascinating new services that produce a high new technology precisely as a result of using and rising standard of living in today’s unlicensed spectrum to experiment. information societies.

Similarly important are pole access rights; easy The first of these goals – incentivising the and rapid licensing of municipal WiFi net- network builders – is tricky. A nation wants works; accommodating zoning authorities its networks to provide rapidly increasing eager to permit wireless towers to be erected; capability at a rapidly decreasing cost per unit of reliable regulation of very cheap intercon- information carried. It wants the performance nection; and some unbundling of essential and function of the microprocessor industry to facilities, if any exist. be replicated in physical networks: namely, every year or two, the performance for constant However, self-interest dictates that any owner cost should double, and the cost of existing of a physical medium will want to provide performance should halve. content and, at the same time, give their own content an advantage against rivals. If the To this end, a nation’s networks, as Malone said owner of a road wanted to go into the taxicab in the early 90s, should borrow from and build business, it would of course deny the road to on the microprocessor and its related tech- its rival cabs, or charge them an amount equal nologies. That implies the use of common and to their firms’ profits to use the road. This open protocols, software that is internet- impulse could motivate competitors to build compatible from end-to-end, and easy interop- 2010 Section 3: Economic regulation beyond their own roads, but meanwhile it’s the erability with applications software of all kinds, passenger who suffers, either by paying for the ranging from voice replication to search tools. service offered by the road owner or simply by 199 The design of the physical networks, in short, not being able to afford to travel. should reduce the advantages of proprietary, Similarly, as social networking is seemingly first-mover installation and translate semi- inventing new forms of collaboration in all conductor advances into ever-cheaper trans- spheres every day, particularly in mission costs. Ultimately semiconductor entertainment and politics (a distinction that technology will bring light waves, instead is often blurred), the loss to a nation’s of lower frequency radio waves, through standard of living from the lack of access to networks right into client devices, enabling very cheap and ubiquitous communications ubiquitous visual computing. The user will networks appears greater all the time. literally and metaphorically be able to see everything in the world that ever existed or Defining the policy does exist. That will be the fulfilment of what What, then, should a nation adopt as its policy James Joyce referred to in Ulysses as the for communication? On the one hand it wants “ineluctable modality of the visible”. 140-201 6/11/06 20:27 Page 200

In order to achieve this rapid expansion of particular political jurisdiction, in return for networking capability, any nation needs to have which it would obtain the aforementioned its networks become combinations of wire and partial subsidy of public funds. Its owners wireless networks. It is quite acceptable for any could charge anything for providing connec- nation to stimulate network build-out by tivity – but could not offer any service, such as providing taxpayers’ money, whether by letting voice. The owners would have to obtain at least contracts for networking rural areas or granting 90 per cent penetration of the high-speed tax breaks to network builders. connectivity, a driver that would limit what would be charged better than any regulation. The economists tend to recoil at such The owners could price-discriminate; that is, programmes, but roads and public (state) charge each connected party a different price for schools have not served the nation all that connection. But, to repeat, the owner of the badly for Americans. People should not ignore one partially publicly supported network would the lesson that some public money can provide not be able to compete in service provision. some useful public services. The cost of a few months in Iraq, for an actual example, would As for all the private networks – those who suffice to close the gap between what con- are not providing the public ‘network-neutral’ sumers are willing to pay, and what network connection – they could connect to anyone and builders have to invest, to fund broadband provide any service, whether theirs alone or the networks to most of the United States. services of others. By analogy, Sony is free to The essential step in all cases, however, is to offer and sell PlayStation, with proprietary, assure that such networks be open to the closed, non-internet content; Apple can intro- fundamental design efficiencies of semicon- duce the proprietary and unconnected iPod. ductor technology. That is a kind of openness One, very low-cost, very high-speed, public that is vaguely, although poorly, reflected in network ought to be enough to assure that the

Communications policy, economic policy. The inextricable link economic policy. Communications policy, the debates over network neutrality. others would either offer distinctive services of To advance technological openness, a nation a proprietary nature that had their own value, should designate at least one of its major or would provide ‘open access’ to all websites 200 networks – whether wire, wireless or a simply in order to be competitive. In this para- combination of both – as its chief open network. digm there would perhaps be no investment Its owner, or owners, ought to be required to in private networks. Yet private schools exist increase continually the available bandwidth and side by side with public schools; cellular should obtain government subsidies for this services exist next to wire-based services. There purpose, awarded to the low-cost provider by is always some demand for the special or bid, with the contract renegotiated every three distinctive services of private networks with years. This network would be open, or neutral, as private content as against the public network. to content and all other software. It would be the And if that demand ever dissipated, then the public highway, in a landscape that might also country would still have the public network. include many private highways. As I explain in my book, In China’s Shadow: The In addition, this open network would have the Crisis of American Entrepreneurship 1, the world is assigned task of reaching everyone in any not flat. The dramatic drop in communication

1. Yale University Press: October 2006 140-201 6/11/06 20:27 Page 201

costs and the equally dramatic increase in economic wisdom is the creation of a capitalism have not created equality in trading microenvironment for any particular industry relationships among nations, nor competition that promotes productivity gains, vigorous among people and firms. Instead, advantages competition, one or more big winners of that obtained by some are even greater than competition, and easy entry by rival firms so they were in less competitive eras. as to keep the next cycle of competition rolling quickly through time. In turn, that easy Within nations, winning classes obtain even entry, as taught by Tim Bresnahan of Stanford, more income than those in the comparatively is dependent on divided technical leadership poorly performing classes. Between any two in the particular market, a cycle of significant nations, the principle of free trade does not technological change (many “10x inflection assure increasing equality of wealth, but rather points”, in Andy Grove’s terminology), and tends to produce big winners in firm-to-firm adjacent market entry. competition coupled with the real possibility that most of the winning firms will be in one These three attributes of a dynamic, country rather than in another. The fans of productive, wealth-creating economy would teams in the American League of Major League all be enhanced by ubiquitous physical wire Baseball, which typically wins All-Star games and/or wireless networks that rely on open and interleague contests, simply enjoy a semiconductor technology and open software higher standard of baseball. Similarly, the protocols. A good economic policy depends citizens of countries that host winning firms on that underlying fabric of communication will enjoy a higher standard of living than the just as, in the great boom of 1845 to 1870, the citizens of countries hosting losers. underpinning was railroads, and in the great boom of 1945 to 1970 it was highways. But Workers, of course, also compete in local and railroads and highways had to be opened by global labour markets. They win if they work

regulation and government spending; so both 2010 Section 3: Economic regulation beyond in winning firms; they lose, on a relative basis, these tools, wisely deployed in sparing but if they work in losing ones. Losers can look for surgically smart ways, are necessary for some support from national governments but national economic success in the current the best social policy, it will be recalled, is a 201 potentially long boom of the 21st century. fine economic policy. The key to such 202-259 6/11/06 20:37 Page 202

section 4 Utilising the airwaves 202-259 6/11/06 20:37 Page 203 202-259 6/11/06 20:37 Page 204 202-259 6/11/06 20:37 Page 205

The future of regulation – not Peter Cochrane ConceptLabs, Co-Founder

Pre-amble and security devices operating wirelessly; maybe a local area network for computers; Take a look back over the development of and the ubiquitous cordless phones, mobile international and countrywide communication phones and perhaps walkie-talkies, and so systems, and they all have one thing in on. If you’re in any doubt as to the rate and common: they have needed some form of pace of change, just try adding up the number control in order to orchestrate resources and of transmitting devices you own. (I gave up achieve the highest efficiency. And, once they at 70.) attain a certain scale, they have tended to be overseen, regulated and managed by one The fact is, it would have been extremely rare government body or another. to find any kind of transmitting device in the analogue home of even 50 years ago. Those This has certainly been the case for radio who did own one would have been an amateur technology and a spectrum dominated by radio enthusiast, or perhaps an official who analogue technologies for over 100 years. worked for the Police, the Fire Service, military Which begs a question: with the emergence and the like. (Or, indeed, a spy..) The vast of radically new digital technologies marking majority of transmitter sites were also owned Section 4: Utilising the airwaves a wholesale revolution in broadcasting, do we by the BBC, the General Post Office, actually need regulators, or government emergency services, military and utilities. interference, at all? 205 Interestingly, the real proliferation of Even a quick look at how we use radio transmitting devices has taken place very spectrum today points to a future where quickly, in the last 20 years, as a result of the everything has fewer wired connections. Just digital revolution. There’ll be more of the compare, for example, how many wireless same over the next 20 years as well. I think it’s transmitters you’ll find in a typical home safe to say, then, that wireless devices are here compared even to your parents’ time. There’ll to stay – and that, to some extent, their spread be the inevitable congregation of remotes – is already out of control, and will become perhaps at least four, for hi-fi, TV, set-top boxes increasingly so. and DVDs. As someone who worked as a wireless engineer It’s odds-on there’ll be a bunch or two of car in the analogue days, I find it nothing short of keys with wireless transmitters, and perhaps miraculous that these millions of wireless even a remote control for the garage door. And systems can coexist, and apparently work then of course, there could be burglar alarms 202-259 6/11/06 20:37 Page 206

interference-free. The operational problems that spread across countries; and the move towards used to plague us have magically disappeared DIY radio systems as the norm – and we are with the arrival of digitisation – yet this is no witnessing a wholesale revolution in wireless. happy accident. It is the fruit of the labours of It’s very likely that we’ll need to retain some small armies of engineers and scientists, who form of band and channel structure for many spend their lives designing systems that can applications, but when it comes to interference, work together in harmony and, most modulation and coding scheme control, it importantly, free of human intervention. looks as though we are heading towards a All of this work is orchestrated by government hands-off regime. This all pre-supposes that, at agencies, regulators and standards bodies across the design stage, the companies producing the the planet, in concert with industry and users. equipment are fully up to speed with the true But new technologies are arriving that call operating mode, the environments in which into question whether these traditional roles, their equipment will be placed and used, and shaped and formed in an analogue world, are what it will really be used for. Providing this is relevant any longer. In the same way that typing so, it seems entirely possible that the role of pools and reprographic departments are relics government and regulator will at least be of another era, so governments and regulators diminished, and most certainly changed. also face extinction in their role as the guardians Therefore, I address these likely changes in this of the airwaves. In a digitally-dominated future, chapter, and plot the most probable course for what do we actually need now? the future. The fact that we now have the ability to Some near-invisible forces dispense with the old dedicated bands and channels, devoted to specific use and users, How did we get here? It’s tempting to think it changes everything. New forms of digital is all down to technology, but in reality the The future of regulation – not modulation and signalling allow us to layer changing behaviour of people, society, wide-band signals, one on top of the other, companies and institutions have been without significant interference problems. At powerful drivers also. 206 the same time, we can dynamically limit the • During the 1970s, the population of the UK transmit energy to what’s required to meet our developed a thirst for commercial radio, and Quality-of-Service (QoS) needs. And it gets for the freedom to communicate using the better: we have the power of microprocessors citizens’ band. However, the government to control our systems to the extent of antenna said no. So it happened anyway! Pirate steering and signal adaptation, in order to commercial radio stations were established, achieve continual optimisation – and without people imported cheap CB radio equipment human intervention. from the USA, and the government lost In addition, we have rafts of new technologies control. They had to bow to the will of the that are opening up the radio spectrum above masses and make both legal. 30 GHz to release more frequency space than • During the 1970s and 80s, the retail we have used before. Add to this the need for climate was driven by suppliers and smaller and smaller cells of concentrated companies deciding what we would buy. capacity; a web of optical fibre that is being 202-259 6/11/06 20:37 Page 207

Tx Power # of transmitters Log scale Log scale

Sensors MW Big towers Tns RFID

Mobile phones kW Home Bns WiFi entertainment Mobile cell sites W Emergency services Ms Radio TV mW Small tags Ks

µW 0 1915 2015

Figure 1: Growth in the number of transmitters

Where did we come from… Maxwell’s Equations and a lot of detrimental complexity…

Multi-path via atmospheric diffraction Section 4: Utilising the airwaves

Ps Pr

Multi-path via reflection Multiple 207 interference sources

Refraction Antenna gain D Tx & Rx

2 Ps . Gs . Gr . λ Pr = + Multi-path + interference (4 π D)2

Power transmitted Channel capacity = B log (1+kS/N) bit/sec Power received 2

Figure 2: Where have we come from – dumb wireless systems 202-259 6/11/06 20:37 Page 208

30 GHz total highly used down to 10 KHz 270 GHz mostly unused SHF EHF

100 H2O O2 Highly regulated 10 O2 and controlled Attenuation dB/km 1 H2O No regulation and control required? 0.1 Water and oxygen resonances 24 GHz 60 GHz 0.01 10 Ghz 100 GHz 300 GHz

Short range transmission only due to high path loss Figure 3: The radio spectrum

However, by the 1990s and into the new • Computers and skills migrated from office millennium, the power had shifted to and school into the home with the advent customers, as we drove what they should of the PC. ICT was now demystified: supply. Globalisation and commoditisation everyone could use a PC, and we all began together created a time of plenty with to establish new forms of creativity and

The future of regulation – not falling prices and an abundance of choice communications. across everything from food, clothing, cars • Broadband arrived and sounded the starting and furniture to white goods, brown goods gun for true home and mobile working. – and even homes. 208 In the UK, around 80 per cent of people • The arrival of the mobile phone who are office-based spend at least one day dramatically changed the user mindset. out. Around 30 per cent of the people who People always wanted to communicate used to have an office no longer do, and freely, and now they could with a simple, over 25 per cent of the population are now liberating solution. The single biggest home workers. Work is no longer a place – innovation here was not technology but simply an activity. marketing: ‘pay as you go’ accelerated the • In a plug-and-play world, technology has market to the point where it was become central to all our lives. People buy impossible to live without a mobile device. TVs, PCs, Hi-fi and Wi-Fi, take it home, plug Today, the UK has 90m mobile phones for it up, and get it all to work. And it isn’t a 60m population. And the planet has far only simplicity that drives uptake: year-on- more mobile than fixed-line phones, at year it costs less and less, whilst providing more than 1.4bn. more and more, with even simpler 202-259 6/11/06 20:37 Page 209

interfaces and lower cost of ownership. It’s case of IP networks, eMail, IM, VoIP and a seductive proposition that sells itself. net downloads, the correlations are even stronger. We see the peak to mean traffic • Of course, it is Moore’s Law – the exponen- ratios of each class of, typically: tial growth in transistor packing densities at an exponentially falling price – which is • Fixed line telephone = 3 or 4:1 powering all of this. Just about everything • Mobile telephone > 50:1 we now buy is packed with digital electron- ics, and gradually this will include wireless • Internet > 1000:1 technology. Cars, TVs, Hi-fi, PCs, laptops, PDAs, MP3 players and indeed homes are Of course, central to all this are our mobile all, increasingly, being delivered with a devices and wireless systems. And it is all a wireless capability built-in and mostly for very long way from the old analogue world of free. It isn’t an extra or an afterthought – it’s BBC-only, and no mobility. Some of the key a necessity. changes and forces are shown in figures 4-6.

• Mobility and mobile working have had a Technology to come profound impact on the way we view Why did we go digital? The reason seems to networks and the way they are designed and have been lost in the mists of time, but it’s operated. Fixed line telephone networks simple: economics. As telecoms started to tend to be governed by randomness, with expand in the 1960s, it became clear that little correlation between calls. Mobile switching and transmission standards would networks, in contrast, are governed by far be increasingly expensive, if not impossible, more chaotic behaviours. There are strong to maintain transmission standards in a truly correlations between people-clustering, global network. events, device and call-events. And in the Section 4: Utilising the airwaves

Digitization of everything… and exponential growth 209

Everything/one is getting connected… and mobile

Devices are getting smaller, smarter… and cheaper

Customer demand… and an explosion of broadband

Figure 4: Disruptive forces 202-259 6/11/06 20:37 Page 210

Business and customer drivers

< 1960/70 > 1980/90 Monopoly Market

Me Me The supplier It’s about… The customer

Figure 5: It’s about me, the customer

It also became rapidly apparent that the The early mobile digital systems (2G) used variability of analogue solutions and systems relatively narrow channels, allocated in bands could be removed from the equation by going (with speech seen as the primary service) that digital. And so the decision was made country- were strictly controlled and regulated. To some by-country: go digital for all transmission and extent they look very similar to the early (1G) switching systems, and so reduce costs and analogue mobile systems that used even increase inter-working compatibility. narrower band channels, the only difference being the modulation mode. But when the What was not contemplated at the time was the latest technology (3G) arrived, it started with impact this decision would have when overlaid the objective of delivering digital content on with the decision to go all-digital in computing. The future of regulation – not the move, and to that end it looks truly digital. Well, as we know now, the space race and the integrated circuit changed everything. A revo- Instead of using conventional (analogue-like) lution duly followed with the PC, internet, IP channels, 3G systems use a Spread Spectrum 210 networks, mobile phone, electronic games and mode that sees coding as the differentiating digital content. So what happened to radio? mechanism. This is why signals are very broad It got smart. and can be layered on top of each other without interference. This was first demonstrated Instead of simply being static and pumping around 1945 as a means of hiding signals from out a fixed amount of power in all directions, the enemy in WWII, but at that time involved the communication and control between not a handset but a room full of computers! mobile transmitters and receivers saw power Within the last decade our advancing digital levels continuously adjusted to the minimum knowledge has allowed us to accelerate this required to maintain a given Quality of Service. technology to become a commercial proposi- Next, a degree of dynamic antenna steering tion; we can now do the necessary digital (or, more precisely, ‘sectoring’) was introduced signal processing on a fraction of a single chip. to beam the energy between two or more devices in order to further reduce unnecessary So what lies in the technology pipeline that radiated energy. will cause another giant leap in utility and 202-259 6/11/06 20:37 Page 211

The dream… seamless access!

Cameras • VOIP • Sensors • Positioning • Tracking

Personal space Campus, office City community Cellular/satellite airport, home international

3m 30m 3km Ubiquitous

PAN LAN MAN WAN

Bluetooth WTAN WMAN HSDPA UWB 802.11x WiMAX WCDMA RFID WiFi Beam forming UMTS

Figure 6: The dream of seamless access

usability? In a phrase: dynamic adaptability – opportunity for further exploitation, should in every dimension. Computing power allows our technology allow. us to search for unused spectrum, adapt our Beyond the raw wireless technology, it is the signal to the available channel and comms

management software and systems that offer Section 4: Utilising the airwaves needs, and just get on with it in a dynamic another big gain. If frequency, space, power, manner we have never seen before. The time and code can be managed dynamically, spectrum then looks more like a freeway than then so can the communication session. Real- a railroad; space is a variable rather than a 211 time and delayed messages/signals can be fixed and rigid quantity. mixed with real-time channels held open and The false perception of today’s regulated delayed, and becoming opportunistic as shown airwaves is that every Hz of space has been in figures. 9, 10 and 11. allocated and is in use, and that there is a severe As terminals are increasingly mobile then the lack of spectrum. Nothing could be further use of beam steering antennas also becomes from the truth! Recent studies across the USA more attractive. Being able to harness scattered have shown that even very ‘wireless-dense’ energy, as opposed to trying to cancel or limit environments such as the city of Chicago, very its effects, is a really positive move in terms of seldom exceed 17 per cent of the available maintaining QoS and minimising transmitter spectrum in use today (up to 30 GHz). So, of power. Again, this is only possible with low- the total spectrum theoretically available cost computing power. (up to 300 GHz) this equates to around only 1.7 per cent. Clearly, there is considerable 202-259 6/11/06 20:37 Page 212

Note that digital coding in the spread spectrum sense implies dynamic changes in time, frequency and power distribution

Frequency Space Power Time Code

Analogue 1 a

Analogue 2 a a

Analogue 3 a a a

Digital 1 a a a

Digital 2 a a a a

Digital 3 a a a a a

Digital 4 Dynamic/ Dynamic/ Dynamic/ Dynamic/ Dynamic/ adaptable adaptable adaptable adaptable adaptable

Figure 7: The migration from analogue to digital systems

So, there we have it. Humans are taken out of reflections and interference, and we have all the loop, control is given to the machines and the fundamental elements that dictate the self-organisation wins over hierarchy. Which ultimate performance of all wireless systems. begs a question: why will we need control and

The future of regulation – not There is no magic, nor short-cuts to success; it regulation of the spectrum? is down to physics and engineering. And in A clean sheet of paper this regard the analogue era has taught us a lot about propagation, noise and interference 212 Given the incredibly complex situation we now below 30 GHz. Broadly speaking, the segmen- find across the board in the wireless space, it tation by frequency (and, of course, wavelength) is worth starting with a fundamental question. of the spectrum into global, national, regional If we had a clean sheet of paper, with no and local reach systems (by way of the ELF, VLF, analogue past, no history, only digital systems, LF, MF, HF, VHF, UHF and SHF) has worked and no spectral occupancy anywhere – what well and seems to form natural divisions for would we do? technology, applications and performance. The first observation to make is that analogue The reality is that we don’t have a clean sheet of and digital systems still have to obey the basic paper below 30 GHz where we have a growing laws of physics. Information and field theory – mix of analogue and digital systems with a Shannon’s Law and Maxwell’s Equations gradual migration to all-digital. It is fair to say (figure 2) – still apply, as do the Radar Range that governments and regulators are going to Equation and the propagation conditions for be engrossed in the progressive mode change radio waves. Add man-made and natural noise, 202-259 6/11/06 20:37 Page 213

Analogue and early (dumb) Time digital systems with a signal of a fixed capacity locked into a single 26 channel in a fixed band Channel

Public mobileFixed radiontechnologyData Video Mobile telephony Signal bands and channels are fixed for purpose and not subject to change or dynamic repurposing 1234 5 6 Bands channels

Figure 8: Analogue bands and channels

over, reallocating and repurposing of these overload (figure 12). Moreover, with the advent bands for a decade or two yet. So let us look of VoIP, even more traffic is adding to the at what might be done above 30 GHz and see concentration at wireless LAN nodes, but with if we can establish some basic principles; we the added requirement of no packet loss and can then return to the sub-30 GHz region and minimum delays. The only way this can be look afresh. generally accommodated is through the provision of more capacity, which translates Above 30 GHz to ever-smaller communication cells.

Frequencies above 30 GHz have largely gone Section 4: Utilising the airwaves Then, entering stage left, come two extra com- unused because of the high path attenuation peting areas: home entertainment and games. due to atmospheric resonances (figure 3), and Several manufacturers are looking to employ the difficulty of building the necessary 60 GHz wireless systems to link all of their 213 electronic circuits. But now, we have both the HiFi, TV, DVD, Satcom, Games and domestic technology and the need. Electronic devices appliances with links into all computers, lap- clocked at speeds in excess of 350 GHz at room tops and servers. This will see the wireless home temperature are in the lab at the leading-edge, and office with integral broadband connection, whilst devices operating in the 100-180 GHz WiFi, Bluetooth, 2.5 and 3G and VoIP. range are available. In addition, we have to

hand smart antennas, coding and modulation The design philosophy is simple: due to O2 technologies, and the processing power to absorption in the atmosphere, operating under control and optimise our future systems. the 60 GHz attenuation peak will ensure very little room-to-room and house-to-house As people cluster with their electronic devices, interference through the natural filtering and the bit density (bits/unit volume) to be attenuation provided by Mother Nature. So communicated accelerates to the point where does this mean we might see the same philos- LANs and mobile cell-sites fall over due to 202-259 6/11/06 20:37 Page 214

Time Smart digital signal hops from channel to channel in bands that are dynamically allocated and repurposed to meet demand

Signal band varies during connect time Bands and frequencies Figure 9: Dynamic channel hopping

Smart digital signal hops Time from channel to channel in bands that are dynamically allocated and repurposed to meet demand The future of regulation – not

214 Signal BW and band varies during connect time Bands and frequencies Figure 10: Dynamic band hopping and capacity allocation

ophy applied to WLAN design across this towers, masts and antennas were big and highly region of currently unused spectrum? I think visible; and when just about every element of it’s inevitable. a wireless system was expensive and beyond the pocket of Joe Public – then, yes, it was feasible Regulating the impossible? to licence, control and regulate everything. But When wireless systems were few and far that was then. between, numbering a few hundred, and then a Now, when every device we buy, own and use few thousand; when transmitters and receivers, has an integral wireless device; when they 202-259 6/11/06 20:37 Page 215

Smart digital signal hops in time, frequency and Time space to dynamically meet demand

Space

Signal BW, space and band varies during connect Bands and frequencies Figure 11: Dynamic hopping in time, frequency, space and capacity allocation

A sample of network chaos 400

Active site 300 visitors

200 Section 4: Utilising the airwaves

100

215 0 00.00 06.00 12.00 18.00 24.00 Hours of the day

Figure 12: Network chaos – uncontrolled demand

number in their millions; when they flood in So what to do? Purchasing and operational from abroad and cost virtually nothing; when freedom seems to be the de facto choice. Just let they’re so ubiquitous that Joe Public buys them industry and the public get on with it. Open up even without knowing – then there is little or the wireless spectrum and see what happens! no chance that any form of regulation can be Could it possibly work? I believe so. Just look applied. It would be like trying to squeeze at the licence-free bands supporting WiFi and toothpaste back into the tube. so on. We might have predicted total chaos – 202-259 6/11/06 20:37 Page 216

HiFi Surround Sound FreeView SatTV DVD

Entertainment and IT disconnected, but configured using hard wired solutions. Nothing inter-works or talks together together with ease, and there are wires everywhere!

Hub DSL FTTH Broadband

Server

Figure 13: Disconnected IT in the home and office

The future of regulation – not 2.5/3G mobile HiFi Surround Sound FreeView 216 SatTV DVD

60 GHz WiFi

Entertainment and IT connected and DSL configured using 60 GHz wireless FTTH solution. Everything inter-works and talks together with ease, and wires have mostly gone! Broadband server + back up store + CD and DVD + movie store + Integral 60 GHz + WiFi + Bluetooth + 2.5 + 3.0G

Figure 14: IT connected at 60 GHz in the home and office 202-259 6/11/06 20:37 Page 217

actually, many did – but it works simply cordless phones and so on, in a broad range because of the operating modes and embedded (see table 1). smarts. So would total freedom in spectrum While the above is simply a straw-man and and use be a benefit to society? Without a may raise concerns regarding which precise doubt. More freedom of communication mode of ultra-wideband (UWB) and spread always enlivens and regenerates an economy, spectrum (SS), I suspect that we can operate and there are very strong links between GDP in ‘don’t-care’ mode. All the technical studies and communication infrastructure, connection and trials to date seem to indicate a high level availability and cost. of tolerance between co-habiting systems, What needs to be done? and the emphasis really should be on design, manufacture and operational simplicity. Total freedom in anything is rare, and the Also, because of the geographical separation wireless spectrum will be no exception. provided by the isolating feature at these The first essential is to establish some broad- frequencies, a ‘don’t care’ mode ought to be brush rules and guidelines to ensure that all (naturally) assured. BUT: an industry and participants in this new wireless space can government feasibility study into the full depth co-exist and stand a reasonable success of of this concept would be well advised. operating without problems. If the future is What would happen? truly to plug and play, and be far less problematic than today, it is essential that All the practical evidence suggests that such a the ground rules are thoroughly hammered scheme will work – just as it does, for example, out early with all the participants. Agreeing in the unlicensed WiFi bands worldwide. And modulation, signalling, power and antenna this is at 2.4 GHz and similar UHF frequencies. modes for cells might well follow the trend If there are problems, companies and people

of licence-free bands currently used for WiFi, simply get together and sort them out. After all, Section 4: Utilising the airwaves

Range/Cell Diameter Frequencies Modulation 217

1cm = Chip-to-chip and device-to-device 200 - 300 GHz UWB

1m = PAN, box-to-box, and device-to-device 200 - 300 GHz UWB

10m = PAN, box-to-box, LAN pico-cell 60 and 120 GHz SS

100m = LAN Node/micro-cell 60 and 120 GHz SS

1km = LAN/mobile node + point-to-point 40 and 90 GHz SS

10km = Super LAN/ mobile node + point-to-point 40 and 90 GHz SS

UWB = (ultra wideband) A direct sequence modulated bit stream generating huge spread factor SS = (spread spectrum) A sequence spread signal about a centre carrier and not a simple frequency or channel hopping system

Table 1: Modulation, signalling, power and antenna modes for cells 202-259 6/11/06 20:37 Page 218

PDA Domestic electronic devices Wireless

PC Server Hub/ switch A cloud of connectivity

Router

The old wires and boxes view The new internet access cloud perception

Figure 15: Our future network perception – wires or clouds?

Radio, TV, Hi-Fi, DVD, Satcom boxes and car agreements very hard to reach. And we might keys all co-exist and work, so why not a free- expect digital to creep in here! for-all above 30 GHz? It seems that all the More interesting are the VHF, UHF and SHF The future of regulation – not physics and laws of nature which govern bands occupied by users such as TV and radio wireless communication are even more in our broadcasters, emergency services, utilities, taxis, favour, compared with the depths of 2.4 GHz. mobile phones, telecom carriers, companies, So my engineering guess is that it would 218 aeronautical and the military. These will be indeed work. going digital far faster, but because of their Below 30 GHz strategic and commercial importance they will In today’s world, 30 GHz seems like a small also require some sensitive handling. But there amount of bandwidth, but it is all we have for is no reason why digital prioritisation cannot long and very long distance wireless commu- be built-in to differentiate users and give nication. It is occupied, extensively used and urgency states. In short, spread spectrum, and yet rarely exceeds 17 per cent or so density. So all the other techniques detailed in this chapter, what should we do? The frequencies below 30 are applicable in this space. MHz are the most problematic, since they It should be possible to give the 30 MHz to support a great deal of legacy analogue global 30 GHz spectrum a higher degree of operational radio communication and broadcasting. It is freedom than ever before. The real challenges likely that, for the next 20 years, any change are not technological at all, but established here will be very slow, with international mindsets, commercial gain and political power 202-259 6/11/06 20:37 Page 219

including taxation. After all, it proved impos- companies the freedom of innovation in a sible to get 3G operators to share bands and space where little or no harm can be done. base station sites and cut their individual Open up some of the virgin 270 GHz spectrum install and operating costs by more than to real product trials, get it out to customers 80 per cent – such is the analogue mentality and see what happens. Most importantly, that prevails. Perhaps 4G will see this change? think big. Don’t allocate 0.01, 0.1, or 1 GHz – The reality is that change takes time. get things moving with a 10 GHz slot. Give spread spectrum and UWB some real space, The next step and people some real freedom. I suspect that, The next obvious thing to do is for regulators like Pirate Radio and CB, it is going to happen and governments to try a hands-off approach anyway. It’s just a question of time. for real. Just let go, and give individuals and

Mobile phones > Fixed line = 12 years

Digital fax > Analogue fax = 8 years

Colour TV > Black and white TV = 11 years

CD > Audio tape = 9 years

DVD > VHS tape = 7 years

Digital nets > Analogue nets = 15 years

Optical fibre > Copper and microwave = 20 years Section 4: Utilising the airwaves

40 219 Change Time 20 Years 10 1

Society Companies Consumers Technologies

Figure 16: Change takes time… 202-259 6/11/06 20:37 Page 220

New spectrum-using technologies and the future of spectrum management: a European policy perspective.1 Martin Cave Professor and Director of the Centre for Management Under Regulation, Warwick Business School

This chapter is concerned with the two-way for the EU for the period following 2010, relationship between new spectrum-using implied by the previous analysis, for which technologies, such as ultra-wideband or new legislation is now being considered. software-defined radio, and the future of 1. Spectrum in the value chain spectrum management, especially in Europe. The goal of spectrum regulation and economic After a brief discussion in Section 1 of how regulation should be the same: to pursue the spectrum fits into the value chain and of the long-term interests of end-users. Most observers benefits of promoting spectrum access, Section agree that competition is the most effective 2 sets out the case for a market-based spectrum instrument, although the nature of compe- management regime building on the argument tition in the value chain can be very varied. that spectrum should be treated like any other Figure 1 shows a typical vertical structure of New spectrum-using technologies and the future of spectrum management input. It also sets out the need for smooth production of wireless broadcasting and implementation of flexibility in the currently communications (to the extent that a distinc- prevalent management regime for spectrum, tion between them can be maintained). 220 which is based on discrete (unshared) assign- ments of spectrum to particular licensees. I call Different degrees of vertical integration or this ‘first generation flexibility’. separation can allow a number of sharing opportunities, for example: Section 3 discusses how licence-exempt spectrum or commons can be fitted into this • the same physical assets and transmission market-based framework. Section 4 discusses capabilities can allow a range of new spectrum-using technologies, many of programming to be sold or shared; which can operate on disaggregated compo- equally, content can reach end-users via nents of frequencies, and Section 5 considers many platforms; how spectrum management can be adapted to • access to spectrum can be achieved in achieve flexibility in spectrum use in this numerous ways via commons, direct richer context. I call this ‘second generation licensing, underlays or overlays (see below), flexibility’. Section 6 suggests spectrum reforms

1. This is a shorter version of a paper prepared for Thinktel, an international think tank for telecommunications. 202-259 6/11/06 20:37 Page 221

Value Chain Examples

Content Programmes, file-sharing

Physical assets Towers and masts

Wholesale Spectrum Licensees, intermediaries, commons Retail

Transmission MVNOs, broadcasting transmission

Reselling Airtime

Retail (end users) Mobile telephony, broadcasting services

Figure 1: Spectrum in the wireless service value chain

via intermediaries such as band managers regulators, including spectrum regulators, or operators of real time access regimes; should be interested in inserting competition in infrastructure as deeply into the value chain

• physical assets, spectrum and other resources Section 4: Utilising the airwaves as possible, in order to sharpen commercial can be used to provide entry or access points rivalries and promote service differentiation. nearer the end-user – for example via Given the relatively low level of fixed sunk MVNOs or resellers; and investment required of wireless access networks, 221 • end-users themselves – 2.4bn mobile replication of assets, including spectrum subscribers – are skilfully brigaded by access, is fairly easy to achieve and spectrum their operators into a pattern of shared policy should encourage it as far as possible. spectrum use. 2. Spectrum markets based But should regulators have a preference among on current technologies the points of entry? This depends to a consid- erable degree on the availability of competing Rather than set out the pros and cons of platforms (for example, competing end-to- alternative spectrum management regimes in end mobile operators, cable, satellite, ADSL this section, I prefer instead to set out the case and so forth). for a major extension of market forces. (For extensive reviews of markets vs. administrative If this end-to-end competition is lacking methods, see Cave 2002, FCC 2002, Cave and (as it is for broadband in un-cabled areas), 202-259 6/11/06 20:37 Page 222

Webb 2003a, Ofcom 2004 and European limited ‘commons’. However, high-powered Commission 2005). uses do demand exclusivity of some kind – which entails a mechanism to achieve it. The context of the discussion in this section is a management regime in which licences are b) ‘We need command-and-control (or assigned for the exclusive use of one firm or administrative) methods to minimise organisation. Under a market system, this is police interference.’ Liberalising countries subject to change of ownership and/or change have shown that this does not pose a of use. The goal is thus ‘first generation greater problem than other inputs (such flexibility’, based on an unrivalled access by as land). We can draw on experience from each licensee to its full frequency. New Zealand, Australia, the UK, the USA (in relation to certain bands) and Canada, The key underlying insight is that spectrum, as well as Guatemala and one or two other like other natural resources such as capital and less-developed countries. labour, is an input. The starting proposition in a market economy is that these inputs are best c) ‘Spectrum licence markets will lead to allocated to produce particular outputs by a monopolisation, speculation and market process, which co-ordinates the hoarding.’ In fact, the chief source of this interests and information of millions of agents, problem is restrictions on spectrum use in a way best calculated to encourage efficiency which have the effect of narrowing markets and innovation. and creating market power. In any case, competition law should be able to deal This approach is quite consistent with decisions with such problems. As with other markets, about final demand being taken by the private intermediaries (‘speculators’) and antici- sector (such as households buying goods, or patory purchasers (‘hoarders’) can smooth firms buying investment goods); or by govern- demand and supply, and enhance long-run

New spectrum-using technologies and the future of spectrum management ments (such as a local government organising market efficiency. emergency services, or a national government pursuing the defence of the realm). d) ‘Administrative methods are needed to achieve harmonisation.’ On the basis of the 222 Nobody finds this proposition particularly success of GSM, there’s an argument that a challenging in relation to other inputs, such as common allocation of spectrum across the skilled engineers, land, financial capital, capital EU (harmonisation) will encourage the goods and so forth. But it’s necessary to check adoption of a standardised technology and whether spectrum has some relevant significant thus reduce costs, benefit consumers and difference which would suggest it should be achieve the aims of European industrial treated differently. The main candidates for policy. As with command-and-control this are: spectrum policy in other contexts, this a) ‘Spectrum is a resource which should be argument assumes that the regulators are available to all.’ This proposition is fine in capable of choosing the correct frequency respect of spectrum used for certain to adopt in common. This is clearly a applications where low power and short gamble, with the risk increasing because of range allow users to co-exist peacefully; the uncertainties over which technology, these needs are appropriately met by and associated frequency, will triumph. For 202-259 6/11/06 20:37 Page 223

example, in the case of mobile broadcasting ideal, but they show the scope for combining an array of technology and spectrum choices a substantial degree of liberalisation and is still under examination, and the risk of flexibility while adhering to treaty obligations. regulatory failure is very considerable. In This does not, however, make it unnecessary to such circumstances, it is better to delegate seek changes in ITU procedures and spectrum the decision to a competitive process management instruments. involving equipment manufacturers and To summarise, first generation flexibility in operators, than to rush to judgement. European spectrum management should be However, a better bet is an alternative directed to an end-state in which (with small form of harmonisation: to harmonise exceptions) market mechanisms including spectrum management procedures across change of ownership and change of use of licences member states in ways that will first be should operate to the fullest possible extent likely to encourage competition, and then in respect of: to facilitate convergence around the identified winner. As noted below, the • geographical area (initially the EU, and European Commission now appears to later globally); favour this kind of meta-harmonisation, with occasional signs of support for old- • frequency bands (as many as possible to style harmonisation. ensure that spectrum use is optimised by market exchange over as full a range of While none of the above provides a good basis usable frequencies as possible); for rejecting markets as the basic method (which may be subject to minor exceptions) of • form of licences (including freehold, allocating and assigning spectrum, restrictions leasehold etc); created by treaties made under the International • identity of licensees (which could be a direct Telecommunications Union are a different story. public, or private sector, firm or organisa- Section 4: Utilising the airwaves These establish primary and secondary uses tion, a band manager or an intermediary of for specific bands, but the uses identified tend another type); and to be broad (as well as increasingly obsolete) 223 so that national regulators have considerable • the nature of the service produced using freedom of action: for example, the spectrum spectrum (which could be a marketed or used for analogue television transmission non-marketed good, a private or collective has ‘broadcasting’ as its primary use but a good, and so on). Declaration signed by the vast majority of 3. Marketed licences vs. commons European countries at the Regional Radio Conference in June 2006 (RRC06) has the Traditionally, a small number of frequencies effect of authorising its use, following analogue sat alongside spectrum licences assigned by switch-off, for other purposes. administrative methods to provide unlicensed access to users of particular apparatus. These The only provision is that they do not impose include frequencies used for television remote more interference than a broadcasting controls and Bluetooth short-range commu- application, and require no more protection nications, as well as spectrum for short-range than broadcasting. Such strategies are less than broadband access using standards such as 202-259 6/11/06 20:37 Page 224

802.11 or WiFi. In the UK, unlicensed Figure 2 illustrates the allocation decision spectrum of this kind amounts to between licensed spectrum, some of which 4-6 per cent of the total. may be used for ‘private commons’. This is an arrangement whereby users authorised by a While several commentators have proposed a licensee (for example, purchasers of the major expansion of the commons (Noam 1998, licensee’s apparatus) have direct access to Benkler 2002, Werbach 2004), others (Hazlett spectrum – and unlicensed spectrum. 1998, Faulhaber and Farber 2003, Cave and Webb 2003b, Baumol and Robyn 2006) regard In the past, spectrum regulators have made it as best suited to short-range applications decisions on unlicensed spectrum on admin- where rivalries between operators for spectrum istrative grounds. But this is arbitrary and are more limited. (This does not exclude the unsatisfactory. In a market environment, it development of technologies such as mesh would be better to introduce some form of networks, especially to exploit short-range market competition between the two modes transmission using sublicensed spectrum.) of frequency management.

However, drawing the line over time between The difficulty is estimating, and making the universal licensed and unlicensed spectrum effective, the derived demand for spectrum is highly problematic, and historically has from unlicensed spectrum users, in the same been done using administrative fiat in two way that, say, mobile operators can express dimensions: in the basic decision to assign a their derived demand. The root cause of the frequency for unlicensed use, and in the problem is establishing the willingness to pay choice of restrictions imposed on its use of a large number of non-rival spectrum users (Hazlett 2006). – an illustration of the classic problem of establishing demand for a public good. New spectrum-using technologies and the future of spectrum management Spectrum

Licensed Licence-exempt 224

Private Commons Public Commons

Specify obligation rights Rules Regulation • geographic • protocols • temporal • power limits, etc • interference parameters • noise floor (underlay) • overlays • easements

Figure 2: Licensed vs. unlicensed spectrum 202-259 6/11/06 20:37 Page 225

In principle, individual levels of willingness to To summarise the argument so far: a case pay should be aggregated (vertically) to derive based on existing spectrum-using technologies a social valuation. However, this brings with has been made for the use of market methods, it the well-known problem that respondents and an (imperfect) way, based on the market have an incentive to falsify their estimates, in choosing between licensed and unlicensed order to increase the supply of a resource for use, has been proposed. It is pertinent to ask, which they will not have to pay, or at least not however, if foreseeable technological develop- the full cost. ments support or undermine the case for the market. This is the task of the next two sections. A number of formal mechanisms have been developed to deal with the problems (for 4. New technologies round the corner example, the Clarke-Groves mechanism New technologies show great promise in how reviewed in Campbell (1995) pp. 283-294). to make more effective use of spectrum. Deve- They have the feature that any respondent lopments in spread spectrum technologies, whose reported evaluation tips the decision to software-defined radios and smart antennas buy into the positive has themselves to pay a have raised particular interest. surcharge equal to the difference between all other participants’ preference for the alternative These technologies have the potential to option. This removes any incentive to report increase spectrum efficiency in many ways, distorted valuations. including a higher level of frequency re-use and sharing by means of both underlay and These mechanisms do, however, encounter overlay techniques. Moreover, these technolo- problems associated with the need to make gies might be implemented together in mesh positive payments to some participants as well network architectures such as ad-hoc networks, as to tax others. The budget may not balance, thus offering a wide range of new opportunities and other techniques such as conjoint analysis

for spectrum-based services. Section 4: Utilising the airwaves may be required to establish the aggregate valuation of unlicensed spectrum from willing- Indeed, new technologies may have a relevant ness to pay for the services it can offer. impact at different levels of the value chain Since a spectrum commons is typically of spectrum-based services, by enabling a 225 regulated existing services, a range of options more efficient use of spectrum either directly may have to be established, in circumstances or indirectly. where consumer understanding of them may In fact, on one hand, spread spectrum tech- not be strong. This will obviously represent a nologies appear to be able to bring about significant challenge. great benefits in increasing spectrum efficiency But let’s imagine such an unbiased estimate directly, by using frequencies more intensely. were available. In this case, a proxy bidder On the other hand, smart antennas promise seeking spectrum to be licence-exempt could better performance at both transmitter and compete against bidders for licensed spectrum, receiver levels and generate opportunities for including those proposing private commons. enhanced spectrum efficiency by building on This would require public financing, but for the techniques to receive and send signals limited frequencies this might not be too over frequencies without suffering harmful problematic. interference. Software-defined radio (SDR) 202-259 6/11/06 20:37 Page 226

technologies are expected to significantly considerable extent, security, interference change the way spectrum is used today, avoidance and high-speed connections. In fact, particularly as high-level cognitive radios will spread spectrum technologies have been used enable more frequency reuse and more in military communications for several decades flexible uses of the same hardware and and they have more recently been moved into infrastructure, delivering spectrum efficiency commercial applications. in a variety of ways. Increasing spectrum efficiency by Increasing spectrum efficiency directly: implementing new technologies along developments in spread spectrum other parts of the value chain of technologies spectrum-based services

A key feature of spread spectrum technologies The new smart (or advanced) antenna is that they allow coexistence of multiple technologies have the potential to enable applications in the same spectrum, although more efficient use of spectrum both directly the capacity of any one application will be and indirectly, according to the type of reduced as others are introduced. In fact, these antenna and deployment in the radio-based technologies spread power over a wide range of system. In fact, smart antennas seek to frequencies, so their signals only interfere to a increase coverage, capacity and reliability of a limited extent with narrowband radios. Also, radio network by improving the ability to some technologies support spectrum overlay send and receive signals (i.e. by limiting techniques, which offer secondary users the interference). Actually, antennas are ‘dumb’, opportunity to access a primary channel when but can be made ‘smart’ if a digital signal this is not in use on the basis of an ‘intrude processor enables an analysis of the spectrum and avoid’ principle.2 Others, however, support environment, such that it is possible to either spectrum underlay techniques that enable precisely determine and combine the sources New spectrum-using technologies and the future of spectrum management spectrum sharing between systems of either of an incoming transmission, or to direct high or low power density levels. energy in a narrow beam towards the user.

Spread spectrum technologies include a Therefore, intelligence and greater (indirect) 226 multitude of legacy and new technologies (such spectrum efficiency can be obtained in two as direct sequence spread spectrum, frequency- fundamental ways along the value chain of hopping spread spectrum and ultra-wideband). spectrum-based services: on the receiver side, Their functionality is based on implementation by improving the ability to listen (even with a of a code to send information over a much high level of interference, sometimes known wider band than the actual bandwidth of the as the ‘cocktail party effect’); and on the trans- transmitted information. mitter side, by transmitting a response only in the desired direction, whereas traditional omni- The code, which might be known by other directional antennas transmit in all directions. parties, is only used by any one party at one Hence, smart antennas can save on spectrum time. Therefore, the information can be coded requirements and also help reduce harmful and decoded by the intended parties at each interference, including multipath problems. end of the radio connection, giving, to a

2. For instance, cognitive radios make use of this principle. 202-259 6/11/06 20:37 Page 227

However, there are two main practical problems major technological advancement away from with advanced antennas: they are expensive traditional radio devices for a number of (particularly when implemented on users’ reasons: with the exception of the antenna, devices) and they don’t work properly if there physical layer functions are implemented in is not a line of sight (in which case, transmis- software rather than in hardware; there is no sions are easily reflected or blocked). built-in waveform predetermined by the manu- facturer and radios can be re-programmed Making spectrum-based systems more on the fly, thus providing a high degree of flexible with software-defined radios flexibility by adjusting frequencies, bandwidth Software-defined radios (SDRs) are wireless and directionality. communication devices that use software to In this way, a radio becomes a generic device implement almost completely their function- with its functionality defined by running ality on the physical transmission level. Micro- software in a dynamic manner, allowing computers are installed in the transmitter and multiple uses of the same hardware and the receiver to handle a wide variety of wave- infrastructure.5 These features of SDR forms3 and their associated settings. Software technologies have generated some interest in is used to control high-speed signal processors, the United States, as SDRs allow carriers to thereby performing functions that in traditional run multiple standards on the same network, radios were carried out in the hardware. and promise to reduce operational costs. SDR technologies can have a great impact on In the US, the FCC has recently approved electronic communications, although their Vanu’s system, which commercially deploys potential to improve efficiency along the SDR technologies in licensed spectrum. value chain is mainly indirect with regard to Although its commercial jump-start was with spectrum. In fact, by implementing as many the rural market, the system is expected to

functionalities as possible into the software, Section 4: Utilising the airwaves gain popularity with large carriers, with WiMax SDR systems are able to adapt to a wide range potentially becoming part of the system. of frequencies, bandwidths and transmission standards, without any hardware changes. It Taking SDR technologies a step 227 follows, then, that SDR can provide more further: cognitive radios flexibility. Also, SDR is an important enabler Cognitive radios are a relevant and recent for advanced forms of dynamic spectrum development in dynamic spectrum access access; i.e. any form of flexible spectrum use technologies, based on SDR capabilities. obtained by dynamically changing the set of These are smart devices that can perform a transmission parameters.4 multitude of tasks autonomously, enabling However, a key feature of SDR technologies more flexible and efficient use of radio is their novel way to carry out the radio frequencies: indeed, a high-level cognitive functionalities. Indeed, SDRs represent a radio is able to “observe, orient, plan, learn,

3. Waveform is used to refer to the whole software application determining the behaviour of the system. 4. Early forms of DSA mechanisms can be found in modern car radio sets, DECT cordless communication systems and WLAN devices operating in the 5 GHz frequency band. They are all examples of automatic frequency selection mechanisms. 5. E.g. the same SDR could be used as a mobile or cordless phone, a pager or provide WLAN connectivity. Also, a network operator could offer his customers a set of waveforms including UMTS and IEEE 802.11. 202-259 6/11/06 20:37 Page 228

decide, act”. (Mitola 1999) Although their ments, thereby starting transmissions. However, cognitive behaviour may take different forms, the receiver (for example, a base station located the focus here is on spectrum usage only. within range of both transmitters) will suffer from interference as the spectrum was actually Cognitive radios can acquire information on already in use. their spectrum environment and employ this information to decide on their transmission Implementing ad-hoc mesh networks behaviour. Also, they are able to learn from their to introduce more flexibility in mobile own behaviour and experience. Indeed, key spectrum-based applications features include their ability to learn user In mesh networks, radio nodes receiving preferences, prevailing spectrum rules and information can also pass information along, operator charges. Particularly, cognitive radios so providing retransmission capabilities. can sense vacant frequencies and transmit over Mesh networks can be divided in two groups: unused frequencies until another radio tries to structured and ad-hoc. In the former, radio use the same portion of the spectrum. nodes are fixed and a relevant planning activity Therefore, one important advantage is their takes place in advance. In ad-hoc networks, ability to transmit over temporarily unused mobile radio nodes are equipped with relay frequencies, so considerably contributing to functionality, which provides a potential for increase available bandwidth. Moreover, by great flexibility and ability to reroute transmis- exploiting their ability to acquire information sions along different paths by spotting another on their physical environment in relevant node within radio range. dimensions – including time, location and While fixed wireless access systems are often frequency – cognitive radio technologies included in the concept of structured mesh appear to have great potential since parts of networks, ad-hoc mesh networks are in their the spectrum are often unused in at least one

New spectrum-using technologies and the future of spectrum management early stages of development. Implementation of dimension. SDR technologies might facilitate deployment Although a prototype military radio system, by allowing radio nodes in the network to scheduled for August 2007, is being developed become instantly flexible, according to the 228 by the US Defense Advanced Research Projects physical environment. High-level cognitive Agency (DARPA), cognitive radios are still in radios are candidates to be deployed as radio development and it will probably take several nodes in ad-hoc networks by creating their own years before they come onto the market. transmission path in every specific situation, Meantime, a number of technological involving several hops of other radios in the challenges still remain: they include wideband network (perhaps using spread spectrum sensing, opportunity identification, interference technologies such as Ultra-wideband (UWB) prevention and dynamic co-ordination. for high-speed, short-range communications).

These issues come together in the so-called What requirements do the new ‘hidden terminal’ problem: if two devices are technologies impose on spectrum out of range of each other (for example, if management? there’s a building between the two), they might not spot any activity on a particular part of the The traditional regime for spectrum manage- spectrum by making independent measure- ment is ‘one frequency, one user’ (who is 202-259 6/11/06 20:37 Page 229

bound to provide a particular service using Mesh networks have the prospects of diminish- individually licensed apparatus). Developments ing the power required of transmissions, by in the use of market methods, as recommended virtue of their use of multiple short hops at earlier in Section 1, have in some jurisdictions low power levels rather than one long hop at a already achieved first generation flexibility, higher power. To that extent, they enhance the allowing change of ownership and use across scope for commons, provided that increases in discrete spectrum-using services and technolo- equipment costs do not outweigh savings in gies in any given frequency. The next issue we spectrum use. consider is how to achieve the benefits of The two remaining, and more fundamental, flexibility in the context of the more sophisti- issues concern underlays and overlays. cated technologies described above, which are Underlays are exemplified by UWB, which capable of accommodating spectrum sharing, operates under the noise floor of other services. often dynamically – in other words, in ways which vary over time. In principle, UWB could be used in at least three ways. First, one or more separate I am not suggesting that all these technologies geographical licences could be carved out will necessarily be applied on a large scale. beneath any existing noise floor and assigned Indeed, Ofcom’s own analysis of the costs of on an exclusive basis. Or the same space could SDR and cognitive radio casts doubt on their be carved out, and made licence-exempt. Or cost effectiveness, compared with the simple an obligation could be imposed on any historical alternative of boosting efficiency by prospective user of UWB to negotiate an decreasing cell sizes and reusing spectrum arrangement with all licensees under whose more efficiently on a discrete-user basis. It is noise floor it proposed to operate. important, however, to give thought to their potential impact, if the spectrum management The last option would almost certainly fail

regime is to be made future-proof. because of the transactions cost incurred in Section 4: Utilising the airwaves negotiating with countless licensees. Choice A simple dimension of spectrum use is its between the licensed and licence-exempt efficient scale. A technology such as cognitive modes of permitting UWB should hinge on a 229 radio relies on agility to pile more use into calculation of the risks of interference, either given frequencies. Much of the benefit flows between UWB users or from UWB users to from pooling intermittent demands to achieve other licensees. It is necessary here to conduct a greater utilisation rate. Other things equal, a risk management exercise to establish the this process occurs more efficiently on a larger consequences in the future if the multiplication scale, subject to the increasing cost and of UWB users ultimately led to either of the technical complexity of ranging over more interference problems noted above. The spectrum. The least we can expect, therefore, conclusions reached so far by regulatory is aggregation of demand under cognitive agencies (notably the FCC and Ofcom) favour radio, which will capture the benefits of scale, creating a traditional commons with very possibly involving intermediation – for strong power limitations. example, a band manager which sells access to a range of possible frequencies. Finally, there is the question of overlays, or access by users to spectrum licensed to others. 202-259 6/11/06 20:37 Page 230

In principle, this could be made generally Baumol and Robyn (2006) conclude the available. Indeed, the European Commission’s opposite, basing their argument in part on the recent proposals on spectrum reform6 seem to analogy of a successful market for licensing contemplate just this kind of general right of intellectual property. They assert that: access, when it says that: “The argument favouring market “A new system for spectrum management is accommodation of such emissions rests on needed that permits different models of the now familiar position that spectrum rights spectrum licensing (the traditional holders have an incentive to act in ways that administrative, unlicensed and new marked- result in (approximately) optimal use of based approaches) to coexist so as to promote spectrum space. There is reason to question economic and technical efficiency in the use of whether a governmental rule without price this valuable resource. Based on common EU and profit incentives will be able to match the rules, greater flexibility in spectrum management performance of a market regime.” (pp 61-2) could be introduced by strengthening the use of Absent any experience of the non-interfering general authorisations whenever possible.” (p 7) easements regime, it is hard to discriminate on This clearly raises fundamental issues of a priori grounds between the two approaches. spectrum management and the design of The one economises on transactions costs, property rights. Within one given frequency, while the other eschews use of the price transaction costs would not preclude mechanism to ration access. As usual in bargaining between an original licensee and economics, it is unlikely that there will be a potential secondary users. There is also a corner solution, with the same regime optimal concern that unlicensed entrants, lacking in all frequencies. Ideally, the choice of regime security of access, would not be in a position would be determined by a procedure akin to to make collateral investments, or to offer that described in Section 3 above, where some New spectrum-using technologies and the future of spectrum management adequate assurances to their customers of kind of quasi-market testing of a secondary continuity of supply, and quality of service. commons would be undertaken. But the design Alternatively, they might establish de facto of such a mechanism is very challenging. 230 some squatters’ rights of a contestable nature, The best way forward may be to undertake some which would prevent the licensee from being limited testing of the non-interfering easement able to exploit its asset to the full. approach in likely-looking frequencies. This These questions have been widely debated in could provide a better empirical base for the recent years. Notably, Faulhaber and Farber European Commission’s careful espousal of (2003) have been in favour of unlicensed non- the method reported above. interfering overlays or easements of this kind, Whatever application easements may have arguing – inter alia – that absent imposition of in the future, market methods will almost such a regime, licensees will not be prepared to certainly provide the foundation for achieving supply access to secondary users by entering flexibility in spectrum use of both the first into appropriate contracts with what might be and the second generation varieties. In the their rivals in downstream markets.

6. Commission’s Communication on the Review of EU Regulatory Framework for electronic communications networks and services (SEC(2006)816-7), on which more details can be found in Section 6. 202-259 6/11/06 20:37 Page 231

next section, I turn to how this might be is made public. National regulatory accomplished in the forthcoming revised authorities shall ensure that competition regulatory regime for e-communications is not distorted as a result of any such now being prepared in Europe to take effect transaction. Where radio frequency use has from 2010. been harmonised through the application of Decision No 676/2002/EC (Radio Spectrum What Europe needs to do 7 Decision) or other Community measures, any There has been fairly widespread recognition such transfer shall not result in change of use that the current regime of spectrum management of that radio frequency.” in most of the European Union is insufficiently According to Article 1(1) of the Spectrum flexible to achieve the Union’s objectives of Decision, the aim of the Decision is to promoting industrial competitiveness and “establish a policy and legal framework in the innovation. Despite this, the pace of reform so Community in order to ensure the co- far continues to be slow. In the light of the ordination of policy approaches and, where previous arguments, urgent measures need to appropriate, harmonised conditions with be taken to speed it up by extending spectrum regard to availability and efficient use of the reform in the leading countries to other radio spectrum…” Member States, thus generating the benefit of ‘large area liberalisation’. Any fresh decisions made under the Spectrum Decision must also be limited to ‘technical The European telecommunications market implementing measures’. Although there is no was fully liberalised in 2002 through the Full binding interpretation of the Spectrum Decision Competition Directive and, since then, the that defines the permissible parameters of a current regulatory position in respect of technical implementing measure, it is clear spectrum trading has been clear. By virtue from the past practice both of CEPT and the of Article 9(3) of the Framework Directive, Commission that it can be used to adopt Section 4: Utilising the airwaves Member States are currently permitted, but decisions on a band-by-band basis to harmonise not required, to introduce spectrum trading. the way in which a certain band is exploited – Article 9(4) of the Framework Directive sets out both practically and technologically – across 231 some procedural aspects of spectrum trading Europe. Article 4 of the Spectrum Decision and makes it clear that the Spectrum Decision8 could be used to achieve freedom of use on is the principal means by which spectrum use stipulated frequency bands. is to be harmonised: In September 2005, the Commission published “Member States shall ensure that an a Communication on a market-based approach undertaking’s intention to transfer rights to to spectrum management in the European use radio frequencies is notified to the Union (Com (2005) 400 final) which noted national regulatory authority responsible for that a fragmented approach to spectrum reform spectrum assignment and that any transfer would make it more difficult to achieve the takes place in accordance with procedures laid Union’s objectives. Accordingly, it proposed the down by the national regulatory authority and co-ordinated removal of restrictions on spectrum

7. This section is taken from Cave and Crowther (2006). 8. Decision No. 676/2002/EC of 7 March 2002 on a regulatory framework for radio spectrum policy in the European Community. 202-259 6/11/06 20:37 Page 232

use in all Member States in order to promote would also be enacted with this procedure in an open and competitive digital economy. appropriate cases.

In practice, it was suggested that substantial The proposals thus embody a strong attachment amounts of spectrum, including roughly to the key concepts of technology neutrality and one-third of the spectrum below 3 GHz (the service neutrality (flexibility in use). They entail spectrum best suited for terrestrial communica- extensive use of the Spectrum Decision but little tions) could possibly be made subject to by way of thorough on-going reform of the tradable and flexible use by 2010. Clearly the Directives. Is this adequate for the task? Communication is a key document in which It probably isn’t, so what’s needed is a the Commission nailed its colours to the legislated change to the relevant Article of the liberalisation mast. If the plan were realised it so-called Framework Directive, the linchpin of would represent a significant step towards the the whole regulatory regime in Europe, which desired end-state set out above, even though a would mandate trading and flexibility of lot of non-communication related spectrum, spectrum in the bulk of the key band, which makes up much of the remaining two- maintaining the option of exceptions for thirds of spectrum below 3 GHz, would not certain specified public sector uses (Cave be covered. 2005). A proposal along these lines is set out The Commission’s Communication on the in Cave and Crowther (2006). Review of the EU regulatory Framework for ECS (SEC(2006) 816-7), which proposes greater Actions by the Commission and the European flexibility in spectrum management, could be Institutions are therefore required on two introduced by strengthening the use of general levels: use of the 2002 Spectrum Decision ad authorisations whenever possible. Also, selected interim, and a more radical rewriting of the bands agreed at EU level via a committee proce- framework directive to allow significant New spectrum-using technologies and the future of spectrum management dure would become available for use under harmonised spectrum trading and liberalisa- general authorisations, or subject to secondary tion in the EU. This would respond both to trading across the EU. Common authorisation current and to future needs. 232 conditions for the use of the radio spectrum 202-259 6/11/06 20:37 Page 233

References European Commission (2002), Decision No. 676/2002/EC of 7 March 2002 on a regulatory Baumol, W.J. & Robyn, D. (2006), Toward an framework for radio spectrum policy in the evolutionary regime for spectrum governance: European Community, European Commission, licensing or unrestricted policy? AEI-Brookings Bruxelles Joint Center for Regulatory Studies, Washington, D.C. European Commission (2002), Commission Directive 2002/77/EC of 16 September 2002 on Benkler, Y. (2002), Some economics of wireless competition in the markets for electronic communications, Harvard journal of law & communications networks and services, technology, vol. 16, no. 1, pp. 25-83 European Commission, Bruxelles Campbell, D.E. (1995), Incentives: motivation European Commission (2005), A market-based and the economics of information, Cambridge approach to spectrum management in the University Press, Cambridge European Union, European Commission, Cave, M. (2002), Review of radio spectrum Bruxelles management. An independent review for European Commission (2006), Department of Trade and Industry and HM Communication on the Review of EU Regulatory Treasury, London Framework for electronic communications Cave, M. (2005), Independent audit of spectrum networks and services, SEC(2006)816-7, holdings, London European Commission, Bruxelles

Cave, M. & Webb, W. (2003a), Designing Faulhaber, G. & Farber, D. (2003), Spectrum property rights for the operation of spectrum management: property rights, markets, and the markets, Warwick Business School, papers in commons, in Rethinking rights and regulations: spectrum trading no. 1 institutional responses to new communications Section 4: Utilising the airwaves technologies, eds. F.L. Cranor & S.S. Wildman, Cave, M. & Webb, W. (2003b), Spectrum MIT Press, Cambridge, MA licensing and spectrum commons – where to draw the line, Warwick Business School, papers FCC – Federal Communications Commission 233 in spectrum trading no. 2 (2002), Report by the Spectrum Policy Task Force, ET docket no. 02-135 Cave, M. and Crowther, P. (2006), Driving forward spectrum liberalization, Vodafone policy Hazlett T.W. (1998), Spectrum flash dance: paper series no. 5 Eli Noam’s proposal for ‘Open Access’ to radio waves, Journal of law & economics, vol. XLI, European Commission (2002), Directive pp. 805-820 2002/21/EC of 7 March 2002 on a common regulatory framework for electronic Hazlett (2006), ‘Barbed wireless’ & the vertical communications networks and services, structure of property rights, forthcoming. European Commission, Bruxelles 202-259 6/11/06 20:37 Page 234

Mitola J. (1999), Cognitive radio for flexible Ofcom (2004), Spectrum framework review. A mobile multimedia communications, IEEE consultation on Ofcom’s views as to how radio International Workshop on Mobile spectrum should be managed Multimedia Communications, pp. 3-10 Werbach, K. (2004), Supercommons: toward a Noam E. (1998), Spectrum auctions: yesterday’s unified theory of wireless communication, Texas heresy, today’s orthodoxy, tomorrow’s law review, vol. 82, pp. 863-973 anachronism. Taking the next step to open spectrum access, Journal of law & economics, vol. XLI, pp. 765-790 New spectrum-using technologies and the future of spectrum management

234 202-259 6/11/06 20:37 Page 235

Spectrum management and the achievement of policy goals – an independent regulator’s perspective Isolde Goggin Chairperson, Commission for Communications Regulation, Ireland.1

Introduction – the importance Although slow and incremental, there have and uniqueness of spectrum been moves in the past two decades towards introducing market mechanisms into the The radio frequency spectrum – an invisible, hitherto command-and-control world of intangible and ubiquitous resource – is used spectrum management. This has led to for numerous business and consumer concerns that while an unfettered market-based applications. In telecommunications, radio approach might increase economic efficiency, it frequencies are used for aviation, shipping, could also militate against achieving other defence services, public safety, fixed links, and policy goals such as plurality and diversity of public and private mobile phone networks. the media, or the protection of life. Uses other than telecommunications include broadcasting, radar, radio astronomy, radio- In practice, although increasing demand for

location, space research and amateur activities. spectrum means we are likely to see more Section 4: Utilising the airwaves Wireless communications are increasingly used allocation and assignment mechanisms which to provide broadband internet access, enabling maximise efficiency, neither model (nor online public services such as e-government, indeed the licence-exempt model, which I 235 e-health and e-learning, as well as business don’t discuss here for reasons of space) will be and social uses. a universal answer. Spectrum management is a highly technical, complex and case-dependent Radio spectrum is unique and, in many cases, subject, and with the ever-present potential for un-substitutable. It is unique in that it is an interference it generally calls for change in a infinitely reusable resource with the ability to measured and staged way. recover instantly from any effects of pollution or abuse. And although, for some applications, The sources of policy wired and wireless services are alternatives, options and goals there is no reasonable substitute for spectrum Although the telecommunications arena has in mobile phones or radar tracking systems. seen a shift in the last two decades from direct

1. The views expressed are the author’s own and do not necessarily reflect those of the Commission for Communications Regulation. Many thanks to Jim Norton, Samuel Ritchie and Dermot Nolan for comments on the draft, and also to Jim Connolly, Jonathan Evans, Susan Fleming, Catherine O’Brien and Dave Thom for their work on ComReg’s spectrum strategy, which informed much of this chapter. 202-259 6/11/06 20:37 Page 236

Safety-of-life Ministerial directions

Industry lobby groups National security/defence

Interest group lobby Legal obligations Regulator International obligations Regional obligations

Decide on priorities and options

Assign spectrum

Source: ComReg Figure 1: Source of policy goals Spectrum management and the achievement of policy goals Spectrum management and the achievement government involvement (both in operation In implementing policy goals, regulators must and regulation), the spectrum management balance a number of different, and potentially 236 scene across Europe is more diverse. In some conflicting, inputs as shown in figure 1. countries you’ll find the independent regulators The International Telecommunications Union handling spectrum management as either a (ITU)2 Radio Regulations, which have the status unique function or in combination with other of an international treaty, contain obligations responsibilities such as telecommunications, concerning how spectrum is used for aviation, posts, media and other network industries. In maritime and satellite services (among others). others, responsibility for spectrum manage- ment remains, or is shared, with the relevant Regional obligations within Europe include Ministry. It’s generally true, though, that implementing EU Directives and Decisions governments are more involved in spectrum and, where appropriate, CEPT Decisions. NATO than in the overall telecommunications area, members have further obligations regarding the particularly where safety-of-life and national use of spectrum. There are other powerful security are concerned. voices to be heard as well: special interest

2. The ITU is a specialised agency of the United Nations. 202-259 6/11/06 20:37 Page 237

groups such as the amateur radio fraternity and, This was followed by action to overcome in some countries, a very powerful community interference problems caused by unregulated radio forum. Industry lobby groups, especially radio transmissions, both internally and across where these industries are multi-national and borders. The 1927 International Radiotelegraph contribute significantly to wealth and job Conference and, later, the International Tele- creation, are a powerful force. communications Union (ITU) allocated separate frequency bands to the various radio On the other hand, it is also vital that the needs services of the time, and put in place arrange- of non-commercial interests, such as safety- ments for national licensing. of-life services, should be met. Historically, national security and the defence forces have This need for international co-ordination arose been strongly represented in national, regional from the nature of spectrum use itself, and the and international spectrum policy. fact that what happens in one frequency range in one location affects not only adjacent How, then, do the needs of these disparate locations, but also adjacent frequency bands. interest groups, and the necessity to meet inter- In radiocommunications, a signal carrying the national obligations, feed into the regulatory desired information (be it voice, data or structure? Simply, the process varies by country. video) is superimposed on a higher, ‘carrier’ In Ireland, for instance, any spectrum used by signal; this allows each service to occupy a the defence forces is exempt from licensing by different part of the spectrum. The way in the regulator. Also, as part of national IT policy, which the information signal is superimposed the Minister for Communications, Marine and on the carrier is called the ‘modulation scheme’. Natural Resources has directed the regulator to facilitate consumer access to broadband services Older-style modulation schemes superimpose through both spectrum and telecommunica- the signal in analogue form on a characteristic tions policy. of the carrier wave – that is, they cause it to vary Section 4: Utilising the airwaves continuously. Examples of this are amplitude Once all these inputs are considered, it is the modulation (AM) and frequency modulation unenviable task of the regulator to prioritise (FM). On the other hand, digital modulation them and decide how to assign spectrum in schemes cause a characteristic of the carrier 237 order to achieve policy goals. wave to vary discretely, in order to carry a Traditional spectrum management digital signal – a stream of 1s and 0s. Digital modulation schemes use a series of pulses as Spectrum has traditionally been managed the carrier: the pulse amplitude or pulse width on a command-and-control basis, with clear may be modulated to carry the signal, or the priorities to avoid interference and to frequency or phase may be modulated safeguard national spectrum rights. From the discretely, i.e. they may be shifted from one time that Marconi was granted his first British level to another to carry the information. patent in 1896, regulation was not far behind: just seven years later, the Berlin conference of One of the effects of modulation is to national radio administrations laid down the disperse the signal above and below the basis for the International Radiotelegraph carrier frequency. The minimum band of Convention (IRC). frequency assigned around the carrier required for the transfer of the information 202-259 6/11/06 20:37 Page 238

is referred to as the ‘in-band’ signal; the ‘out- service-neutral;5 the radio spectrum is divided of-band’ signal is the unwanted spill-over up into bands in which only certain services into neighbouring frequencies caused by may be provided. There may be differences practical implementation limits in the between the three regions6 of the ITU as well transmission chain. Some modulation as between nations within each region.7 techniques are cleaner than others in this The Radio Regulations are intended to allow for regard, but the degree to which the signal the use of a frequency band, while minimising spreads out on either side of the carrier – its the risk of interference to the users of the band bandwidth – also depends on a number of in the territories of other countries. The rules other factors. So a signal using one carrier may detail what type of emissions may be used, frequency can appear, albeit at a lower level, suitable methods for determining interference, at another frequency which is apparently guard bands, protection ratios, notification quite distinct from it in the spectrum. periods and so on. This overall process is Managing this phenomenon – known as usually referred to as ‘co-ordination’ and, interference – is the most crucial issue for typically, can take between three months for a spectrum managers worldwide. terrestrial station to five years for a space station. The overarching strategy for managing inter- A change in usage of a band typically requires ference is ‘band harmonisation’, which can an agreement known as a ‘Common Position’ happen both at global and regional3 levels. (CP) from regional organisations, and is then At the global level, the usage of the frequency nominated as an agenda item for the next bands, rights to use them and the agreed rules ‘competent’ WRC. This is a lengthy process between countries are determined at the and can take a minimum of three to five years World Radiocommunications Conferences before final agreement. So although band (WRC)4 of the ITU. Each WRC produces a harmonisation minimises and quantifies the

Spectrum management and the achievement of policy goals Spectrum management and the achievement document known as the Final Acts which risk of harmful interference, the necessary update the Radio Regulations currently in notification periods, co-ordination and force; both documents have the legal status possible agenda items at WRC make it a time of international treaties. 238 and resource-intensive business. It can also Currently, band harmonisation on the global limit the flexibility of the spectrum manager scale can be relatively technology-neutral (for in allowing for new and innovative use of example, television which includes the PAL, spectrum – some of which may even be SECAM, NTSC, DVB-T and 8-VSB standards in currently unused. the same frequency bands). However, it is not

3. For example: the Conference of European Postal and Telecommunication Administrations (CEPT) in Europe and the Inter- American Telecommunication Commission (CITEL) are two such regional agencies. 4. These occur between every three to four years. 5. AS, AMSS, BS, BSS, FS, FSS, MS, MSS etc are examples of services defined by the ITU and are: Aeronautical Service, Aeronautical Mobile Satellite Service, Broadcasting Service, Broadcasting Satellite Service, Fixed Service, Fixed Satellite Service, Mobile Service and Mobile Satellite Service respectively. 6. Region 1: Europe and Africa, Region 2: The Americas, and Region 3: Asia 7. Different services used within a band are detailed in the footnotes to the Master International Frequency Register (MIFR) which is Article 5 of the Radio Regulations. 202-259 6/11/06 20:37 Page 239

Traditional spectrum management, therefore, some are discussed later in this chapter. The is not service-neutral and has only limited problem is that recovering unused spectrum scope to be technology-neutral. This has led to can take many years, since current spectrum two different kinds of inefficiency. Firstly, as ‘owners’ will be reluctant to give it up, even if more services and applications were developed, they’re not using it. they tended to be allocated spectrum at higher The paradox is that, while it is very difficult to and higher frequencies. find ‘clean’ spectrum in attractive frequency But not all frequencies are equal. Below 60 bands for new applications, studies by Ofcom MHz, transmission characteristics are strongly and the FCC have shown that, even at lower influenced by the way the signal is reflected frequencies, existing spectrum bands are not and/or absorbed by the various layers of the that heavily used. The reasons are many. Avoid- ionosphere, which depends on the time of day, ing interference with neighbouring systems, the season and the solar weather linked to the in either space or frequency, may require sunspot cycle. Higher frequencies (above 60 certain ‘dead zones’ in which frequencies GHz) suffer from excessive absorption by cannot be used. water particles in the atmosphere. In addition, An example of this is the ‘guard band’ between the attenuation (weakening) of signal with television channels, which is designed to stop distance from the transmitter site varies the signals from one channel spilling over into inversely with frequency, so that for a given an adjacent channel, causing interference and transmitter power and antenna gain, lower degrading the signal. Demand for the service frequencies will ‘travel’ further than higher ones. may be intermittent, so that the frequencies The ‘cream’ of the frequencies (in that they are used intensively at certain times and, at have attractive propagation characteristics and others, not at all. Or, the frequency may have can be used to provide all services, including been assigned to a service for which no Section 4: Utilising the airwaves mobile) are found between 250 MHz and 2.5 demand materialised, or not to the extent that GHz. Naturally, these are also the ones that was forecast. have already been allocated to existing On the one hand, then, we have a system of applications. However, they are not necessarily 239 frequency management which is good at avoid- the most heavily used, and this brings us to ing interference and safeguarding national rights the second type of inefficiency. In order to (for example, for television broadcasting), but secure frequencies and allow new services to which results in under-utilising large chunks be developed, regulators have effectively had of prime spectrum. On the other, we have to guess which, among a number of hugely increasing demand for spectrum, driven competing services, are most likely to be largely by growth in mobile services, but also successful, or more ‘deserving’ of spectrum – by many other (telecommunications and non- in other words, to pick winners. telecommunications) applications. At the same The successes (2G mobile phones or GSM, time, both economic and technical develop- and satellite TV) and failures (ERMES, TFTS 8) ments are likely to change the way in which of this approach are well documented and supply-and-demand are married.

8. Enhanced Radio Messaging System – the pan-European radio paging system; Terrestrial Flight Telephone System 202-259 6/11/06 20:37 Page 240

Economic drivers of change users, with a single handset, to access voice in spectrum management services over mobile or fixed broadband networks using VoIP. More and more voice Traditionally, telecommunications applica- traffic is being carried over mobile networks, tions have been thought of, and regulated, as while the latest generation of fixed wireless belonging to separate ‘families’: fixed, using technology has a 3G mobile pedigree, enabling copper wire, cable or fibre to the home or non-line-of-sight connection and enabling premises, and aimed primarily at peer-to-peer portable user terminals to be deployed. communications; mobile, using the wireless spectrum, again for one-to-one communica- Consumers face an increasing choice of tions, with lower capacity than fixed links but communications options, whether fixed, near-ubiquitous access; and broadcasting, a mobile, or broadcast. Demand for mobility is one-way, one-to-many service over cable, well established, with the huge success of 2G satellite or terrestrial radio. mobile phone technology. The shift in demand from pure voice to voice plus data – and, Now, these separate markets are increasingly increasingly, video – means that applications converging in terms of the services and content are more and more bandwidth-hungry. From being delivered. The latest generation of mobile the regulatory point of view, as the number of phones can receive and display video material options increases, so too does the difficulty and games and, in the near future, will incor- of predicting how markets and technologies porate digital TV and/or audio receivers. A might develop in the future. The regulatory new variant of the European digital TV environment needs sufficient flexibility to standard, DVB-H (Handheld), has recently cope with this uncertainty. been established, and Digital Audio Broad- casting has evolved into T-DMB (Terrestrial Technological drivers of change in Digital Multimedia Broadcasting), with both spectrum management Spectrum management and the achievement of policy goals Spectrum management and the achievement standards optimised for delivery of digital To meet the demand for converged services, content to small handheld devices such as wireless technologies are emerging at a faster mobile phones. The UMTS standard also rate than traditional spectrum management 240 includes a broadcast element, MBMS (Multi can handle. From the consumer point of media Broadcast Multicast Services). view, technology is evolving to meet the trends The distinction between fixed and mobile tele- in demand identified above for greater communications is also becoming increasingly functionality. However, it would be simplistic blurred. Fixed operators are seeking to add to assume that it’s the most technologically mobile or nomadic aspects to their service advanced services, with the highest func- (for example, through portable broadband tionality, that automatically drive the greatest technology such as WiFi and WiMax), just as demand; consider the success of the humble mobile operators are seeking to add low-cost SMS, a limited text-only service without even calling and broadband to their services. This a full alphanumeric keyboard. In general, convergence can range from simple single- however, consumer demand has emerged over billing solutions to converged fixed and time for increased access to content, mobility mobile end-user devices. The Unlicensed and interactivity. Mobile Access (UMA) standard allows end- 202-259 6/11/06 20:37 Page 241

Advances in digital technology have led uses) or ‘overlay’ them (by using frequencies to developing more and more complex which are temporarily unused by other users) modulation schemes and a higher degree of threatens the exclusivity traditionally enjoyed intelligence in transceivers. Ultra-wideband by licensed users of frequencies. (UWB) radio promises the capability of sharing This exclusivity offers protection, not only spectrum with other uses and technologies; against interference, but in many cases against it ‘spreads’ the signal over a very wide range – potential competitors. It follows, then, that several Gigahertz – rather than requiring when you change traditional frequency man- exclusive use of a relatively narrow band of agement techniques to accommodate new tech- frequencies. nologies, you’ll create losers as well as winners. Other techniques under development include The move towards market mechanisms software-defined radio (SDR); listen before in spectrum management: liberalisation talk (LBT), where the equipment can ‘listen’ to and trading other users of the spectrum before deciding what frequency and, in some cases, what Economists since Ronald Coase (1959) have modulation technique, to use; cognitive radio; argued that allocating radio spectrum by dynamic power control (DPC); and spread administrative fiat makes little sense; spectrum techniques. establishing a market for spectrum in which owners could buy, sell, subdivide and These techniques can use what are currently aggregate spectrum parcels would lead to a ‘white spaces’ in the spectrum, gaining much better allocation of the resource.9 The additional capacity without interfering with argument is that markets are more efficient at current users. Smart antenna technologies use allocating resources than regulators, as their software to improve the ability of antennas to ability to capture all the information on extract a particular, wanted signal from a mass supply and demand is far greater, and much Section 4: Utilising the airwaves of competing signals. more rapid, than that of a centralised planner.

Paradoxically, while you’d have thought spec- A more liberal approach to spectrum trum managers would be pleased with new management would define rights clearly, 241 technologies that are designed to use spectrum preferably in both a technology and service- more efficiently, they don’t sit easily with those neutral way, and then assign the rights to managers’ methods. Their main priority is the individual users via an auction with the need to ensure efficiency while safeguarding all provision that they could subsequently be spectrum users from harmful interference. traded openly. Thus the market would decide not only who should have the licence This concern has meant that licences (because the auction would assign it to the traditionally defined the spectrum, equipment most efficient operator who places the highest and technical parameters of the radio system. value on the spectrum), but what services Fitting in other technologies which can should be provided: if one business model ‘underlay’ existing ones (by operating within failed, the rights would be bought by another the noise floor of spectrum allocated to other operator with a different model.

9. Faulhaber G. & Farber D.: Spectrum Management: Property Rights, Markets and the Commons 202-259 6/11/06 20:37 Page 242

The clear definition of rights and obligations opportunity cost of spectrum. A number of is absolutely crucial in this scenario, because countries have introduced some form of if interference problems arise, the transaction change of ownership via secondary markets, costs of settling them may be prohibitively including Australia, New Zealand, high, restricting trading and negating any Guatemala, the UK and the USA. benefit from liberalisation.10 • Spectrum re-configuration Internationally, we now see a trend of relying Spectrum re-configuration allows for the more strongly on market forces in spectrum aggregation or partitioning of spectrum management. Some countries have kept according to need. For example, a licensee control over functions such as spectrum could make efficiency gains by switching to allocation (i.e. deciding what spectrum should technologies that use less spectrum, and be used for what purpose and, sometimes, using then partition and sell the spectrum that it what technology), while increasingly relying on no longer needed. It also provides greater market mechanisms such as auctions to assign flexibility, in that a user can only buy what spectrum (i.e. to decide who gets the rights to they need. However, this gives rise to a use it). Other countries have moved further concern that spectrum re-configuration towards deregulating spectrum management would result in excessive fragmentation. by allowing for market-based allocation of spectrum use. Some of the options available to According to the ITU, there are three reasons implement a more liberal spectrum regime are: why fragmentation may not be a problem. Firstly, because portioning the spectrum • Leasing and sharing may devalue the asset; secondly, because the This typically involves a partial transfer of a cost of carrying out such transactions may licensee’s rights to spectrum, either for a be high; and thirdly, because users may hold limited period and/or for a portion of the onto unused spectrum for expansion of Spectrum management and the achievement of policy goals Spectrum management and the achievement spectrum encompassed in the licence. their network at some future date. Where Licensees can realise some income from this policy has been introduced, for example unused spectrum, while market entrants can in Australia and Guatemala, fragmentation 242 also get access to spectrum. It also creates a does not appear to have become an issue. financial incentive for licensees to utilise their spectrum more efficiently. Spectrum • Change in use leasing arrangements have been authorised Allowing changes in spectrum use provides in the USA. greater flexibility and exposure to market forces than any of the policies above. As • Change of ownership many spectrum decisions as possible are Change of ownership means transferring devolved to the market, since market licence rights to a third party in a secondary players are in the best position and have market, without any change of use or the most information to determine what reconfiguration. It can increase economic allocations of spectrum would be optimal efficiency by reassigning the spectrum to a for meeting consumer interests. In the party that values it most, hence exposing the

10. Cave M. & Webb W.: Designing Property Rights for the Operation of Spectrum Markets, Papers in Spectrum Trading, Warwick Business School, Aug. 2003 202-259 6/11/06 20:37 Page 243

countries that have introduced spectrum enhanced public services such as transport trading to date, the majority have also management and safety initiatives. In Ireland, allowed for some form of change of use. extending access to broadband and encour- aging take-up are key aspects of government Social, cultural and policy issues policy, because of its economic and social For many applications, how spectrum is used importance. Wireless technologies are increas- is more than just an economic issue: it has ingly emerging as attractive alternatives to important social, cultural and political cover rural and remote areas, where upgrading implications. Public sector broadcasters use existing infrastructure can be expensive. spectrum that is specifically allocated for Future requirements for government services broadcasting use under international agree- such as defence, security and public safety may ments. They provide services which are need to be considered. This includes upgrading generally free at the point of consumption, existing analogue mobile communication and are funded by a range of mechanisms services, which could lead to releasing existing including a licence fee and general taxation. spectrum in the UHF bands for civil use, and In many cases, these broadcasters do not pay potential requirements for broadband for the spectrum they use; in others they may communications such as wireless CCTV. only pay an administrative fee which does Radio spectrum can play a significant role in not reflect the value of the spectrum. This the transport sector, enabling cost-effective issue is highly topical in the light of the traffic monitoring and toll collection, and in recent ITU Regional Radiocommunications distributing real-time information to public Conference, RRC ‘06, which dealt with the transport users. For example, you’ll find real- future planning of certain broadcasting time information on local bus services in a bands and the planned switchover to digital number of European cities, using a combina-

terrestrial television (DTT) transmission. Section 4: Utilising the airwaves tion of vehicle tracking technology and either Digital technology is able to transmit the a private or public mobile radio network to same number of channels using only one- relay the information to bus stops. third to one-sixth of the bandwidth. This 243 Tensions between a market-based opens up the possibility of releasing some approach and the achievement of current ‘broadcasting’ spectrum for other applications, such as mobile broadcasting or policy goals fixed broadband wireless access – an issue With the introduction of market mechanisms commonly referred to as the ‘digital dividend’. into spectrum management, there has been While some of the dividend may be absorbed much debate about the best way to achieve by increased broadcasting demands, to transmit policy goals other than maximising economic more channels or provide High Definition efficiency and consumer welfare. In the Television (HDTV) services, there is certainly past, spectrum was usually gifted to public scope for re-thinking other uses of the band. service broadcasters, defence forces and emergency services. Other important issues include the widespread availability of broadband, and the availability Today, the climate has changed: as the of spectrum both for essential services and for demand for bandwidth-hungry applications 202-259 6/11/06 20:37 Page 244

such as data, mobile TV and audio has Economic efficiency is an important respon- increased, there has been increasing pressure sibility for spectrum managers, but they must on other traditional users of spectrum to justify also consider the tools available to them to their privileged access, or at least to prove that achieve other objectives. A range of policy they are using it efficiently. The debate on approaches is possible, ranging from pure digital switchover has focused minds on free-market to pure command-and-control – perhaps a wider issue: how to balance market but, most likely, involving a combination. mechanisms with the need to ensure that One pragmatic argument for gifting spectrum spectrum is available for services of general to free-to-air broadcasters was that a fee would economic or social interest, while ensuring result in either an increase in the licence fee or efficient utilisation. a direct subvention from government. But The latter point is important, particularly if there’s a drawback here: this approach gives spectrum is free to certain organisations: as no incentive for efficiency, with the result that demand for a free good is potentially infinite, large tracts of valuable spectrum are under- spectrum could be used wastefully in the used when modern technology could provide absence of incentives to use it efficiently. In both broadcasting and other services which this context, market mechanisms may have a consumers want. role to play, at least in identifying the A pure free-market approach would hold that opportunity cost of the spectrum. spectrum is an input just like any other: broad- While the debate has an unfortunate tendency casters are expected to pay for land, office to portray spectrum management models as buildings and intellectual property, so why either the unfettered operation of market forces not spectrum? The theoretical benefit of this or the dead hand of command-and-control, approach is that it ensures spectrum goes to the the reality is that spectrum management is most efficient user and (provided that change

Spectrum management and the achievement of policy goals Spectrum management and the achievement much more technical, complicated and case- of use is allowed) to the most efficient use. dependent than either model might imply. Thus, the services delivered would be those for As previously explained, not all spectrum is of which the user is most willing to pay. On the 244 equal value for all applications, and frequencies other hand, this rationale does not sit easily cannot be easily contained within a particular with the public-service model of most public area. A signal from one country can spill over sector broadcasting, since it raises the risk that borders into another. This is particularly crucial the broadcaster might not secure the required in the case of broadcasting services, where spectrum. The European Commission, in its transmitting stations use high sites and high 2005 communication on A Marketbased power, and can cause interference at a range Approach to Spectrum Management in the of several hundred kilometres – hence the European Union11 , showed a commendable greater need for international co-ordination. willingness to think the unthinkable. It stated: Recognising this, where change is being intro- “It may also be necessary to reassess the duced, this is usually done on a measured and assumption that broadcasting as a public staged basis.

11. Communication from the Commission to the Council, the European Parliament and the European Economic and Social Committee and the Committee of the Regions: A market-based approach to spectrum management in the European Union, COM (2005)400 final 202-259 6/11/06 20:37 Page 245

interest automatically requires terrestrial vention on the part of the regulator, in terms spectrum, since coverage obligations increas- of setting technical efficiency criteria and ingly can be fulfilled by means other than estimating the value of spectrum, but may still terrestrial wireless transmission, given the be useful in encouraging efficiency. growing reality of convergence and multiple The extent to which spectrum utilisation is platforms.” related to the ‘essential’ or ‘public service’ This, however, would be a step too far for element of the service would also need to be most policymakers. defined. In other words, not all aspects of a service may be equally deserving of free or A happy medium, which seeks to recognise reduced-cost spectrum. Broadcasters may be current realities but to create incentives for obliged to pay for fixed links they use to link efficiency, might be to ‘grandfather’ existing their broadcasting sites together, and spectrum rights to public sector organisations, emergency services may use commercial while making these rights subject to re- mobile spectrum as well as that set aside for packaging and trading. In this case, inefficien- uses related to safety-of-life. cies inherent in the current system would persist for some time – but the hope would be There is probably no single ‘right’ approach: that they would erode over time, as the public striking the balance between safeguarding sector recognised the opportunity costs of public services and encouraging efficiency will holding on to spectrum it did not need, and vary according to the public service concerned, gradually released it to the market. how desirable the frequency band is for other services and the preferred frequency manage- While in theory this would provide a ‘glidepath’ ment model. In general, though, while there towards a more efficient system, it would are drawbacks to a system of grandfathering essentially depend on the public sector organ- rights which allows trading and spectrum

isation becoming a spectrum management Section 4: Utilising the airwaves subdivision, it probably represents the best organisation in addition to its statutory and most achievable form of trade-off. functions. You could argue that any such body is unlikely to be as efficient as a private sector International harmonisation 245 body specialising in spectrum management, As a valuable common resource, there is and the incentive is likely to be diluted by a greater pressure to bring spectrum allocation perception that this issue is peripheral to the policy under the ambit of the European body’s main function. On the other hand, if the Commission to ensure a harmonised approach organisation actually becomes a successful to spectrum allocation across Europe. Member seller-on of unwanted spectrum, there may be States now need to balance European policy resistance to perceived windfall gains from a against national policy goals in order to avoid national resource. a ‘one-size-fits-all’ approach that may leave A second intermediate approach might be to valuable spectrum lying fallow. For example, require broadcasters to pay for spectrum, but the drive to establish a harmonised band for at a subsidised rate, or use a form of incentive mobile satellite services across Europe may pricing to encourage them to use efficient result in spectrum remaining unused in smaller technology. This requires rather more inter- countries where no such market exists. 202-259 6/11/06 20:37 Page 246

Probably the greatest success of harmonisation While harmonisation and standardisation can was the spread of GSM12 as the de-facto world lead to successful products such as GSM, and digital mobile phone standard. This started in can simplify spectrum management once the the late eighties in ETSI, as the successor to the system is in operation, they are highly labour- then-growing analogue mobile phone service intensive in the planning stages of a new or TACS.13 What originally started as a prestige novel system. They can also limit the flexibility niche product became, by the forces of harmon- with which the spectrum can be re-allocated isation, standardisation and the sheer size of should the product fail. the market, the ubiquitous world standard in Moreover, successful harmonisation relies on just ten years. sufficient market demand to ensure spectrum is An example of a failed standard would be the efficiently used in terms of channel occupancy.17 European ERMES14 paging standard, which In smaller countries, the demand for a product resulted from around three years’ harmonisation may simply not justify the resources needed work in CEPT and around the same again in by the spectrum management agency to take standardisation in ETSI during the early 1990s. part in the harmonisation and standardisation The resulting product was initially a minor processes in any great detail. This is how success; however its market share was first compulsory harmonisation can lead to a less- strongly diminished by the ubiquitous nature than-optimal occupancy of large chunks of of GSM, and then effectively wiped out by the spectrum, and small countries having to follow advent of SMS15 messaging. in the wake of the larger states’ progress.

The most successful atypical product and usage The current proposals for a greater use of which came about in a standard harmonised market mechanisms in spectrum management band is the IEEE 802.11 (WiFi) family of have led to an interesting debate about the standards, using the 2.4 GHz band. During the interaction between harmonisation and Spectrum management and the achievement of policy goals Spectrum management and the achievement 1990s, this band was harmonised in Europe flexibility. There is a fear that, if change of use is by CEPT for a low power radio LAN product. allowed, bands which are currently harmon- The European standard product (HiperLAN) ised on a pan-European basis could become 246 was commercially unsuccessful; however the fragmented; economies of scale in both frequency it used was the same as a product equipment and service markets could disappear; standard developed by the IEEE16. This led to and the net result could be to make the use of the rival American standard subsuming the spectrum less, rather than more, efficient. European one, and it is now used in the same The European Commission, in its harmonised band. Communication on Spectrum Policy Priorities for

12. Global System for Mobile Communications 13. Total Access Communication System 14. Enhanced Radio Messaging System 15. Short Message Service 16. Institute of Electrical and Electronics Engineers of America 17. This is, in general, the time that any transmitter spends on a particular RF channel; however, it can also be thought of as the number of users that any channel can serve. 202-259 6/11/06 20:37 Page 247

Digital Switchover18, has stated that “a part of the harmonised approach may not be best for the spectrum dividend should be earmarked all countries. for harmonisation”, adding in a footnote that Perhaps the best approach is to think of the term ‘harmonisation’ should be spectrum harmonisation initially in terms of understood in the wider context of enabling harmonisation of bands, in the sense that a the deployment of pan-European services, uniform technical design for rights of use (to including the common adoption of flexible cover, for example, channel bandwidth, maxi- approaches for spectrum management such as mum EIRP, block edge masks, guard bands and spectrum trading and unlicensed use. out-of-block emissions) is applied internation- The footnote is an interesting addition, since ally. Further harmonisation could be applied the paper on a market-based approach seems to methods of spectrum management within to argue against the approach of earmarking bands so that, for example, common bands are spectrum for particular uses. It is arguable allocated to licence-exempt services; are set that, if all Member States introduced flexible aside for public service purposes (subject to use of spectrum and trading, the market itself measures to ensure efficiency, as described would tend to harmonise spectrum where this above); or are subject to market-based rules would be beneficial. If consumers in different such as flexibility and trading. Member States ascribed similar values to the The Commission initiated a major study on same spectrum – and, in particular, if they spectrum trading19, which estimated that the valued ‘roaming’ – then, over time, particular net gain from the introduction of spectrum spectrum bands would gravitate towards their trading combined with flexible rights of use most efficient use. would amount to 8-9 bn per year. It further Harmonisation in this sense would lead to a estimated that, if one country decided not to better outcome for consumers than harmoni- reform its spectrum management policy by sation by regulatory fiat, since the services adopting such measures, this would create Section 4: Utilising the airwaves would be determined by the market rather costs for others. Conversely, when one country than determined in advance, with all the usual decided to join the reform project, this would difficulties involved in ‘picking winners’. yield an additional benefit to the others. 247 60-70 per cent of the benefits would be Given the diversity of approaches among attributable to national reforms, while Member States, however, such an approach 30-40 per cent would accrue as a result of is likely to take many years to develop; the making the transition in all the EU countries. Commission’s plan to use part of the digital dividend for pan-European services may A common approach to spectrum be the only realistic way to achieve management would open up the possibility harmonisation in the medium term. On of market-driven harmonisation, while leaving the other hand, as previously mentioned, the possibility for individual member states

18. Communication from the Commission to the Council, the European Parliament, the European Economic and Social Committee and the Committee of the Regions: EU spectrum policy priorities for the digital switchover in the context of the upcoming ITU Regional Radiocommunication Conference 2006 (RRC-06), COM (2005) 461 final 19. “Conditions and options in introducing secondary trading of radio spectrum in the European Community”, Analysis, DotEcon and Hogan and Hartson 202-259 6/11/06 20:37 Page 248

to find their own solutions to national issues although licences would be technology and such as broadband availability, without having service-neutral) together with harmonisation to reserve spectrum for applications which of the method of spectrum management, might may never develop. deliver both the technical efficiency of tradi- tional methods with the economic efficiency A combination of band harmonisation (which of markets, to the benefit of consumers. in many respects might not differ too much from current methods of frequency planning, Spectrum management and the achievement of policy goals Spectrum management and the achievement

248 202-259 6/11/06 20:37 Page 249

An economic evaluation of spectrum allocation policy1 Thomas W. Hazlett Professor of Law & Economics, George Mason University

The standard spectrum allocation approach posits Introduction three alternative models: ‘exclusive use,’ ‘commons,’ In summarising conventional thinking about and ‘command and control’. The regulator’s role is the regulator’s role in radio spectrum allocation, specified as selecting between these models, case- the US Federal Communications Commission by-case. This framework, however, yields the issued its Spectrum Policy Task Force Report anti-consumer outcomes widely associated with in November 20022. It defined the regulator’s traditional regulation. The analysis of property spectrum allocation task as selecting among rights found in the law and economics literature three alternative models, which it defined offers clarification. It demonstrates that the as follows: conventional approach mistakenly conflates access regimes, rules coordinating wireless usage, with • The ‘exclusive use’ model. A licensing property regimes, high-level rules determining model in which a licensee has exclusive and who is initially authorised to make such choices. transferable flexible use rights for specified The debate over spectrum allocation policy will spectrum within a defined geographic area, gain coherence when, rather than seeking to with flexible use rights that are governed Section 4: Utilising the airwaves impose preferred spectrum access regimes, public primarily by technical rules to protect policy enables a competitive market process to spectrum users against interference. discover them. This does not foreclose the option • The ‘commons’ model. This allows for the Government to provide particular access 249 unlimited numbers of unlicensed users regimes determined to be under-supplied by private to share frequencies, with usage rights that spectrum owners, but moves such decisions into a are governed by technical standards or better informed environment, where opportunity etiquettes but with no right to protection costs are visible. To enable this efficiency- from interference. enhancing outcome, it is necessary for spectrum regulators to move away from case-by-case • The ‘command and control’ model. The (or block-by-block) administrative allocations traditional process of spectrum management to a general regime of exclusive property rights. in the United States, currently used for most

1. This paper is adapted from Thomas W. Hazlett, The Spectrum Allocation Debate: An Analysis, IEEE Internet Computing (Sept/Oct 2006), 52-58; www.computer.org/internet 2. SPTFR,” http://www.fcc.gov/sptf/reports.html 202-259 6/11/06 20:37 Page 250

spectrum within the Commission’s jurisdic- In each instance, government effectively tion, in which allowable spectrum uses are prohibits certain wireless activities so that limited based on regulatory judgements.3 others are more productive. Moreover, assigning exclusive rights is not associated The Report’s conventional policy prescription with ‘exclusive use’ but with a method for is that each of the models has its appropriate determining how rules will enable multiple place, and that regulators should examine users to access the radio spectrum resource. frequency use possibilities case-by-case. While the Government should generally move away Indeed, ‘exclusive use’ licences awarded to from rigid rules, circumstances in each wireless cellular operators, for example, permit intense application will be determinative. ‘spectrum sharing’ in cellular bands, where millions of rival users (i.e. subscribers) use This paper attempts to clarify the anti consumer airwaves and network infrastructure under elements in this policy choice framework, which rules designed by competing wireless carriers. confuses access regimes (how resources are Conversely, unlicensed rules impose limits on employed by consumers and producers) with users that, for instance, exclude the use of property regimes (how control over organising CDMA spread spectrum devices. In either case, choices is defined). While ‘exclusive use’ and exclusions are employed to facilitate ‘spectrum ‘commons’ are recommended as liberal sharing’. The essential difference lies in the alternatives to traditional regulation, the nexus of control: which parties are ceded bureaucratic selection process that continues authority to impose rules and, so, what to impose regimes, block-by-block, constitutes incentives will govern the evaluation of ‘command-and-control’. Some forms of wireless economic trade-offs. market organisation are chosen, and others excluded, not by competitive markets but via Second, the policy selection structure is administrative allocation. incorrectly formulated. Basic property rights An economic evaulation of spectrum allocation policy An economic evaulation – what may be called high-level property regime This approach is revealed by considering the choices – do not uniquely determine the organ- law and economics literature on the general isation of the market. Assigning basic control evolution of property rights. Before considering 250 over a band of airwaves begins, not ends, the this alternative analytical framework, however, crafting of an access regime: a set of rules that I’ll look at some consequences of the conven- will allow end-users to appropriate resource tional approach. rights. To conflate the initial assignment of The conventional property rights with the ultimate set of rules trichotomous framework governing consumer use of wireless devices leads to fundamental misunderstanding. The standard spectrum allocation framework fundamentally mis-characterises the choices Most pointedly, it suggests that when a certain confronting the regulator. type of spectrum access – a means of organi- sing spectrum sharing – is determined by First, the exclusion uniquely associated with regulators to be socially beneficial, the state ‘exclusive use’ is just as essential to ‘licence- should then impose that organisational exempt’ bands or ‘command-and-control’.

3. SPTFR, p. 5 (Word version) 202-259 6/11/06 20:37 Page 251

structure. The approach is demonstrated in the seek to expand Central Park, or how much claim that the Government should set aside revenue it could generate by selling a slice of it.6 unlicensed bands, in the same way that it adds Without private property rights in land, these social value by allocating land to public parks: values are concealed, and the government agency supplying the amenities of a public park “A mechanism based on markets, such as an lacks the necessary inputs for efficient decision- exclusive use model, will be most efficient in making. This is the central shortcoming we most cases. However, government may also encounter in planned economies: the so-called wish to promote the important efficiency and ‘socialist calculation problem’. innovation benefits of a spectrum commons by allocating spectrum bands for shared use, Eliminating entry barriers imposed by govern- much as it allocates land to public parks.”4 ment spectrum allocation permits alternative technologies and business plans to be tested In fact, government does not generally in the marketplace. It is this discovery process, allocate land, the principal resource used to where costs and benefits are internalised by create public parks, but rather defines general responsible economic agents (i.e. asset owners), ownership interests. Such private property that reveals efficient means of organising rights then enable government to create wireless markets. public parks. The means by which state agencies acquire land rights (first appropria- Less generous spectrum ownership rights also tion, purchase, condemnation or gifting) are permit transactions, but limit their scope and, of secondary importance here. What is primary therefore, truncate the market’s discovery is that the land market actively benefits process. For example, the power limits economic decision-making even when the imposed by government in unlicensed bands ultimate access regime is a ‘commons’. enable some useful forms of co-ordination to occur, but not others. Crucially, they force

First, general property rules eliminate barriers to Section 4: Utilising the airwaves fundamental market organising decisions productive use of assets; society need not wait (setting power limits, technology standards for the state to set resource access rules, parcel- and so on) into the political/regulatory arena, by-parcel. This actively advances competition in sacrificing information that would be gleaned 251 services and fosters innovation. This is of crucial from marketplace competition. importance in spectrum allocation, where regulatory barriers to entry have long deterred The cost of any one particular market design competitive entrants and new technologies.5 is revealed by transactions between resource owners. Trial and error is fundamental, Second, the asset market provides valuable as innovative ways to please consumers information on the opportunity cost of inevitably emerge from uncertainty. The alternatives. We can see how much additional distribution of exclusive ownership rights acreage would cost New York City, should it enables a diversity that encompasses

4. SPTFR, p. 38 5. See, e.g., Hazlett (2001), and the section entitled Silence of the Entrants 6. New York City routinely sells ‘slices’ of Central Park by franchising private concessions. It permits restaurant owners, e.g., to enjoy exclusive rights for a fee. These revenues help offset the cost of maintaining the public park. The ability to reasonably evaluate trade-offs under a regime of exclusive ownership rights drives efficiencies across a wide swath of activities, supporting provision of public goods. 202-259 6/11/06 20:37 Page 252

technologies, services, business models and So, private property evolves into common co-operative structures. The property rights property when a corporation is created with structure does not preclude a ‘commons’ but the private assets of common shareholders, rationalises it. and state property emerges from common property when a government agency purchases Property rules: the law land from a corporation. and economics approach The optimal property rights regime permits In 1967, Harold Demsetz pondered the beneficial co-ordination of economic activity. question: “Why do we see exclusive ownership The ‘tragedy of the commons’, better thought of some resources, but not others?” of as a ‘tragedy of open access’, results when He offered a simple model wherein property users who could benefit from conserving rights are costly to define and enforce, and so resources are stymied. This is often framed as come into being when benefits exceed their a transaction costs issue, or one of ill-defined expense. He reasoned that it was efficient for property rights. native tribes in Canada to treat beaver habitat With spectrum, government policy states that as open to all when demand for skins was it aims to ‘minimise interference’. In fact, quite limited, and then likewise efficient for potential conflicts are a by-product of any exclusive rights in beaver hunting grounds to wireless activity; efficient rules maximise the emerge when the European fur trade was total value of wireless applications rather than introduced, increasing the benefits associated minimise disruptions. Efficiency demands that with conservation and ownership. each increment of interference (the damage to This approach has widely influenced scholars third-party communications) takes place seeking to understand how rules governing where the benefits of the activity causing the economic activity evolve. Four basic property conflict exceed the costs imposed. An economic evaulation of spectrum allocation policy An economic evaulation regimes have been defined: The spectrum regime in the UK, the US and • Open Access, which allows exploitation virtually all other nations is best described as 252 without limit; state property, also known as ‘administrative allocation’. A government agency is charged • State Property, which limits use via rules with defining spectrum use rights for various crafted by government officials; parties. Examples include when 3G wireless • Common Property, which limits use via licences are assigned by auction, traditional rules crafted by a group of owners; and broadcasting licences are authorized or when unlicensed bands are set aside for users of • Private Property, which limits use via rules government-approved equipment. A further 7 crafted by a single owner. reconfiguration of use rights then evolves. So even though in WiFi hotspots, for instance, In general, individuals behave differently non-exclusive spectrum rights (and equipment under the incentives of alternative property standards) are specified by the state, the regimes. Economic agents also realign marketplace often creates its own rights – such incentive structures by reconfiguring rights.

7. See, generally, Lueck and Miceli (2006) 202-259 6/11/06 20:37 Page 253

as when access to wireless local area networks owners, but by government regulators. The (WLANs) is denied to non-subscribers or non- mechanism used to co-ordinate spectrum use employees (in enterprise WLANs). is equipment regulation, most generically consisting of power limits. These are exclu- In US cell-phone networks, the state generally sionary devices intended to separate users awards relatively broad, exclusive airwave geographically. This co-ordinates rival wireless rights, approximating de facto private spectrum users, realising social benefits, such as when property. Depending on the country, operators cordless phones or WiFi routers are used in have latitude to select services, technologies, licence-exempt bands. But the social costs network architectures and price schedules. of such co-ordination are not limited to the This discretion is then employed to re-assign administrative expense of imposing rules, spectrum use rights to third party vendors (such as is sometimes asserted. Indeed, the principal as handset makers), application or content costs are likely to be accounted for by the providers (say, to transmit photographs, offer opportunities sacrificed when alternative access online services or deliver music downloads), rules – say, rules that would result if exclusive rival networks (such as Blackberry) and, of ownership rights were issued to a spectrum course, to subscribers. In the latter case, each owner – are extinguished. call made by a mobile subscriber can be seen as a transaction reassigning ‘exclusive use’ rights In an actual commons, owners set access rules from the licensee to the consumer – the primary and then internalise costs and benefits from economic function of the mobile network. resource use. In unlicensed spectrum, rules are imposed to determine basic resource appro- It is not ironic, but an implication of transac- priation issues by an outside party – the tional efficiencies created by clearly-defined regulatory agency. Resource costs or benefits private rights, that this results in massive are internalised only as they are communicated spectrum-sharing. Millions of parties enjoy

politically. Our experience with ‘public interest’ Section 4: Utilising the airwaves simultaneous access to given bandwidth, spectrum regulation underscores that these facilitated by the investment in significant decisions characteristically squander rich sunk capital provided by the network. possibilities for productive use of airwaves.9 253 This infrastructure, a complementary input to Spectrum has been usefully exploited under spectrum in the provision of wireless services, some allocations imposed via this framework, is a key component in productive deployment but this fails to remedy the anti-consumer of spectrum. The absence of such assets may consequences of administrative allocation. The constitute a ‘tragedy of the commons’ whose existence of some benefits does not ascertain magnitude dominates social losses due to the existence of net benefits. It is well known, ‘interference’.8 for instance, that the traditional licensing Unlicensed bands are not ‘commons’ but are regime governing TV broadcasting has produced administratively allocated. The basic socially-useful services. Americans buy some organisational rules are not crafted by joint 25 million TV sets annually, investing about

8. ‘Common interest tragedies’ result in inefficient under-use or over-use of a resource. See Fennell (2004), Hazlett (2005). 9. This was Ronald Coase’s (1959) intuition regarding the spectrum allocation system. Further research has supported this view. See Hazlett (2001). 202-259 6/11/06 20:37 Page 254

$8 billion10 – far more than they do in, say, The first layer identifies the appropriate margin. WiFi routers or modems.11 The productive use of one set of frequencies does not imply gains from additional band- The TV band is nonetheless a textbook example width. South Korea is known to have the of socially wasteful under-utilisation (over- highest concentration of WiFi hotspots in the allocation) of radio spectrum. Bandwidth with world, but uses only the 2.4 GHz ISM band. very high value in alternative employment is Regulators there have yet to authorise either set aside by government planners for an over- the 1997 U-NII or 2003 US allocations for the-air delivery platform that nearly 90 per cent unlicensed devices in the 5 GHz band, some of US households actually pay to bypass via 555 MHz in aggregate. This implies that, cable or satellite. Given that the incremental no matter how popular the inframarginal cost of moving to 100 per cent cable and allocations may be, incremental unlicensed satellite distribution for broadcast TV content bandwidth may not be productive. The limited is approximately just $3 billion, while the economic activity observed in the US in the social value of the 402 MHz (now walled off unlicensed 5 GHz or PCS bands (30 MHz in for broadcast TV services), is likely to exceed $2 the 2 GHz band allocated in the mid-1990s) trillion,12 the state property regime for radio is consistent with this view.15 spectrum dissipates (vast) net social value. The willingness of consumers to purchase millions A second stage identifies the property rights of devices that can use these frequencies does alternatives. Wireless activities are not uniquely not mitigate this anti-consumer outcome. associated with particular regimes. Unlicensed devices such as WiFi routers or cordless phones Maximising the social value of wireless can use licensed frequencies; a cellular phone The FCC believes that “The Commission’s service can be supplied using licensed bands rules for unlicensed transmitters have been (as it typically is) or unlicensed frequencies

13

An economic evaulation of spectrum allocation policy An economic evaulation a tremendous success” and that the policy (as it is for certain links created via multi- implication is that it should allocate more mode handsets). spectrum for unlicensed use. The logic mimics Assuming, arguendo, that additional bandwidth the view that, given that there are 2.7 TV sets 254 for a spectrum ‘commons’ is desirable, it is still per US household,14 the Government should necessary to devise a path to that end. One allocate more spectrum to the TV band. mechanism is to impose, by regulatory fiat, The regulatory approach to incremental unlicensed access rules. That is the implication unlicensed allocations lacks the multi-layered of the SPTFR’s tripartite decision tree. But this analysis needed. approach fails to incorporate secondary rights

10. Eric A. Taub, The Big Picture On Digital TV: It's Still Fuzzy, NY TIMES (Sept. 12, 2002); http://tech2.nytimes.com/mem/technology/techreview.html?_r=1&res=9801E0D61531F931A2575AC0A9649C8B63&oref=slogin The revenue statistic assumes average U.S. sales prices are equivalent to international prices, where 2004 sales of $48 billion accounted for 150 million sets. Tekla S. Perry, Digital TV's 100-Meter Dash, IEEE SPECTRUM (June 2005) http://www.spectrum.ieee.org/jun05/1222 11. Total worldwide wireless LAN equipment sales total about $3 billion. See Hazlett (2006) 12. See Hazlett (2001b), Hazlett & Muñoz (2004) 13. FCC (2002), par. 6 14. Leichtman Research Notes, 1Q 2005; http://www.leichtmanresearch.com/research/notes06_2005.pdf 15. In contrast, note the extremely high valuation implicitly placed on additional cellular (liberal rights) spectrum by consumers, as estimated using an international dataset in Hazlett & Muñoz (2004). 202-259 6/11/06 20:37 Page 255

reassignments. For instance, by assigning However, just because the forms of spectrum ownership, ‘commons’ could be co-ordination differ from the manner in which created if profitable opportunities were to be unlicensed bands operate does not imply discovered. Importantly, competitive market that a wider use of the unlicensed regime forces would search, test and reveal a variety of should be mandated. Quite the contrary. To alternatives, gauging their value. As FCC the extent that cellular networks are liberally spectrum analysts Evan Kwerel and John regulated and competitive, the market adopts Williams write: organisational modes serving consumer interests. Included here, most notably, is the “Future expansion of dedicated spectrum for demand by customers to use extensive fixed unlicensed use could be obtained through network infrastructure. The transactions costs negotiation between the manufactures of such of providing wide-area network investments devices and spectrum licensees… Competition under unlicensed rules are relatively high, between licensees would ensure that fees depriving consumers of desirable options.17 reflect the opportunity cost of the spectrum. Alternatively, manufacturers of low power The third layer considers the spectrum devices might form a bidding consortium to allocation process as a whole. What are the acquire additional spectrum in our auction. If implications of allocating spectrum in the there is a continued desire as a matter of public current tripartite case-by-case vs. a liberal policy to provide spectrum for such devices on ownership regime? The consensus of a ‘free’ basis, the FCC itself might purchase the economists is that the latter eliminates the spectrum in the auction, essentially reducing barriers to competition posed by the current overall proceeds to the Treasury. This would system, permitting rational economic decisions have the advantage of making the opportunity to be made.18 This does not reflect a preference cost of such allocations more explicit.”16 for one type of market organisation over

another; economists are agnostic as to what Section 4: Utilising the airwaves What the FCC calls a ‘private commons’ is not type of network architecture, or non-network simply a theoretical possibility. Cellular wireless devices, are optimal under various networks organise complex spectrum sharing, circumstances. As Kwerel & Williams offer, in equipping customers with handsets, frequency 255 their argument for a ‘Big Bang’ to endow an access rights, and wireless network infrastructure active spectrum market: in exchange for subscription fees. Some access is, at the margin, ‘free’ (for example, within- “One possible arrangement would be for a plan, on-net, or off-peak minutes, as well as licensee or group of licensees covering a text messaging), and customers use the network particular band throughout the US to charge without discrimination. manufacturers a fee for the right to produce and market devices to operate in that band.

16. Kwerel & Williams (2002, p. 31; footnote omitted) 17. This does not imply that non-network wireless devices, such as those employed in WLANs, would not be widely deployed were more liberal spectrum allocations made under exclusive rights. By expanding the supply and lowering the cost of access, it is predictable that additional applications, business models, and technologies would be offered. It is also observed that numerous telecommunications networks bundle their ‘exclusive rights’ network services with devices that access unlicensed bands, as seen in mobile phones using Bluetooth headsets or digital subscriber line modems that embed wireless routers using 2.4 GHz spectrum. 18. See Rosston & Hazlett (2001); Cave (2002); Hahn & Wallsten (2006) 202-259 6/11/06 20:37 Page 256

Such contracts could provide different grades the award of exclusive rights,20 but these are of access for different fees, thus providing for a actually a by-product of the regulatory system wider range of uses than are possible under and are entirely remedied by more efficient the current rules.”19 government policy. The marketplace costs of trading exclusive rights are quite modest in the The passage suggests two critical considerations. wireless phone market, where over five trillion First, there are myriad ways to co-ordinate minutes of use are purchased by global wireless use, even assuming an ‘unlicensed’ customers each year. structure. The trial and error of the market is a reliable mechanism for testing alternatives. The tragedy of the anti-market

Second, it is not efficient for the state to Liberalising spectrum policy empowers designate market structures. To assume that competitive spectrum owners to experiment only by government regulation can a with alternative network architectures or access ‘commons’ be provided is to mistake an access models. It also permits governments to regime for a property regime. And to assume evaluate, with economic data gleaned from that forcing a particular set of unlicensed rules actual transactions, whether particular forms on spectrum users creates efficiency is to of spectrum access need to be subsidised. ignore the underlying characteristic of admin- Just as a public park is best provided when the istrative allocation: that the state lacks the costs of the park are known and competitive information or incentives to effectively evaluate land-use alternatives permitted, exclusive the trade-offs between rival alternatives. spectrum ownership facilitates efficiency.

The pro-consumer policy framework dispenses Some regulatory regimes are liberalising. with the state’s case-by-case rule makings. Countries such as Australia, New Zealand, Instead, exclusive rights to spectrum should be Guatemala and El Salvador instituted sweeping

An economic evaulation of spectrum allocation policy An economic evaulation generally distributed to owners – some of reforms in the 1980s and 1990s, radically whom, no doubt, will be public agencies. The advancing the distribution of exclusive unlicensed bands which host wireless devices, spectrum rights.21 The United Kingdom has recently adopted a framework for simulta- 256 such as the 902-928 MHz and 2.4-2.4835 GHz bands, would be fairly certain to remain, as neously eliminating licence restrictions and now, de facto state property. expanding the bandwidth allocated to these liberal licences, with the aim of allocating Indeed, the reallocation of unlicensed bands is about 70 per cent of spectrum under 3 GHz in difficult due to the transaction costs that are this way by 2010. generated by unlicensed rules. The transactional efficiency of ownership rights lies in the fact Yet, most countries continue to allocate that a responsible economic party is enabled to spectrum case-by-case. Since December 2002, co-ordinate spectrum sharing. This is widely for instance, the FCC in the US has been misunderstood. ‘Licensing costs’ are enmeshed in rule-making to regulate TV band characterised as an expense associated with ‘white space’. The policy would impose rules

19. Ibid 20. Carter et al. (2003) 21. For a description of these reforms, see Hazlett (2004) 202-259 6/11/06 20:37 Page 257

determining how unlicensed devices and spectrum. Without considering the option that broadcast stations co-exist. An alternative Apple acquire spectrum rights and configure means of organising shared use would be them for LAN services, the FCC mandated a to issue TV band overlay rights giving new spectrum set-aside, imposed standards licensees full flexibility subject to interference (including listen-before-talk) and set power protection for incumbents. This would limits. Yet, virtually no use has been made delegate the creation of an access regime of the bands. Meanwhile, adjacent licensed to competitive owners. PCS bands host intense traffic. The 30 MHz squandered on U-PCS would provide billions Sen. Larry Pressler (R-SD), then Chairman of of dollars in annual consumer surplus gains the Senate Commerce Committee, proposed if PCS operators were able to acquire them.23 this solution in May 1996.22 It was opposed by a wide range of political interests, including Apple suffers no penalty from the misallo- TV broadcasters and, today, regulators simply cation, a lack of accountability that may be ignore the licensed overlay as an alternative called a ‘tragedy of the anti-market’. The future regime choice. is unknowable, and the value of rival technologies, each with its own optimal mode It was much the same in the 1990s, when the for organising spectrum access, is uncertain. FCC allocated 30 MHz for unlicensed PCS What is certain, however, is that society loses (U-PCS). Apple Computer then argued that the benefits of market competition when it wireless LANs were in need of additional socialises risky deployments of radio spectrum. Section 4: Utilising the airwaves

257

22. The author assisted in the preparation of this proposal. See Hazlett (2001) 23. See Hazlett & Muñoz (2004) 202-259 6/11/06 20:37 Page 258

References Fennell, Lee Ann. 2004. Common Interest Tragedies, 98 Northwestern University Law Brito, Jerry. 2006. The Spectrum Commons in Review 907 (Feb.) Theory and Practice, Stanford Technology Law Review (forthcoming) Hazlett, Thomas W. 1990. The Rationality of U.S. Regulation of the Broadcast Spectrum, Carter, Kenneth R., Ahmed Lahjouji, and 33 Journal of Law & Economics 133 (April) Neil McNeil. 2003. Unlicensed and Unshackled: A Joint OSP-OET White Paper on Unlicensed Hazlett, Thomas W. 2001. The Wireless Craze, Devices and Their Regulatory Issues, Federal the Spectrum Auction Faux Pas, the Unlimited Communications Commission Office of Bandwidth Myth, and the Punchline to Ronald’s Strategic Planning and Policy Analysis, Coase’s ‘Big Joke’: An Essay on Airwave Working Paper No. 39 (May) Allocation Policy, 14 Harv. J. on Law & Technology 335 (April) Coase, Ronald H. 1959. The Federal Communications Commission, 2 Journal of Law Hazlett, Thomas W. 2001b. The U.S. Digital & Economics 1 (Oct.) TV Transition: Time to Toss the Negroponte Switch, AEI-Brookings Joint Center for Coase, Ronald H. 1960. The Problem of Social Regulatory Studies Working Paper 01-15 Cost, 3 Journal of Law & Economics 1 (Oct.) (Nov.) Demsetz, Harold. 1967. Toward a Theory of Hazlett, Thomas W. 2005. Spectrum Tragedies, Property Rights, 57 American Economic 22 Yale Journal on Regulation 242 (Summer). Review: Papers and Proceedings 347 (May) Hazlett, Thomas W. 2006. ‘Barbed Wireless’ Demsetz, Harold. 2003. Ownership and the and the Vertical Structure of Property Rights, Externality Problem, Chapter Eleven in unpublished manuscript Anderson and McChesney, eds., Property An economic evaulation of spectrum allocation policy An economic evaulation Rights: Cooperation, Conflict, and Law 282 Lueck, Dean, and Thomas J. Miceli. 2006. (Princeton, NJ: Princeton University Press). Property Rights and Property Law, A. Mitchell Polinsky and Steven Shavell, eds., Handbook 258 Federal Communications Commission (FCC). of Law and Economics (forthcoming) 2002. In the Matter of Additional Spectrum for Unlicensed Devices Below 900 MHz and in the 3 GHz Band, Notice of Inquiry, ET Docket No. 02-380 (Rel. Dec. 20) 202-259 6/11/06 20:37 Page 259

259 260-324 6/11/06 20:41 Page 260

section 5 Global areas of focus 260-324 6/11/06 20:41 Page 261 260-324 6/11/06 20:41 Page 262 260-324 6/11/06 20:41 Page 263

The genie is out of the bottle Charles Leadbeater Author, We-think: the power of mass creativity

Nick Jaffe has finished for the night. He puts of production and contribution, reviewing and his earphones to one side, closes the lid on his sharing, watching and listening. laptop and sits back in his chair, his nightly Nick is announcing the arrival of a new media communication to his worldwide audience environment, one that will disrupt and complete. He is not quite sure where they are, reconfigure the world of mass-produced, nor how many there are, but he knows they’re industrialised media. In a sense, we are out there because he can see his nightly moving from an era in which information and sessions – a mixture of music, chat and media was produced for the masses, to one in ranting – being downloaded. which it will also be produced by the masses. Nick, of course, is not broadcasting. He is a The corollary is that we are moving from an podcaster and just 13. His studio is his economy of mass production to one in which bedroom. For him, taking part in mainstream innovation and creativity also become mass radio would be like going to a restaurant with activities, rather than being confined to an his parents wearing a suit and tie: it’s not clear elite of journalists and broadcasters; special why you would do it. people working in special places. Section 5: Global areas of focus Nick produces media in a way that someone The audience (at least a large chunk of it) that 20 years his senior could only have dreamed used to simply watch and listen, passively, of and he consumes media completely now want – and is able – to take part and 263 differently as well. have their say. They will no longer just sit He rarely watches television or listens to the slumped on their sofas; they can take to the radio. He acquires most of what we wants to stage themselves, become part of the action, watch from the internet, from sites such as at least some of the time, in a way they want. YouTube. He most likes short films and If the last 50 years have been about the comedy sketches which no one over the age creation of cultures, organisations and of 15 will have heard of. He carries most infrastructures for mass-media consumption, of what he wants to watch in his iPod, his the next 50 will be about mass-media device of choice. participation. Mini-media has never looked bigger He gets the content from various aggregators of podcast materials and through Let me sketch, necessarily briefly and baldly, recommendations from his mates. Nick’s the main features of this emerging world media life is pretty much a seamless cycle of production by the masses, before going on 260-324 6/11/06 20:41 Page 264

to assess the benefits it could bring, the contribute a lot (most edits on Wikipedia are challenges it poses to incumbent industrial made by a thousand or so core contributors) media production and the issues that it raises or a little. for regulators. These new media communities can only The means of media production are becoming extend the range of potential contributors by increasingly widely distributed. The iPod adopting a modular design for their products. generation do not just want to watch and listen Wikipedia is broken down into tens of wherever they are; increasingly, they also want thousands of particular articles. Linux, the to create and contribute. More than 1bn open software programme, is broken into people worldwide – and rising – have the many thousands of smaller modules. capacity now to become mini-media producers. This means people can contribute to just the Some may be professionals freelancing in piece that interests them, where their skills their own time, but most are a rising breed are relevant, without having to be involved of Pro-Am producers: amateurs like Nick Jaffe, in the organisation as a whole. As long as the who do it because they love to rather than modules fit together, like Lego bricks, then it because they’re paid to, yet who operate to doesn’t matter. high standards of production. They want to Participative media is encouraging new kinds do it well, judged by the standards of the of personal freedom – individual activities like communities they operate in. Nick Jaffe’s – only because it is also creating Those mini-media producers are linked not new kinds of social production; more or less just by infrastructure but also by shared tightly-knit forms of collaboration to create, platforms and commons, such as MySpace, aggregate and distribute content. the web site aggregator, Second Life, the mass These collaboratives – like Wikipedia and

The genie is out of the bottle player immersive computer game and Linux – are organised without being Wikipedia, the online encyclopaedia, which organisations. Wikipedia, which now has allow them to exchange, share, combine and more than 1m articles in English, 400,000 in review information, cultural and media 264 German, and more than 1,000 articles in over production. 90 other languages, has just a handful of Industrial-era information producers can full-time employees. It does not have a big only really work if the people contributing head office, corporate awaydays, an HR are employees; journalists, for example – department, induction programmes for new professionals with the skills to use the very staff or any of the other paraphernalia of expensive equipment required to make media modern corporate life. content. Indeed in many respects, seen through In this world the producers were employees, the lens of the profit-driven market and the who worked 9 till 5, five days a week. Viewers hierarchical corporation, these collaborations and listeners did not get much of a look-in. seem quite outlandish. They scramble all But the new media communities, the likes the categories we rely on to order the of Wikipedia and Second Life, allow a sliding industrial world: consumers can become scale of contribution: people can either producers at least part of the time; demand 260-324 6/11/06 20:41 Page 265

can create its own supply so long as the means The content and tools are often held in more of production is in the hands of the users; or less loose forms of common ownership. the amateur, long a marginalised and fringe People draw on, and give back to, the figure, is playing a new role alongside resources of the commons, whether that is (and sometimes in competition with) the by sharing content for a computer game, professional; and leisure, once just a time for contributing to the source code of a software relaxation, is now also for activities that look programme or by pooling information, as very much like satisfying work, requiring the with Wikipedia. application of skill, effort and learning. Commons-based media production is not These collaboratives bring together many a free-for-all, and nor is it a bazaar. The distributed and decentralised contributors – likes of Wikipedia and Slashdot, the geek but they are not like markets. Generally, they discussion site, have succeeded only because are not organised by price signals, yet supply these communities are structured to take seems to respond to demand. decisions in reliable ways. They are not just self-organising crowds or swarms. They are Indeed, many of the participants are not organised without being an organisation; directly motivated by financial gain. To the they make decisions without having their extent that these Pro-Am media producers kinds of hierarchy of industrial-era create markets, often they are niche. organisations. In the case of Wikipedia these Production by the masses creates millions governance arrangements are both formal of markets with a few consumers, whereas hit- and informal. driven industrial era production was designed to create a few products – songs, TV shows – As its founder Jimmy Wales likes to put it, with millions of consumers. Wikipedia relies on: anarchy (anyone can do whatever they want); democracy (contentious

And these markets behave much more like Section 5: Global areas of focus conversations; they encourage an interplay decisions are voted on); meritocracy (the best between producer and consumer, not just an ideas should win out, judged against the ideal exchange of goods and money. People who of the neutral, informative encyclopaedia); 265 want to be participants and players want aristocracy (people who have been around in different things from people who just want to the Wikipedia community longer tend to get be couch potatoes. Players in any game want listened to more); and finally monarchy (in equipment to play with, a pitch on which to the form of Wales himself, if all else fails). play, people to play with and some shared These new forms of social production can rules to play by. operate at all scales of operation: from the global to the intensely local and small-scale. They do not necessarily want a service, they want tools so they can do it themselves and a platform By this stage, many people will be feeling a on which they can participate with others. queasy sense of déjà vu from the superficial Couch potatoes want good service: anytime- parallels between this story and the hype that anywhere media, at the flick of a button. surrounded the dot.com boom. Commons-based production offers something Isn’t this new way of organising ourselves to much more fundamental and potentially radical: produce, edit, distribute and engage with tools that allow for mass participation. 260-324 6/11/06 20:41 Page 266

information and cultural production at best driven by cheaper, more distributed just a marginal pastime, on the fringes of the technologies. They speak to values media world or, worse, a mere passing fad? of individuality: they allow people more Is this new way of organising going to prove scope to be the author of their life, durable, and will it spread from where it to express what matters to them and started in computer games, open source makes them distinctive. software, music file sharing and the world • Third, they do not depend – as earlier of wikis, into the mainstream of how efforts at collaborative self-organisation did organisations work? – on people buying into alternative or Co-operative and mutual forms of organisation altruistic values. These collaboratives grow are not new. Swiss villages have long organised because they do what it says on the tin. their pastures and woods as commons. But If you want to buy anything in the world elsewhere agricultural commons were the best place to go is probably the eBay extinguished long ago in favour of private trading platform. People do not use Linux property and investment to boost productivity. open source software just because they do not like Microsoft; they do so because it Savers pioneered mutual forms of organisation works. YouTube is not just an interesting in the 19th century. But in the last few years experiment; it allows film producers to find many of these mutuals have turned themselves audiences, and audiences to find content into traditional shareholder-owned companies. they want. Wikipedia is not perfect but it is The history of capitalism is littered with heroic a good starting point to find the answer to but failed attempts to create co-operative many questions. factories. Why should commons-based media • Fourth, these social and collaborative ways production, Wikipedia-style, be any different? of organising have powerful economic

The genie is out of the bottle Commons-based media: here to stay benefits in terms of competition: they are very low-cost compared with traditional There are several reasons for thinking this is media. On any day more people turn to more than a passing fad scurrying across the Wikipedia than the online versions of 266 margins of the economy. major US newspapers. Online games that • First, these new collaboratives are emerging mobilise the contributions of thousands in information, software, entertainment, of players get a very low-cost workforce culture and media, which are among the of co-developers. These collaboratives often fastest-growing sectors of the developed provide the most potent competition to economies. These sectors are not marginal incumbents and their established high cost but central to modern economies and models. Imagine a start-up coming up with indeed modern life. an alternative to Microsoft’s PowerPoint programme. No venture capitalist in their • Second, while these new patterns of right mind would back it, no matter how organisation are still emerging, the larger good it might be. Why take on Microsoft? ones – and there are plenty that stay very Competition to powerful incumbents will small – nevertheless seem to have some often not come from the market but from powerful and durable features. They are groups of amateurs who will carry on 260-324 6/11/06 20:41 Page 267

innovating even when there is no money what might be relevant. Content is self-sifted to be made. That is one reason to imagine by the participants. A similar but slightly a future in which our choices as media different objection is about quality. producers and consumers will be a mix Many of these collaboratives work only of those from large global corporations because they have low or non-existent with professionals and branded products barriers to entry: it is very easy to take part and low-cost global collaboratives of and contribute. But how can these very amateurs and small producers. The power open, easy to access self-organising sites of the corporation will be contested not be trusted, if there is no one looking after by other corporations but by a completely quality? Don’t we need gatekeepers – different social model of production, professionals like journalists and regulators with wholly different economics. – to inspect and assess for quality? Again these collaboratives seem to be • Fifth, these new collaborative forms evolving their own, distinctive solutions to of organising seem to have hit on a new these questions, relying on self-help and recipe for innovating en masse and at scale. peer review to trial, debate, test and sift Like most organisational innovations this good ideas from bad. For example, involves combining some already well- on 15 November 2004 Robert McHenry, known ingredients – peer review, modular a former editor–in-chief at the Encyclopaedia product design, team-based working – Britannica, published an article mocking but in a new way. Peer review is an Wikipedia as the ‘faith-based encyclopaedia’ established technique among academics highlighting in particular an article on and scientists: eBay, YouTube and Slashdot Alexander Hamilton. Hamilton’s biographers are taking it into new areas, at scale. disagree on whether he was born in 1755 or Linux and Wikipedia have found ways to 1757. Wikipedia glossed over this debate create complex, information-rich goods fixing it at 1755. McHenry argued this Section 5: Global areas of focus and services, at scale, by mobilising and showed it could not be trusted in the way a combining the ideas of many contributors. professionally-produced encyclopaedia • Sixth and finally, these new collaboratives could. But within hours of McHenry’s article 267 are finding ways to respond to their own being published the reference was corrected weaknesses. Wikipedia is still not as accurate and over the following days all dates and as Encyclopaedia Britannica, which itself is references in the article were checked. not as accurate as most people thought. Within a week Wikipedia had a version One objection from traditional media stems which was clean and correct. Ironically, from the cacophony of the material available McHenry’s critique had triggered precisely on vast sites like YouTube and MySpace. the collaborative self-correction mechanisms How do people find their way to what they which should make Wikipedia so robust might want? Don’t they need a navigator? over the long run. Rapid feedback, peer Isn’t that a role that only skilled review, many people looking for problems professionals – such as journalists – can and providing solutions, provides a recipe play? Well perhaps, but it also turns out that for rapid improvement and high quality. the best of these communities work by allowing people to flag and recommend 260-324 6/11/06 20:41 Page 268

It is still early days but it seems likely that come from, the story we tell about ourselves. these highly social and distributed forms Seen in these lights, traditional mass-media of media production, sharing and consumption suffers from several limitations, which social will be durable. The dot.com boom was production addresses. fuelled by venture capital money looking for Criticisms of traditional mass-media stem from the next big thing. Too often, it just found a its economics. The high capital costs of creating better way to get pet food to people in a hurry. systems for creating and distributing content – What we are witnessing now is a wave of employing hundreds of journalists and others social innovation which is fuelled by a mixture in expensive office space in London, buying of cheap technology, amateur passion, simple printing presses and building studios and so on economics, individual expression and loose – means media organisations need to find big collaboration. markets to attract advertising, or win support The lack of money, at least at the outset, for public subsidy. is part of what makes this wave so powerful That may result, however, in the number and and durable. In media and culture, lack range of views and voices traditional media of resources is as likely to produce radical can air being too limited: there isn’t enough innovation as a well-funded corporation. time, money and capacity to reflect the Social media production: diversity of what people have to say. New, three key benefits more distributed forms of production and sharing allow many more views to be garnered All well and good, the sceptic might reply, from many more sources, often from those but even so why does all this matter? Or to that would not pass the tests of return on put the question in a slightly different way: investment or public value. A related critique is this just a way for kids to display pictures is that high capital costs put media organisa-

The genie is out of the bottle of themselves on the internet and for bands tions in the hands of only a few people – to market their MP3 files – or could it bring corporate owners or state-appointed executives. larger, more significant benefits to society? Concentration of power is a bad thing if it 268 The answer, tentatively, is yes it could. suppresses diversity and debate. The dot.com boom offered faster pet food. As yet, the more distributed forms of production Social media production offers improvements have escaped this problem: Jimmy Wales does to the quality of our societies in terms of not decide what happens in Wikipedia in the fundamental values: freedom, democracy way that Rupert Murdoch can influence his and equality. editors and empire. If distributed media First, this wave of social innovation is good allows for more diversity of expression then for personal autonomy. How we consume it should also create a more open, contested information, and what news and views we culture. It should be possible to see any issue can access, is fundamental to how we see the – and so our own role in it – from several world and make decisions. The kinds of different vantage points. That in turn should cultural activities we engage with have a huge help to make us more self-aware, reflexive bearing on who we think we are, where we and critical. 260-324 6/11/06 20:41 Page 269

Think of media as if it were a sport. Many why social production offers the possibility of the people who watch football also play it. of a deeper sense of freedom based on partici- Their participation as amateurs enhances their pation and not just consumption; taking part, enjoyment as consumers: they are two aspects not just consuming. It also allows a wider of the same interest. The same will be true for range of motivations to come to the fore. media in future. Most people have diverse motivations. For most of the last century in media we’ve They are neither purely altruistic, completely had only the equivalent of a small number self-interested or obsessed by the power and of Premiership teams to watch. In future, status conferred by hierarchy. Non-market, alongside the media equivalent of the social forms of production allow people to do Premiership, we need to develop the media things because of their passions, interests and version of Hackney Marshes where scores skills, rather than because of the financial of amateur football teams play. rewards or because they are told to by their boss.

Social production allows us all, even if only in The second reason why this wave of innovation small ways, to become participants rather than is important is that social production of media recipients. That means, at the risk of sounding should be good for democracy and the public pompous, we have new opportunities to learn sphere. Television and mass-media have how to be free, through what we choose to provided the information backbone to our make and contribute to, rather than through public life: that is where issues are debated, what we choose to buy and consume. and politicians and others appeal for our attention and occasionally our votes. Industrial production robs people of a sense of agency. The cliché is that you are a cog in As a tool for democracy, mass-media has been a machine. In the last two decades the way criticised on several grounds. Concentration

some people work in large corporations has of ownership gives undue weight to the views Section 5: Global areas of focus shifted towards more self-management and of a few. The passive send-and-receive broadcast self-organisation. model means that people are treated as targets for well-honed messages rather than as citizens But the underlying story is the same: for most 269 and participants. The need to reach large people work is a necessity, a way to make audiences with slickly-produced commercials a living but not a way to express yourself. requires money and that in turn creates In the industrial era that was something opportunities for corruption in party funding. you could do only at leisure or through Politics is turned into a spectacle, part of the consumption. Social production is changing entertainment business, searching for an all that: it recreates the possibility that people audience: George Galloway’s appearance on can find a sense of autonomy through work, Celebrity Big Brother is merely the most recent albeit not work for a corporation. and infamous example of this trend. People who produce, for free, new computer Social production of media would create an games, encyclopaedia articles, software, alternative backbone, one based on the idea music and films are finding ways to express of the commons: a shared platform for debate themselves through voluntary labour. That is and ideas. 260-324 6/11/06 20:41 Page 270

The media commons would make it far easier “Information, knowledge and culture are for people to have their say, to voice their core inputs into human welfare. Agricultural views and to get organised: it promotes basic knowledge and biological innovation are democratic values such as self-organisation, central to food security. Medical innovation free association and self-regulation. Modern and access to its fruits are central to living a political parties, themselves creatures of the long and healthy life. Literacy and education industrial era, now find themselves constantly are central to individual growth, to democratic outflanked by social movements and self-governance, and to economic capabilities. campaigns, often born by self-organising Economic growth itself is crucially dependent networks. These new forms of political upon innovation and information. For all engagement are not based on send-and-receive these reasons information policy has become models of communications; they are more a critical element of development policy and like vast rolling conversations. the question of how societies attain and distribute human welfare and well-being. We have already seen in the US and the UK Access to knowledge has become central to that bloggers and campaigners can provide human development.” an important new check on the power of traditional media, forcing newspapers and Stacked up against that challenge, how does news channels to pick up stories they have traditional media fare compared with social ignored or dropped. media production? Proprietary systems for owning and controlling knowledge limit its The rise of blogs-slash-political campaigns flow and direct it to where people can pay. such as the Daily Kos, which emerged out That is why so much pharmaceutical research of the ruins of the Howard Dean campaign, is devoted to diseases of the rich and corpulent show that social media can get organised and so little to diseases of the poor. and have an impact in its own right. The genie is out of the bottle In most scientific and cultural fields one The third power behind this wave of innovation person’s output becomes another person’s is that, in the long-run, commons-based inspiration or input. If proprietary controls – media should be good for equality and global 270 such as patents and copyrights – put up the development. price of inputs, then it will price out of the At first glance it is far from clear why there market some innovators who cannot afford to should be any connection between media, pay the fee to license access to the knowledge. poverty and equality. Why should people The alternative to proprietary systems for who need clean water, food and HIV drugs spreading knowledge and ideas has been be remotely concerned with how middle class international versions of traditional public kids in the developed world share their MP3 service broadcasters, often state-funded and, files? About 25,000 people a day die from at times, politically motivated. diseases caused by a lack of clean water. Set Once again social media production – we against that challenge, the debate over the might call it ‘barefoot’ media – offers some merits of social media versus traditional distinct advantages. media seems beside the point. But at Yochai Benkler puts it in The Wealth of Networks: 260-324 6/11/06 20:41 Page 271

As Amartya Sen has argued, good government These new ways of organising ourselves tend depends on democracy, and democracy to be highly distributed, collaborative, depends on the free flow of information. participative and very low-cost. The new forms of structured self-organisation – witnessed To the extent that social media production now across fields from software and computer is less easy to control than traditional, games to music and basic information sharing concentrated broadcast media, then – could bring our societies very large benefits authoritarian regimes have fewer options in terms of competition, efficiency and to keep their populations in ignorance. innovation, freedom, democracy and social Commons-based media is relatively low cost justice. and so more readily applicable to problems But they also pose a significant challenge to of the poor. It does not rely on employing all institutions – not just media organisations high cost, professional journalists or – that have relied on high barriers to entry researchers. Open and collaborative models and professional control of knowledge and encourage self-help and self-reliance. information. Doctors, teachers and journalists, Open source software, for example, gives the organisations that employ them and the people tools to help themselves rather than places they work are all being changed by this relying on the services of a corporation, from trend from centralised to more distributed whom the software was bought. Not many activity; mass markets to niche; broadcast people in the developing world can afford to communication to conversation; consumption buy the Encyclopaedia Britannica. But if you to participation; passive to interactive. This is have access to a computer and a modem, you a world in which, as Benkler puts it: have access to Wikipedia. Indeed in some “All the means of producing and exchanging African states educators in cities are now information and culture are placed in the

downloading Wikipedia onto CDs to distribute Section 5: Global areas of focus hands of hundreds of millions, and eventually to villages which have computers but no billions, of people around the world, available phone lines. for them to work with, not only when they are Wikipedia’s aim is to become the Red Cross functioning in the market to keep body and 271 of information, to put a free encyclopaedia in soul together, but also, and with equal efficacy, the hands of everyone on the planet, in their when they are functioning in society and alone, own language. Wikipedia’s example is just the trying to give meaning to their lives as leading edge of what could become a new global individuals and as social beings.” information commons, stretching from infor- The continued rise of social media production mation and media into culture and science. will not necessarily compete with, still less A combination of social and technological displace, traditional media corporations. Indeed innovation is making possible new forms they could complement one another and many of collective organisation, for how we create, corporations will see opportunities in creating share and distribute information, media and their own versions of social media – witness cultural products. News Corporation’s purchase of MySpace. 260-324 6/11/06 20:41 Page 272

The computer games industry shows that distribution and business model: Napster. We proprietary ownership of the core game can now live in a world where any newspaper reader be combined with massive subsequent player can also become a commentator and publisher. development: Electronic Arts increasingly Where bands can create a following online provides not just games but platforms and without a recording studio or a record deal. tools for communities to develop games. In this world, it’s not surprising the Second Life, the highly immersive game incumbents have sought out new ways to created by Linden Labs, takes this one step shore up their position. High capital costs further and allows players to create the no longer provide a sufficiently high barrier environment together. to entry. So instead, over the past two decades, Large computer companies such as IBM are there has been a massive expansion in the very successful in making money from the coverage of intellectual property, copyrights open source Linux operating system by selling and patents, to make new forms of social related services, rather than software. production too costly or too risky.

The point as far as the media is concerned is This extension of intellectual property is that the whole domain of media production presented as merely protecting creators against has expanded: the range of possible theft. But one motive is protectionist in the contributors and distributors has widened. economic sense: a rearguard action to protect All sorts of interesting hybrids, collaborations an incumbent business model against and complements are likely to emerge from disruptive, low-cost competition. All of this the interaction between traditional, industrial- will make it much harder for consumers to era media and the new commons-based become producers and participants; to cut, systems of social media production. paste, add, amend, share.

The genie is out of the bottle It does not have to mean war. But it could Some rules of thumb for regulators because these emerging models present a huge If we are now living through a contest challenge to the established incumbent between traditional, industrial-era models 272 models of Hollywood, the music business and and emerging, social models, what are the broadcasters, both public and commercial. implications for media regulation? Perhaps the best way to answer that is to propose some The media industries have relied on high fairly broad and bold rules of thumb that capital costs for creating and distributing regulators should follow. content for their competitive advantage. In the old days they could see the competition More than ever it matters to be clear about our coming from a long way off because it needed ultimate goals: why we value media in terms a lot of money and equipment. But over the of extending freedom, deepening democracy last decade all that has changed. and improving social justice. Different forms of ownership and organisation have to be It is becoming harder and harder to spot where judged against what they do by these the competition is coming from in a world in yardsticks, not just in the UK but globally. which a 20 year-old college dropout can write a file sharing programme on a borrowed laptop Given the enormous potential contribution which eventually upends an entire industry’s social media production can make, the basic 260-324 6/11/06 20:41 Page 273

question all regulators have to ask is whether Wikipedia and its ilk present as stark a enough space is being left for these new challenge for the BBC as well as commercial collaborative forms of activity to emerge, or broadcasters: if Wikipedia can provide such whether their habitat is being scorched before excellent online information with just a they have even got going? handful of employees why does the BBC need all that space out at White City? Why did the The most important thing for regulators to BBC never come up with anything as radical, avoid is interventions which unwittingly or disruptive and global in its reach? deliberately sustain incumbents while quashing scope for disruptive new entrants to emerge. It is difficult to know how much law and Extensions to copyrights, patents and other regulation will be able to do, to resist the forms of intellectual property may well reward trends now at work. current rights holders without encouraging No matter how much Hollywood, the them to innovate more, and simultaneously recording industry and broadcasters put into make it harder for new collaborative models lobbying, they will not curtail the trend to emerge, which might in turn be the basis towards cheaper, more powerful and for new commercial and business models. distributed technology; they will not curtail people’s tendencies to want to have their say, Media regulation itself is largely a product share what they find interesting and find what of the era of industrial mass-produced media. they need at lowest cost. Law might slow and Regulators were the ultimate arbiters of taste perhaps divert some of these forces – but it and decency and bulwarks against over- cannot dam up the source. powerful concentration of ownership. But in the new landscape the best alternative to over- Modern societies have developed in the context powerful big media might not be regulation of mass-media and industrial information

but increased competition from low-cost production, which have shaped our view of Section 5: Global areas of focus social media production. where ideas come from, how debate takes place, who can be a media producer and who The overall aim of regulation should be to get is merely a sofa-borne consumer. A genuine the optimum mix of social and commercial, 273 shift is underway, from production for the open and closed, proprietary and shared masses to production by the masses, which ownership media models. Britain needs to be will mean, as Benkler puts it: the best place in the world for media, of all kinds. That means being at the leading edge “Information and communications are core of encouraging the open and social models elements of autonomy and public, political now emerging. discourse and decision-making. Communication is the basic unit of social existence. Culture The future of public service media in this and knowledge, broadly conceived, form the more participative age will thus be vital: the basic frame of reference through which we BBC, created as a broadcasting service should come to understand ourselves and others in become a platform for mass participation, the world…the basic components of human the centrepiece of Britain’s cultural and media development depend on information and commons. innovation and how we disseminate its implications.” 260-324 6/11/06 20:41 Page 274

The rise of social, commons-based media Nick Jaffe is at work in his bedroom. So are production allows us to imagine how we could millions of others. The genie is out of the reorganise ourselves, encouraging greater bottle. It is not going back in. freedom, democracy and possibly justice, while also promoting innovation and efficiency.

This article is based on a chapter in Charles The book will be published, incorporating Leadbeater’s book We-Think: the power of mass comments from this open review, in Summer creativity, which is available in draft, online 2007 by Profile. This chapter draws on the for download and comment, at arguments in Yochai Benkler’s book, The www.charlesleadbeater.net or Wealth of Networks, Yale University Press, www.wethinkthebook.net. A wiki version of 2006. the text will be available at Wikimedia.com. The genie is out of the bottle

274 260-324 6/11/06 20:41 Page 275

Processes and institutions: new perspectives on policymaking and regulatory authorities Philip Booth Editorial and Programme Director, Institute of Economic Affairs Professor of Insurance and Risk Management, Cass Business School, City University

Introduction markets fail to maximise welfare, and to propose addressing those ‘failings’ through It’s often the case that technical economic regulation. Examples of such market failure work on regulation focuses on equilibrium include: models of market competition and how regulatory action can, in theory, move a • the absence of perfect competition market closer to its theoretical welfare- (e.g. natural monopoly); maximising position. • the presence of social costs and benefits;

In this chapter we consider the implications of • missing markets, such as incomplete viewing competition as a process rather than markets in insurance; and as an equilibrium end-state. We also consider • the presence of public goods.

the implications for regulation of the potential Section 5: Global areas of focus failure of regulatory institutions. Many regulatory bodies in the UK have adopted the market failure approach to regulation. This We conclude that regulatory structures should, means the development of regulation can in the first place, remove impediments to the 275 involve a process by which the regulatory body process of competition. Secondly, the actions identifies market failures and then develops of regulators should be constrained and their instruments focused on ‘correcting’ them. domain clearly defined. This conclusion is a further justification for pursuing a ‘light touch’ For example, where perfect competition is regime combined with mechanisms for absent, price regulation is often used to try to nurturing institutional competition. As such, re-create the price structure that would exist the analysis is complementary to that under- in a perfectly competitive market. If social taken by, for example, Armstrong (2005) and costs and benefits exist, then taxes, subsidies by Ofcom itself. or regulations are often used to attempt to equalise private and social costs. Public goods The market failure can be produced by a government, or by a justification for regulation corporation on its behalf, and made available One traditional economic approach to to all, financed by general taxation or by a regulation is to cite particular ways in which general tax. Sometimes this approach will 260-324 6/11/06 20:41 Page 276

involve conducting a cost-benefit analysis of does not take into account the imperfect regulation (often known as a regulatory nature of regulatory institutions. impact assessment (RIA)) before deciding Insights from Austrian to take action. models of competition This approach can have advantages. The most The textbook model of perfect competition obvious is that it imposes a discipline on is a situation where there is perfect knowledge, regulators to demonstrate that there is actually and where identical products are sold at a a problem to be addressed by regulation. It price equal to marginal cost. This leads, when can also provide regulators with a rigorous combined with other assumptions, to all framework for determining the appropriate opportunities for welfare maximisation being instrument to use in attempting to address exploited. But it should be obvious that a the problem. perfectly competitive market cannot exist. If For example, the appropriate instrument to we had perfect competition prevailing, there address a problem of social costs from a would be no innovations or product particular economic activity might be a tax, differentiation. If consumers or producers whereas incomplete markets in information were to discover new knowledge, either it may be better addressed by the compulsory would have to be shared immediately with provision of information. all others in the market or the state of perfect competition would come to an end. New Rigorous economic justification may well knowledge and innovations occur continually lead to better-directed regulation than a in real life markets. seat-of-the-pants approach with administrative or political discretion being exercised by So competition should be understood as politicians and bureaucrats. A further advantage being the process by which consumers and

New perspectives on policymaking and regulatory authorities New perspectives of making the justification for regulation producers seek new knowledge to enable the transparent, using an economic framework, production of new goods or existing goods is that it facilitates rational debate, backed up at lower cost, thus enhancing welfare. If perfect competition were to exist, the process 276 by empirical evidence about the nature and extent of regulation. of competition would have come to an end.

Problems with the Crucially, though, it is the process of market failure approach competition that enhances welfare, not the achievement of some theoretical equilibrium Despite its advantages, the market failure end-point. As Kirzner (1997) points out, the approach does have serious shortcomings. process of competition ensures that incentives Indeed, they’re so acute that we cannot be exist for greater welfare through the correction confident that any act of regulation will lead of entrepreneurial error (finding lower cost to an improvement compared with the methods of production, finding products that ‘failed’ market. satisfy consumers better, and so on). If It has two main sets of problems. The first regulators are to exist, they best serve the is that it ignores important insights into the market by removing inhibitions on the nature of competition. The second is that it process of competition1 rather than by trying 260-324 6/11/06 20:41 Page 277

to recreate the hypothetical result that arises This problem is neatly summed up by Hayek from so-called perfect competition.2 (1982, Volume III, p 70) “If the factual requirements of ‘perfect’ competition are You could argue that the perfect competition absent, it is not possible to make firms act ‘as model is a useful reference point to help us if’ it existed.” understand markets and their outcomes. As it is a model, its assumptions do not have to be Writing specifically about broadcasting, valid for it to produce reasonable predictions. Peacock (2004) suggests:

There is some truth in this. But, if the absence “A static approach with competitive equilibrium of perfect competition is to be used as a as the norm ignores the important fact that justification for forms of regulation that it is the very existence of disequilibrium which undermine the process of competition, there indicates to entrepreneurs that there may be will be serious consequences for consumer opportunities for entrepreneurs to make more welfare. Kirzner puts it this way: than normal long-run profits, encouraging them to use process and product innovations “Now the mere failure of a theoretical picture to improve such prospects. In the context to replicate with precision all features of the of broadcasting, this could include ways of reality it seeks to explain, is not necessarily eroding government influence in the market fatal for the usefulness of that theoretical by legal means, such as through new methods picture. But mainstream theory filters out of of transmission.” (Peacock, 2004, p 40) the picture those aspects of reality which are at the core of an adequate explanation for Peacock cites the example of ‘rediffusion’ market phenomena.” (Kirzner, 1997, p 30) which the Nobel Laureate Ronald Coase had shown was heavily restricted by government In other words, if the regulators’ reference intervention, which also limited the devel- model, when judging regulatory intervention

opment of the cable market more generally. Section 5: Global areas of focus on market failure grounds, involves the features of a so-called perfect market, the Insights of public choice economics regulator is using the wrong model against Public choice economics also has some 277 which to justify intervention. uncomfortable messages for regulators.

There’s a second problem, too. The absence of The most important premise of public choice perfect competition means that there are some economics is straightforward: we should not undiscovered opportunities for enhancing assume that people will behave in one way in consumer welfare. the political arena and in a different way in the economic arena. But what are they? We cannot know because we require the process of competition to discover In the economic arena we generally recognise them. A regulator cannot know what the undis- that agents act in their own best interests and covered opportunities for welfare enhancement that they have imperfect knowledge.4 In the 3 in an imperfect market actually are. political sphere agents will have those

1. There are plenty of inhibitions on the process of competition within the broadcasting market. 2. See also Kirzner (1992) for a fuller exposition of these ideas. 3. If the outcome of perfect markets could be known by regulators, detailed central planning of economies would work. 260-324 6/11/06 20:41 Page 278

characteristics too. That is not to say that all • Where the benefits of government action agents in the political sphere will act only are concentrated among particular voter in their own best interest: altruism is possible groups, or institutions or companies, such in both the political and economic arenas. groups have an incentive to lobby for However, it is prudent to adopt a working increased regulatory protection. Where the assumption of the pursuit of self-interest. cost of such regulation is dispersed among voters, the losers will have no incentive to There are a number of implications that arise lobby to oppose increased regulation from combining the assumption of the self- because the expected cost of lobbying to interested participant in the political process the individual voter will be large relative to with our understanding of various adminis- the expected benefit. trative aspects of the regulatory process:5 • Politicians will, other things equal, respond • Bureaucrats cannot ‘correct’ market failure, to the preferences of the ‘median voter’ even if they wished to do so, because they rather than act to create regulatory lack the information to know what the institutions that might address genuine outcome of the market process would have problems of market failure. been had the ‘failure’ not existed. The features described above tend to bias • Bureaucrats will act in their own best political institutions in favour of a greater interests, taking courses of action that will level of regulation than will lead to welfare lead to promotion and advancement. They maximising solutions. It will also bias political are likely to wish to avoid scandal, thus institutions in favour of forms of intervention becoming risk-averse, so they may regulate that benefit concentrated interest groups. to reduce risks to a greater extent than Public choice economics does not always lead consumers desire. They will also wish to to specific and strong conclusions about the New perspectives on policymaking and regulatory authorities New perspectives increase the size of their regulatory bureau. design of regulatory systems. Instead it leads • Electors in general have no interest in being in the direction of some important cautions, perfectly informed about political issues as well as towards the view that some forms 278 because the probability of an individual’s of institution are likely to give rise to better vote impacting on the result of an election results than others. The main caution can be is infinitesimal. outlined as follows: “One [area of policy into which public • Because of this, there are information choice economics has been integrated] is asymmetries between regulatory bureaux simply a lack of enthusiasm for government and those to whom they are ultimately as a solution to problems. The view that accountable: electors. Thus electors are at government is the automatic perfect solution a relative disadvantage when assessing the to innumerable problems no longer exists. merits of proposed regulations.

4. Indeed it is, of course, the problem of imperfect knowledge that leads to information asymmetries that regulation is often designed to address. 5. See Tullock et al (2000), reprinted with revisions in the US as Tullock et al (2002), for a clear and full discussion of these issues; see also the original texts on rent seeking and public choice economics such as Tullock (1967) and Buchanan and Tullock (1962). Tullock et al (2000, 2002) contains chapters specifically on telecommunications and the internet. 260-324 6/11/06 20:41 Page 279

Not very long ago, the simple proof that the choice economics, we can make inferences economy did not function perfectly was about the form of institutional structures that regarded as an adequate reason for govern- might be most appropriate: mental action. Today, we start from the • government agencies should work over the knowledge that the government also does not smallest area possible (e.g. at the State function perfectly and then make a selection rather than Federal-level in the USA, and between two imperfect devices” country rather than Union-level in the EU); (Tullock et al, 2000, pp 11-12). • where possible, there should be Tullock suggests that we should try to assess competition between regulators;7 the costs and benefits for each of two imperfect approaches when thinking about regulatory • regulators should have very clear and problems. specific objectives;8 and

It will not be enough, though, to suggest that • regulators should be constructed in such this conclusion should lead us to a view that a way that they are relatively impervious to we can rely on RIAs to assess whether to being manipulated by interest groups – regulate in particular instances. One of the particularly by concentrated producer inter- problems highlighted by public choice ests who have a strong incentive to lobby. economics is the ‘information asymmetry’ that exists between regulators and those to These conclusions do not conflict with our whom they’re answerable. We cannot expect earlier deduction that regulators should work the general public or Members of Parliament to remove inhibitions on competition rather to equip themselves with the information than correct so-called market failure. to judge the costs and benefits of regulatory UK regulators and the actions and to appraise RIAs.

market failure approach Section 5: Global areas of focus

More generally, not regulating at all might In this section we consider briefly some well be better than creating an institutional approaches to regulation that have been structure that will be able to expand its power proposed by the financial regulator, the 279 relatively unchecked by those to whom it is Financial Services Authority (FSA), and nominally accountable. In general, there is Ofcom, both by way of contrast with each little incentive for those to whom a regulator other and also to compare with the 6 is accountable to hold regulators to account, conclusions of the analysis above. yet there are strong incentives for regulators to over-regulate. The FSA has made explicit statements about their approach to regulation – though their Although it is difficult to make precise and statements have not always been consistent, detailed regulatory prescriptions from public

6. There is even less incentive for voters to hold politicians to account for the regulatory structures they set up, given the dispersed nature of regulatory costs. 7. This is possible in financial regulation where, for example, stock exchanges can compete for business on the basis of their systems of regulation or, on a more limited basis, through the mutual recognition approach to regulation in the EU. 8. Ofcom’s objectives are reasonably clear and limited; on the other hand, the FSA’s objectives are extremely general and offer a large amount of discretion to the regulator. 260-324 6/11/06 20:41 Page 280

as shown by the following quotes from FSA and norms for regulation that limit discretion documents: and apply principles, rather than allowing regulators carte blanche to pursue the “In meeting our objectives in a manner ‘correction’ of so-called market failure, consistent with the principles of good even where tempered by an RIA. regulation, we have adopted a regulatory approach based on correcting market The legal framework for the FSA also falls short failure... There are, however, numerous cases of the public choice principles enunciated where unregulated financial markets will not above. Two of the four main statutory achieve the best outcome due to some form objectives of the FSA are: “maintaining public of market failure, making action on our part confidence in the financial system” and necessary.” (FSA, 2003 – my emphasis) “securing appropriate degrees of protection for consumers”. These give enormous amounts of On the other hand, in a speech in 2004 discretion to the FSA.9 (see FSA, 2005, p 12), the FSA’s Chairman Callum McCarthy said: Ofcom’s regulatory principles do seem to “In the FSA’s work, a principle we have recognise the need for institutions not to be enunciated…is that regulatory action should judge and jury in determining whether they only be taken when there is market failure expand their regulatory role (see Ofcom, … The strong – and to me correct – test goes 2005, p 9). beyond that: there must be both market Ofcom states that it will operate with a bias failure and the prospect that intervention against intervention, but with a willingness to will provide a net benefit…Identification intervene where required (bold in original). of a market failure should not lead to the And, perhaps most importantly, it states that it assumption that regulatory failure is less likely will regulate where there is a specific statutory

New perspectives on policymaking and regulatory authorities New perspectives or less costly. It is an open and empirical duty to work towards a public policy goal that question, which needs analysis on a case markets alone cannot achieve. Thus Ofcom is by case basis.” suggesting that it is happy to be restrained.

280 Clearly this quote is incompatible with the We can illustrate how this restraint might earlier FSA sentiment that market failure work by giving two examples of where Ofcom, renders regulatory action “necessary”. It also hypothetically, might consider intervention. In suggests that the FSA believes that the the first example, let’s assume that there is a appropriate approach to regulation is a market statutory duty to broadcast news in Urdu. If failure analysis followed by an RIA, to assess the market did not provide that service, the costs and benefits of regulation. Ofcom would use regulation. This is not using Nevertheless, the approach has weaknesses. discretion – merely discharging pre-defined Our understanding of the process of statutory duties. competition, and the economic processes that To take another example, spectrum scarcity exist in political structures, leads us to might lead to higher-than-perfectly-competitive conclude that we should adopt institutions

9.It is also notable that promoting competition, or removing inhibitions to competition, was excluded from the FSA’s objectives. 260-324 6/11/06 20:41 Page 281

prices for television advertising slots. But the under this arrangement, even though they implication of the Ofcom statement is that may be desired by a substantial proportion regulation would not be used to ‘rectify’ the of the population. absence of perfect competition in that regard: Furthermore, broadcasting in an era of the market is providing advertising, despite its limited spectrum has public good properties – imperfections. it is very difficult to charge for individual In a sense, it is difficult to justify any regulation programmes. In such a market, all if one accepts the Austrian analysis of the broadcasting may be ‘underprovided’ and process of competition.10 However, it can be certain types of broadcasting, including said that the model that Ofcom states it uses programmes of educational value that may is more compatible with that model of be attractive only to a minority of people, may competition than, for example, the approach well not be provided at all: those who are to regulation of the FSA. willing to pay for such services cannot communicate their preferences effectively. Ofcom also states, (Ofcom, 2005 para 2.6) that “we believe that the benefits for citizens There are various potential solutions to this and consumers are potentially largest where public good problem. These include regulating markets are open, new entrants can compete broadcasters that are given licences for the against incumbents, investment is encouraged scarce spectrum and the provision of free-to- and innovation flourishes”. This would seem air public service broadcasting (PSB) (see to be a statement in favour of ensuring that Ofcom, 2004b, chapter 3). the ‘process of competition’ should be allowed The current methods of finance of public to take place, rather than a statement in favour service broadcasting are combined with a of artificially recreating a hypothetical, and regime in which entry to the market is restricted perfectly competitive, market outcome. and in which funding for public service Section 5: Global areas of focus broadcasting is institutionalised in a small The arguments applied number of broadcasting organisations – most to public service broadcasting notably, the BBC. There are serious constraints When spectrum is scarce, there is concern that here on the process of competition. 281 a free broadcasting market will be dominated Developments in satellite, digital and internet to too great an extent by the preferences of the technology remove the impediments to median viewer. competition caused by spectrum scarcity. Yet The traditional argument is that if, for example, the mechanism of funding the BBC, through there are two broadcasters, then both will a licence that has to be purchased to watch move towards satisfying the tastes of the any television at all, regardless of whether you median viewer in order to capture the greatest choose BBC services or not, couldn’t have share of the market. There will be many types been better designed to bring to the fore the of programming that may not take place problems of regulation discussed above.

10. Aside, of course, from regulation generated by the market process itself and basic legal frameworks that are required for the operation of markets. 260-324 6/11/06 20:41 Page 282

The Corporation is both subject to regulation The externality argument does not provide a and is the recipient of a large amount of rationale for concentrating PSB into a single public funding; it is a concentrated producer producer. If there are external social benefits interest;11 and it produces programmes free from the production of a particular product, at the point of use in a way that effectively the appropriate mechanism of intervention is prohibits competition. Any competitor the provision of a subsidy to equalise social providing a similar product would have costs and benefits. to charge for it.12 It should be noted that the arguments we have New technological developments undermine used against the market failure doctrine also the main justification for intervention to lead us to the conclusion that governments support public service broadcasting. These and regulators cannot determine the optimal issues were discussed in Ofcom (2004a,b), extent of any such subsidy. Consequently, this but had been discussed much earlier by chapter does not argue that such intervention Alan Peacock in CFBBC (1986).13 is better than no intervention at all. It merely argues that, if intervention is to take place, Public service broadcasting no longer has then the appropriate form of intervention is obvious public good properties. Nevertheless, to subsidise PSB on a fully competitive basis. some believe that it has externalities attached to it, as it helps to build a cohesive society In fact, the economic justification for and helps to inform and educate (see Ofcom regulatory encouragement for PSB in the 2004a,b). As Ofcom (2004b) puts it, “There digital age is very similar to that of subsidising is a sustainable rationale for PSB. The Market arts and blue-sky research in universities. In will continue to under-provide programming these latter cases, there is competition between that we value as citizens and as a society.” different forms of institution that can benefit from the subsidies and grants provided by the

New perspectives on policymaking and regulatory authorities New perspectives We do not debate the merits of this argument; Arts Council and Research Councils. we simply note the justification for regulatory Furthermore, because the purposes for which and governmental support for PSB and ask subsidies are given are defined widely – and, how it can best be supported, given our 282 in the case of Research Councils14 and the Arts discussion of the nature of competition, Council, many forms of institution are institutions and public choice economics.

11. The BBC is very effective in promoting its interests to the public at large, to regulators and government (as private producer interests frequently are too). For example, the report Building Public Value (BBC, 2004) promotes the BBC’s own case very well. On p 6 it even suggests that the ‘right broadcast might save my life’. This report, and others like it, is produced at the expense of the licence payer. The BBC as a concentrated interest group has an incentive to use money in this way. The dispersed interest group of licence-fee payers cannot articulate their interests easily. Furthermore, they suffer from ‘rational ignorance’ – there is no point becoming informed about the issues and campaigning for a different system of finance for public service broadcasting because the costs to an individual of campaigning far outweigh the expected benefits which will be widely dispersed. 12. Unless another producer’s product is so superior that the excess of its market value over the alternative provided by the BBC covers its cost of production, a competitor broadcaster will not be able to produce content profitably. If it were able to produce the content profitably under these conditions, it would not be public service broadcasting! 13. See also Elstein (2005) 14. It can certainly be argued that the concentration of funding in Research Councils has institutionalised particular approaches to research. However, two points could be made here. Firstly, Research Councils go far beyond subsidising blue-sky research and therefore have become larger and more important than they would be if they only provided grants on a competitive basis for blue- sky research. Secondly, the situation would surely be worse if all the funding for blue-sky research were to be concentrated in a few government-sponsored institutions. 260-324 6/11/06 20:41 Page 283

allowed to submit applications for subsidy – pan-EU regulator; we could operate a system new ideas from a wide variety of competing of mutual recognition whereby a market groups can be financed. participant can choose to locate in any EU country, regulated by the regulator in the These methods of subsidising the provision home country, but then trade in all other EU of arts and education allow, to a greater extent countries; or we could operate a system of than is the case in public sector broadcasting, completely independent national regulators, the competitive processes to continue. but with trans-national agreements to facilitate Furthermore, they disperse the potential free trade, consistency of regulation and so on. interest groups who benefit from regulatory action, making regulatory capture less likely. There would seem to be two advantages of the mutual recognition approach. Firstly, a large A ‘Public Service Broadcasting Council’ could number of regulators would be free to distribute money on a competitive basis and innovate and learn from each other so that would only need to finance public service good practice could be copied. Secondly, there adaptations to programmes. Ofcom (2004b) are incentives for regulators to provide a set of considered this approach and decided against regulatory services that is compatible with the it. In making their judgement, it is clear that flourishing of business. Regulators could lose they looked at the advantages of greater business because regulated companies could competition for PSB funds,15 but they did move to a different regulator while continuing not look at the constraints that public choice to operate in all EU countries. economics suggests should be placed on institutional discretion and the concentration We cannot know in advance the ‘optimal’ set of power within institutions. of regulations and it is possible that separate national regulators with mutual recognition Competition between regulators? may help us discover this better than a single Section 5: Global areas of focus Assuming that there is some role for regulation regulator at the EU level. within the broadcasting market, it is reasonable There are also public choice justifications for to ask whether the process of competition a mutual recognition approach. Regulators should apply to regulators. For example, at the 283 would be constrained from over-regulating EU level, should we look to have a single because, if they over-regulated, they would regulator or should regulators operate at lose regulated companies to alternative member-country level? We should be careful regulators. Furthermore, the smaller the in applying arguments used to analyse the domain over which regulators have jurisdiction, functioning of markets to institutions that the more accountable they are likely to be to operate outside markets. Nevertheless, there the group of citizens they are supposed to be are some lessons we can draw. serving. EU political institutions are particularly There are three main forms of EU regulation unaccountable to the people they serve. that could be adopted. We could have a single

15. Indeed, the benefits of institutional competition were taken very seriously with an external working paper being published on the subject. Ofcom proposed, instead, the financing of a ‘Public Service Publisher’ that would commission and publish public service broadcasting and make it widely available. This would provide some competition for the BBC. 260-324 6/11/06 20:41 Page 284

Prima facie, it would seem that mutual Conclusion recognition may work best in areas such as Our understanding of competition as a process insurance and investment services, where in which institutions evolve and compete to regulation is designed to provide a package satisfy consumer demand, combined with our of services to consumers (for example, a safe understanding of how government institutions market in which to transact shares or the behave in practice, informed by public choice provision of information to purchasers of economics, leads us to this conclusion: financial products). Consumers can then namely, that regulatory discretion should choose the jurisdiction under which the be minimised and that the main role of financial services they use are regulated.16 regulators should be to facilitate the process While the above arguments have merit, they of competition. are not necessarily conclusive in the case of If public service broadcasting is to be subsidised broadcasting regulation. If national control because it has externality benefits, such of regulation (but with mutual recognition) subsidies should be transparent and dispersed is preferred, then why not allow Parish across a wide range of bodies free to compete. Councils to set up broadcasting regulators? Some lessons have also been drawn for It is conceivable in broadcasting and regulation at the EU level. However, we have telecoms that there is a genuine EU public added a caution here. A competitive market interest. For example, with regard to economy facilitates the discovery of new competition regulation, regulation is likely institutions, new products, new ways of to be more liberal if the market is defined production and new services that enhance at the EU, rather than national, level. welfare. Regulation operates outside the Similarly, in order to facilitate competition, domain of the market and regulators are

New perspectives on policymaking and regulatory authorities New perspectives one may wish to prevent individual EU not subject to the same conditions as firms governments from placing restrictions on operating within a market economy. companies based in another country from 284 having access to their own. However, it could be argued that these objectives should fall under the remit of competition policy and trade policy rather than broadcasting and telecoms regulation.

We can only repeat that, while we can learn some lessons for regulation from our analysis of competition, the parallels are very imperfect.

16. Indeed, it is a pity that the Financial Services Action Plan is being rolled out with the harmonisation of so much regulation at the EU level in a system that is perfectly amenable to mutual recognition. 260-324 6/11/06 20:41 Page 285

References Kirzner, I., (1992), The Meaning of the Market Process: essays in the development of Modern Armstrong M. (2005), Public Service Austrian Economics, Routledge, London, UK Broadcasting, Fiscal Studies, Volume 26, Number 3, pp 281-300 Ofcom (2004a), Ofcom Review of Public Service Television Broadcasting Phase 1: BBC (2004), Building Public Value: renewing Is Television Special?, Office of the BBC for a digital world, BBC, London, UK Communications, London, UK Buchanan J. M., (1962), The Calculus of Ofcom (2004b), Ofcom Review of Public Consent: Logical Foundations of a Constitutional Service Television Broadcasting Phase 2: Democracy, University of Michigan Press, Ann Meeting the Digital Challenge, Office of Abor, US Communications, London, UK CFBBC (1986), Report of the Committee on Ofcom (2005), Ofcom’s Annual Plan 2005/06, the Financing of the BBC, Cmmd.9824, Office of Communications, London, UK London: HMSO (the Peacock Report) Peacock A., (2004), Public Service Broadcasting Elstein D., (2005), Public Service Broadcasting Without the BBC?, IEA Occasional Paper 133, in the Digital Age, Economic Affairs, Volume Institute of Economic Affairs, London, UK 25, number 4, pp 68-70 Tullock G., (1967), The Welfare Costs of FSA (2003), Reasonable Expectations: Tariffs, Monopolies and Thefts, Western regulation in a non-zero failure world, The Economic Journal, Volume 5, June, pp 224-232 Financial Services Authority, London, UK Tullock G., Seldon A., Brady G. L. (2000), FSA (2005), International Regulatory Outlook, Government: Whose Obedient Servant? A Financial Services Authority, London, UK

Primer in Public Choice, IEA Readings 51, Section 5: Global areas of focus Hayek F. A. (1982), Law, Legislation and Institute of Economic Affairs, London, UK Liberty, Routledge & Kegan Paul, London, UK Tullock G., Seldon A., Brady G. L. (2002), Kirzner I. M., (1997), How Markets Work: Government Failure: A Primer in Public Choice, 285 Disequilibrium, Entrepreneurship and Discovery, The Cato Institute, Washington DC, USA IEA Hobart Paper 133, Institute of Economic Affairs, London, UK 260-324 6/11/06 20:41 Page 286

The changing nature of regulation: policy, process and accountability within the European Union Graham Mather President of the European Policy Forum

One of the most striking elements of the other Member States, the networks which contemporary debate on economic regulation have arisen to accommodate them, and the in the EU is the frequency with which similar European Commission itself. The parallels issues surface in different sectors. Telecoms, between sectors are significant in economic financial services and energy often provide and as well as institutional terms. instructive comparative examples. In financial services, for example, the idea of When Viviane Reding raised the idea of a a single regulator for the European securities European regulator, she did so in a rather subtle and financial markets has been mooted on a and interesting way. She said that “the most number of occasions. And in energy, one of effective way to achieve a real level playing the immediate reactions to the realisation that field for telecom operators across the EU gas supplies to Ukraine might be restricted

The changing nature of regulation: policy, process and accountability within the EU The changing nature of regulation: policy, would, of course, be to create an independent was the suggestion from the EU’s energy European telecoms regulator that would work commissioner, Andreas Piebalgs, that a single together with national regulators in a system EU energy regulator might be necessary to 286 similar to the European system of central tackle the problem.1 banks”. The new European body would be “a Yet in neither case has a single regulator light European agency, independent from the emerged. In securities markets the system Commission and from national govern- designed by Baron Lamfalussy has spawned ments”, and it could “ensure by guidelines three pan-European committees which bring and, if necessary, instructions that EU rules are together existing regulators from across the applied consistently in all Member States”. Member States. CESR, the Committee of Mrs Reding’s idea has not attracted much European Securities Regulators, is the longest support across the EU. Yet it does provide an established. CEBS, the Committee of opportunity to reflect on complex inter- European Banking Supervisors, based in relationships between national regulatory and London, is developing well. And CEIOPS, competition authorities, their counterparts in the Committee of European Insurance and

1. Energy ministers rejected the idea at their meeting on 14 March 2006. 260-324 6/11/06 20:41 Page 287

Occupational Pensions Advisors, is developing functions of the European Commission, its work. and effective staff work means that lead authorities can emerge to handle issues and In energy, the Council of European Energy cases affecting a group of Member States. Regulators and the European Regulators Group for Electricity and Gas provide an A network of European telecom regulators effective means of informing and guiding EU therefore parallels almost exactly the networks and member state policy development. CEER which have been set up to look at securities recently, for example, highlighted the problems regulation, banking supervision, insurance of independence of national regulators, and occupational pensions supervision, noting that: energy regulation and the interaction of the competition authorities themselves. “In some countries, energy regulators continue to share authority with other actors, i.e. The European Regulators’ Group (ERG), for ministries enjoy power to approve, reject or telecoms chaired from January 2006 and for amend the energy regulatory authority’s one year by Kip Meek of Ofcom, is therefore decisions, or they have regulatory competencies typical of a general approach in that it in their own right. Furthermore, in some operates under a framework established by countries there is more than one energy the European Commission and in parallel regulator, at national and regional levels. The with the Commission’s own operations in more agencies that are involved in decisions, telecom regulation. the more likely that inconsistent regulation The advantages of regulatory networks between Member States is likely to arise and persist. The CEER supports the Commission’s How do these regulatory networks operate in assessment that ‘as a minimum, regulators practice? The advantage is that they can should have clear powers of the issues covered provide an exchange of intelligence which is in the Directives and with independence from based on informality and flexibility; they can Section 5: Global areas of focus industry and government, especially where the bring regulators across the EU up to speed state retains a large shareholding in energy with best practice, quickly and cheaply; they businesses.”2 can provide informal but effective sounding- 287 boards for exchanges of ideas and data, The network model has also proved effective intelligence and future plans; and they can, in competition policy. The European as Commissioner McCreevy said in another Competition Network has proved a useful context, come early to the party with parallel network to the work of DG approaches based on subsidiarity and close Competition, helping to ensure the effective connection with regulated entities. and consistent application of Articles 81 and 82 of the Treaty. National competition These are sound advantages which also authorities, working together in the ECN, facilitate peer group review and the fast thereby provide something of a check-and- adoption of regulatory techniques which have balance on the operation of the competition proved effective. There is no real downside –

2. CEER Regulatory Benchmark Report 2005 260-324 6/11/06 20:41 Page 288

the debate on stronger control from the and publishes detailed documentation of Commission can always resume if the much of its work on its website. networked regulators run into difficulties. The approach – developing co-operation When the European Policy Forum convened across Europe, focusing on best practice, a conference in Brussels to look at telecom sharing information and ideas but lacking any regulation in the run up to i2010, some 14 top-down authority or control – does seem to telecom regulators and 13 competition fit very well with concepts of a decentralised authorities took part. The agreement reached yet constructive and co-operative approach to between Ofcom and BT to open up access to the opening of European markets. its wholesale networks generated particular ERG activity adds to, rather than takes away, interest from across the EU. Many regulators from knowledge and effectiveness of the in Member States said that they thought this Commission. It’s difficult to see how a stronger approach, based on competition law but central regulator, with the role of the NRAs operating by a voluntary agreement and with reduced to that of the Euro-zone central banks tight benchmarks and constraints, had useful where all key decisions are taken by the lessons for adopting elsewhere. European Central Bank (ECB), would offer Similarly the ERG is an important force for significant advantages. subsidiarity and diversity. At its May 2006 The risk would be a temptation to introduce meeting in Vienna, for example, it high- single solutions and make shortcuts to the lighted several points of divergence with the solution of market problems. Where abuse of Commission’s proposals on mobile roaming a dominant position in a member state occurs services in the single market. Drawing on by an incumbent operator, or where there is their experience as national regulators, ERG cartel activity, Europe already has its EU-level members warned that the then Commission’s

The changing nature of regulation: policy, process and accountability within the EU The changing nature of regulation: policy, and national level competition authorities wit proposals on roaming could have a negative the ability to work together to take action. material impact on many consumers and also on industry, with a threat of monthly Another drawback of a single regulator is the 288 subscription rates on roaming or the fact that national regulators know their own withdrawal of roaming services altogether. markets better, and each one is different from the next. Subsidiarity to be able to adapt In terms of remedies, the ERG has identified remedies to national circumstances is very concrete examples of best practice to allow the important here, as a one-size-fits-all solution development of a common position among is unlikely to work. national regulatory authorities (NRAs). It has launched an experimental approach on Advancing the cause of competition collaboration between NRAs in various Under the Lisbon process, opening markets to markets, and on specific best practices, and competition from suppliers domiciled in other this is producing progress reports on each of Member States is of key importance to the the experimental initiatives. In addition to Union’s economic objectives. Yet progress has work on competition issues, the ERG receives been disappointing. reports from the Commission on current cases 260-324 6/11/06 20:41 Page 289

The original technique by which market Court of Justice – an effective solution to this opening was to be secured – the Directive problem, as has been recently shown in Spain has – proved an inadequate instrument to and France. secure a significant opening of both pan- In Spain, one example is the case of Endesa European financial services and energy and the takeover by the German company markets. Entrenched economic interests have E.ON. The European Commission rejected the exercised a powerful grip on some member case, made by the Spanish authorities, for the state governments. Neither energy nor application of the public interest clause in the financial sectors have faced the revolutionary Merger Regulation (Article 21.4) by which technological changes which have helped Member States can impose additional to open up telecoms and IT. regulation, on the grounds that the measures In these two areas, Brussels has therefore are disproportionate. shifted to more direct and aggressive Looking beyond price techniques. Sector inquiries have been opened by DG Competition on three fronts: the These changes in approach represent a European gas and electricity markets, the recognition that some of the economic issues supply of business insurance and retail are changing in relative significance. I sense banking. Dawn raids have taken place on the a shift from an absolute focus on price offices of a number of incumbent European competition and the ability of customers to energy suppliers and many expect that cases switch suppliers, towards a greater focus on for the abuse of dominant position will be security of supply and quality of service. brought with the prospect of extremely large It is becoming obvious that while fines and possible structural remedies. policymakers will continue to seek to open up In energy markets, as noted above, there are competition, drive down prices and facilitate also signs that the European Commission is easy customer switching from one supplier to Section 5: Global areas of focus seeking to insist on national regulators being another, their eyes have now been caught by independent from ministries in Member two significant and potentially competing States. It now sees this approach as more objectives: the need to secure adequate 289 promising than a centralisation of regulatory investment and supply, and the need to secure control. In a similar way, it is looking at continuous service of satisfactory quality. whether European action could help Member These competing strands can be seen in the States to unblock planning and other systems European Commission’s white paper on which currently impede the speedy introduction energy, published in 2006, which shifts the of new energy infrastructure, storage and emphasis towards developing trans-European interconnection facilities. energy infrastructure, reserves of storage The problem is one of protectionism of national capacity and external diplomatic and security champions, the European Commission already initiatives – all focused on strengthening the has ultimate legal power to take national reliability and assurance of energy imports. regulators or Member States to the European While price competition remains important 260-324 6/11/06 20:41 Page 290

to consumers and a significant part of the generation telecoms networks is the issue Lisbon strategy, the new broader focus is of regulatory forbearance: the idea that the concentrating on supply rather than price. relevant regulatory authority should refrain from regulating a specific market for a fixed We can also see a rather similar phenomenon period of time in order to encourage in telecoms: as mobile telephony and investment in new technology and services. broadband services become part of the daily fabric of life, and price competition makes The German proposal regarding the established them almost generic in nature, interest is incumbent Deutsche Telekom has helped to shifting to new areas such as the development clarify the issues and unite other national of next generation networks, the building of regulators and the European Commission in infrastructure capable of carrying super-fast shared concern. A period of regulatory and super-wide traffic, and the value-added forbearance, possibly for three years, has been experiences which will result. suggested in order to provide an incentive for the established incumbent, Deutsche Telekom, As the supply of basic connectivity becomes to develop a national broadband network almost generic and falls further in price, which would partly rely on VDSL technology. telecom customers will be looking in particular at the quality and reliability of their As the European Policy Forum recently argued, experience. Certain large suppliers in both such an initiative would preclude rivals from cable and fixed telephony have had seriously competing with Deutsche Telekom, which unsatisfactory customer service records. Some would gain first-mover advantage across a new entrants have allowed their marketing to wide range of telecom services. Furthermore, suggest reliability that they cannot deliver. where Deutsche Telekom competes for global Providers with an interest in making their business against rivals such as BT or Telecom services ‘sticky’ have been slow to facilitate Italia, it would be placed at an unfair The changing nature of regulation: policy, process and accountability within the EU The changing nature of regulation: policy, migration to competitors, and have made it advantage in that it could shut out rivals from difficult to unsubscribe. And all suppliers have providing bit access services in Germany; yet a temptation to bundle services together in its competitors, such as BT, would be required 290 a way which may make it difficult to compare to open its own broadband networks to prices for particular services, or indeed to Deutsche Telekom. change supplier. More generally, there is a conceptual problem When should regulation hold back? with regulatory forbearance. Rather than establishing a clear position in which a sector It is clear from this discussion that EU or function is, or is not, subject to regulation regulatory design is beset by a number of for reasons which align with economic and contradictions and dialectics – the most competition rules, it creates a kind of profound of which is the tension between regulatory limbo in which regulatory inaction the need for large-scale investment and the pro tem may, or may not, be followed by a maintenance of effective competition and return of the regulator. focused regulatory action. Crucial to the debate on how to foster investment in new 260-324 6/11/06 20:41 Page 291

Instead, it would make sense to build the new world best-practice and, together with regulatory regime for next generation strengthened activity in the Council Secretariat communications technologies on three and the European Parliament, hold out the foundations. prospect that future EU legislation and regulation will be submitted to comprehensive • Where effective competition is established, and systematic impact assessment. The EU’s the abolition of ex ante regulation for all Better Regulation agenda remains of high consumer services, in order to encourage a policy significance with senior Conservatives suitable environment for the development wholly committed to its development. of new forms of innovation and competition across these cutting-edge technologies; However, as my colleague Frank Vibert and I have argued in recent work on this subject for • Refocusing ex ante regulation on clearly the City of London Corporation,3 it would be perceived infrastructure bottlenecks. The onus unwise to become self-congratulatory about should be on solutions that are based on the successful introduction of the new competition law and voluntary initiatives in techniques. Although they now aim to align the case of replicable facilities and services. legislation and regulation at European • An urgent need to pay attention to rapidly national levels with regulatory best-practice emerging markets with the onus on and the needs of businesses, financial encouraging investment in next generation institutions and civil society, this has taken core and access networks. In this context, some years to achieve and the quality of there should be a priority on promoting impact assessments remains patchy. equitable voluntary access arrangements, To some degree, the better regulation as demonstrated in the legally-binding initiatives, and impact assessment systems in undertakings made by BT on the access particular, are counter-intuitive. They provide

infrastructure it operates within the UK. Section 5: Global areas of focus a brake from the dynamic to legislate and Impact assessments: a key to quality regulate which is a powerful phenomenon in modern societies. Legislators have One of the most important means of traditionally seen the production of statutes 291 developing and improving the quality of as their core activity. Regulators exercise their European regulation, and implementing the functions primarily through the promul- better regulation agenda, is the technique of gation of regulatory measures. A system impact assessment. Ofcom, with other UK which poses constraints on this process – regulators, has moved quickly to build these whether by requiring a more thorough assess- into its systems, and UK best-practice ment of risks, a more careful quantification developed by what is now the Better of costs and benefits, an exploration of Regulation Executive has played a significant unanticipated consequences or a wider part in influencing an impressive EU model. quantification of relevant factors – needs The European Commission’s most recent to be durable to survive. guidelines on impact assessment now match

3. Evaluating Better Regulation, City of London Corporation, October 2006 260-324 6/11/06 20:41 Page 292

At one level, this durability is achieved by buy- Realising the benefits in among those operating the systems. If of impact assessments legislators and regulators believe that impact All these factors make it desirable to establish assessments will help them to produce better- systems which will help to ensure that the crafted, more successful and more acceptable benefits of the impact assessment system are measures, then the prospects for the system entrenched among European institutions, are positive. national governments and sector regulators. On the other hand, the impulse to legislate There are two requirements. often generates demands for speedy action The first is a ‘compliance’ role to ensure that in the aftermath of adverse public events, there are means of scrutinising and auditing economic problems, national crisis or devel- the operation of impact assessment systems opments that generate widespread public to ensure that these assessments have been concern. Even the slowing down of the process carried out where they ought to have been; because of the need to produce an impact and at a suitable level of quality; and that their assessment is, in those circumstances, likely conclusions have been properly fed into the to be unwelcome. legislative, regulatory or policy-making In the same way, the existence of standard processes. methodologies for assessing costs and benefits The second requirement is for a ‘lesson- makes impact assessments contingent and learning’ function to draw wider conclusions contestable. You can already see signs that non- from the measures which have been introduced governmental bodies are commissioning their following the deployment of impact assess- own impact assessments where they believe ments. Because impact assessments provide that the official version may in some respects quantification of objectives, techniques, costs be inadequate, or may fail sufficiently to bring

The changing nature of regulation: policy, process and accountability within the EU The changing nature of regulation: policy, and benefits they introduce, for the first time, into account factors which they deem especially a framework against which legislation and relevant. This makes a strong debate likely regulation can be evaluated and reviewed, around impact assessments, and although yielding useful lessons for the future. 292 this is a healthy development it may generate demands for the process to be truncated or At one level, this lesson-learning function indeed by-passed. allows the position down the line, after the introduction of legislation or regulation, to While impact assessments, by their very nature, be compared with the objects of the measures require thorough technical work it is themselves. Using the impact assessment impossible wholly to separate the economic figures as benchmarks of intentions, it is and other elements which they examine from possible to attempt a more informed review the stuff of politics. Strong political pressures of whether policy aims have been achieved; may seek to overcome the more technical of whether costs and benefits have been analysis which impact assessments generate broadly in line with expectations or significantly and explicitly or implicitly, to override them. adrift from them; and whether unanticipated effects or developments have intervened to 260-324 6/11/06 20:41 Page 293

change the outcomes from those anticipated new form of accountability. The European or desired. institutions are, by their nature, preoccupied with complex technical economic and This evaluation or audit role is being regulatory issues. Regulators work hard at developed at Ofcom, notably in its Consumer national level to communicate effectively with Panel’s development of a toolkit to assess their stakeholders, but find it more difficult to whether consumer interests have been be visible and accountable when working with effectively handled in policy initiatives. The their 24 European counterparts – or interacting technique is capable of being very widely with the Commission, Council and Parliament, adopted in regulatory systems across the all of whom have struggled to achieve effective sectors, and it meshes well with two further dialogue with, and accountability to, citizens areas which are at large in the EU regulatory and consumers. debate. Even where Europe tries to break out of old While the EU is rapidly developing its legal forms into new results-focused ambitions processes for regulatory co-operation and such as the Lisbon Process, using co-operation networks, and for the impact assessment of and flexible approaches, the task can be a hard legislation and regulation, it has found it more one. Few Europeans stopped in the street difficult to simplify the acquis communautaire of would have an immediate instinctive grip on existing directives and regulations. Indeed the the benefits of this ‘open method of co- Commissioner responsible for this area, Gunter ordination’. As the protracted discussions with Verheugen, has gone on record suggesting that the European parliament over the Lamfalussy Member States are not enthusiastic about this committees have found it can be extremely process, which could result in a need to unravel difficult to achieve effective regulatory some of their own legislation in force. co-operation married to parliamentary

Once again, we are hitting a problem of callback and review. Section 5: Global areas of focus counter-intuitive measures with legislators Yet there are signs that regulatory networks being invited to undo some of their work are beginning to achieve this. Because they are rather than to pile ever-more measures on top based on national regulatory authorities, they 293 of an unchanged settlement. Audit techniques promote subsidiarity. Because they are not can assist here, and the proposals we have put top-down led, they encourage lesson-learning forward to introduce systematic audit and and peer review. Because they have strong review of the way impact assessments have existing stakeholders, and focused media worked can also be used to revisit the attention, they bring with them existing and legislative acquis. For if Europe cannot meet effective accountability systems. the ambitious simplification targets it has set itself to roll back redundant legislation and As new audit and review techniques are regulation, it will fail to meet its Lisbon developed, they lend themselves to external aspirations and lose a valuable opportunity scrutiny, including that of national parliaments. to improve its global competitive position. Any review of the way in which regulation is changing across the sectors in the Europe of 25 It would also miss the opportunity to must be optimistic about the durability and demonstrate an emergent and important effectiveness of the systems which are emerging. 260-324 6/11/06 20:41 Page 294

The convergence continuum model: a framework for analysing regulatory reform in Asia-Pacific Steve Burdon Visiting professor at University of Technology, Sydney

Introduction TMT sectors create direct and indirect benefits in the countries where they are located, During the last five years, Asia-Pacific has delivering economic and social development. improved from third to first place in the The growth of these industries results directly delivery of new technologies among the regions in new, highly-skilled jobs and wealth. of Americas, Europe and Asia-Pacific. As this The extent of these direct benefits depends on dramatic shift has taken place, significant how large the sectors are in relation to the changes have occurred in government policy economy, and their rate of growth. For many and regulation of Technology, Media and developed and emerging economies in Asia- Telecommunications (TMTs). The more Pacific this is significant, but for a number technically-advanced countries have progressed of countries direct benefits have a limited from duopoly competition to a multicompet- impact. For these countries, what’s even more

A framework for analysing regulatory reform in Asia-Pacific for analysing A framework itive situation and are now on the threshold important is the indirect impact; the transfor- of convergence competition. In this chapter, mation in the way individuals, businesses and the issues underlying these changes are other parts of the society work, communicate examined and a conceptual model is suggested 294 and interact. for exploring different scenarios for future TMT competition and policy. Particularly interesting are the benefits of TMTs on productivity, as TMT diffusion levels rise Importance of TMTs in Asia-Pacific across all countries. For developed countries, The importance of TMTs and their transforma- the impacts can be significant as an Australian tional impacts on the world, and on the Government forecast indicated: “On the basis Asia-Pacific region in particular, have been of quite conservative assumptions…(ICT) will underscored by initiatives of both the World remain the main driver of productivity growth Bank and Asian Development Bank in rating over the next 20 years.”1 Telecommunications and Technology investments as Category 1 priorities for There has been global acknowledgement investment funds. that beyond their role as a facilitator of

1. Forecasting Productivity Growth: 2004 to 2024 (2006) Australian Government – Department of Communications, Information and the Arts, March, p.1 260-324 6/11/06 20:41 Page 295

communication, TMTs have been a develop- been relinquished, government should ment enabler with significant macroeconomic withdraw from direct intervention in the impact, and a tool to achieve internationally- industry as a matter of course. However, the agreed goals and development objectives.2 historical evidence of telecommunications Alleviating poverty, hunger and sickness in and media ‘liberalisation’ regimes directly developing nations are part of these goals. The contradicts this notion. Indeed, the fact that appropriate policy and regulatory settings for TMT services remain high-profile and emotive TMTs can deliver innovative applications in issues which are critically important to government, commerce, education and many electoral constituents mean that you can be other areas, with a profound impact on sure that government will continually intervene people’s lives. in industry developments. For example:

In 2004, Asia-Pacific laid claim to the highest • Timed local calls have historically been share of investment in TMTs. This reflected the a major political issue, and governments leading position of several Asia-Pacific in Singapore and Australia ignored the economies in the newer TMT sectors, including economic rationalist argument in 3G where Asia-Pacific has 48.6% of the world’s legislating them out of consideration. subscribers, the Americas 44.5% and Europe 5.5%. In the case of broadband, Asia-Pacific • Broadcasting is heavily regulated in all has 41% of the world’s subscribers, the countries, both in terms of content and Americas 30.5% and Europe 27.7%. number of operators. Televised content and access to local programmes and culture Major changes are taking place in China where are sensitive electoral issues. France is its telecommunication investment alone stood usually seen as the leading advocate for at $US27bn in 2004, almost 15% of the world’s maintaining high levels of local cultural total. Europe and the Americas made up 33 and content. Within Asia-Pacific, Australia and 23% respectively, with 4% invested in Africa, Hong Kong both have legislation which Section 5: Global areas of focus 3 and 3% in Oceania. This is a remarkable supports their policy objective of increasing, change which sees Asia-Pacific as the world or at least maintaining, local content airtime. leader for new technology subscribers in an 295 increasing number of services. Profile of Asia-Pacific region

The role of regulation policy Make-up of Asia-Pacific Regulation policy plays a vital role as an It is difficult to define Asia-Pacific as an enabler of information societies. Where policy homogeneous region, or to find a common settings and regulatory reforms are contextually denominator. Indeed, many debate whether appropriate, we can directly link them to the the Indian sub-continent, Japan and Oceania success of new communications platforms, are even part of the geographic region. For innovative business models and new services. the purpose of this chapter, they are included in a geographic definition. Segmentation is There is an argument that says that once public possible on the basis of developing, assets are sold and government ownership has

2. United Nations World Summit on the Information Society (2005) Tunis, November 3. Trends in Telecommunication Reform 2006 (2006) International Telecommunications Union, February 260-324 6/11/06 20:41 Page 296

emerging and developed economies – and, • In South Korea, the broadcasting and rather uniquely among the generic regions telecommunications industries still have of the world, Asia-Pacific has a significant separate regulators, despite being number of countries in each of these commercially and competitively advanced categories. These differences are highlighted in convergent services. further when you consider the aspects of • Australia’s competitive landscape features culture, values and government regimes. bundled triple-play service offerings,6 and It is perhaps in terms of economic trade and vertical and horizontal integration of its time-zone commonalities that the countries two largest communications providers. Its can be grouped. Intra-Asian regional trade in communications and broadcasting regulators 2005 was $US1.4 trillion and is forecast to were merged in 2005, but competition grow to $US1.9 trillion by 2008.4 This makes policy regulation rests with a separate trade within Asia one of the biggest markets authority, the Australian Competition and in the world, with the largest growth rate. Consumer Commission (ACCC).

TMT policy and regulation in The diversity apparent in Asia-Pacific countries Asia-Pacific suggests that TMT regulatory reform and development will proceed very much based on There’s a significant variation in the state the decisions of individual countries. To some and range of the individual countries’ national extent, the differences will be tempered by the regulatory authorities (NRAs). In a few close intra-regional economic ties. Poorer countries, liberalisation in their tele- countries are likely to adopt or emulate those communications industries has yet to occur, elements of the policy and regulatory structures while for many others bringing broadband to of the wealthier countries that could improve the masses continues to be a major challenge their own economic position.

A framework for analysing regulatory reform in Asia-Pacific for analysing A framework for NRAs. A number of countries are currently working through their options. Key issues affecting policy and approach • Thailand’s telecommunications sector will 296 be fully liberalised in 2006. At the time of National interest writing, some of the ongoing issues include Both democratic and authoritarian government establishing an independent regulatory body regimes of the Asia-Pacific region have and privatising the state monopoly operator. traditionally emphasised five-year strategic • The Malaysian Communications and plans with stated objectives. In contrast, the Multimedia Commission was established Westminster-style democracies of the USA and in 2001 with oversight of economic and Australia have shied away from such concepts technical regulation, consumer protection – perhaps owing to the political ramifications and content regulation of TMTs.5 linked to ambiguous success.

4. The Physical Internet (2006), The Economist, June 17 5. Malaysian Communications and Multimedia Commission (2006), http://www.cmc.gov.my/about_us/roles.asp (accessed: 17 August) 6. In Australia several companies already offer discounts for a ‘triple-play’ bundle of Pay TV, broadband and voice. 260-324 6/11/06 20:41 Page 297

The OFTA objectives are:

• Enable HK to be recognised as world class telecoms centre for doing business • Ensure HK has available high quality telecoms services at competitive prices • Ensure HK has high benchmark performance versus world’s best practice in four categories:* • Regulatory framework • The development and effectiveness of competition • Consumer benefits from competition • Impact on the investment behaviour of operators

*Source: OFTA website, April 2006

Table 1: Hong Kong’s proactive objective-based regulation

As digital convergence continues to increase Socio-cultural norms global trade and intensify competition through and the political process deconstruction and reconstruction of business In discussions about media content and models, many of the Asia-Pacific countries broadcasting, all countries have social policies appear to have woven TMT regulatory supported by content regulation covering objectives within the fabric of their national culture and sexual behaviour, political parties strategic plans: and religion. (Table 2 provides an example.) • In Japan, the MITI/METE has taken a Broadcasting content and licensing are proactive approach to industry development, especially constrained in virtually all

and the appointment of senior government countries. Values, language, ethnic, religious Section 5: Global areas of focus bureaucrats into the senior management and cultural differences are perhaps more positions of the telecommunications entities evident in Asia-Pacific than most regions, NTT and KDD has precipitated the review and content judged as being offensive can 297 of national interest issues. vary widely from country to country.

• In Hong Kong and, to a lesser extent It’s not surprising, then, that throughout Asia- Singapore, high living standards have Pacific, rules and regulations vary significantly accrued from their respective positions as and the global media conglomerates of the hubs for global and regional trade and, west have a different freedom in Australia and increasingly, tourism. Hong Kong’s New Zealand relative to Hong Kong, India regulatory framework stands out for its and China. In a comparison of the context in proactive, results-focused management which television regulation was shaped and of competition (see table 1). developed in the countries of Hong Kong, Japan and South Korea, the governments played a central role in television broadcasting

7. Kwak, K, (1999) The Role of the State in the Regulation of Television Broadcasting in South Korea, Media International Australia incorporating Culture & Policy, Australian Key Centre for Cultural and Media Policy, No. 92, Brisbane, pp.65-79 260-324 6/11/06 20:41 Page 298

Censorship is practised to:

• Preserve our traditional Asian values such as importance of the family, respect for elders and filial piety • Maintain racial harmony and religious tolerance amongst our people • Protect our social fabric and ensure social cohesion • Protect children and young persons from corruption by undesirable materials

Source: Singapore Government MICA website, August 2006

Table 2: Content regulation by Singapore’s Media Development Authority

and could exercise control through the basic development. These two objectives pose regulatory channels. Further, political factors different challenges for policy makers and NRAs exerted a greater influence than economic and as they make decisions on implementing technological change on the nature and competition policy and interconnect conditions. practice of government control over television Telecommunications carriers are required to broadcasting.7 In Western societies, religion is build significant infrastructure to deliver the new separated from the government but the services of 3G mobile and broadband. legislation supports their Judeo-Christian As the cycle of development shifts to multiple value systems.8 competitors, the question of access to the new Digital convergence is elevating the discussion networks is critical. The financial returns for of different value systems and approaches on utilities (this could include telecommunication a global basis. In the short-term, the value networks) are generally in the order of 10 per

regulatory reform in Asia-Pacific for analysing A framework systems of individual governments will be cent but the price/earnings ratios for incumbent maintained while any excesses viewed as carriers has historically been closer to 14 per cent “contrary to the general population interest” (see figure 1). are likely to be increasingly threatened. Over 298 An analysis of the PE ratios indicates that the the longer-term, it is likely that increased markets expect the future profitability of tele- regulation will be imposed on the basis of communications carriers to move increasingly national interests. It is believed that Asian- closer to that of utility organisations. Practical Pacific influence on net policy and governance examples of this shift include the restructuring is sure to grow in coming decades.9 of NTT in 1999 into three separate entities Telecommunication and media including one for networks, and moves within providers’ profitability Australia for unincorporated joint ventures between carriers to share the infrastructure Broadly speaking, policy should encourage of 3G networks. new infrastructure investment and new content

8. For example, News Corporation will accept the status quo in Hong Kong and not criticise the political parties in China but will argue vehemently and try and exert its media power to influence the Government of the day in Australia and New Zealand in order to achieve its business ends. 9. Horovitz, R (2005) Media Licensing, Convergence and Globalization, Conference: Activism: Re-drawing the Boundaries of Activism in a New Media Environment, Budapest, Hungary, 14-15 October 260-324 6/11/06 20:41 Page 299

Telstra

Bell South

NTT

Telecom Italia

SingTel

BT Group

TCNZ

France Telecom Asia-Pacific Other

China Telecom Adapted by Professor Steve Burdon, Criteria Research and Analysis from Morgan Stanley in Australian Financial Review, KT Corp Monday 17 July 2006

8 9 10 11 12 13 14 15

Figure 1: Telecommunications carriers forecast price-earnings ratios for 2007

A classic conundrum for regulators has been generally achieved this through strong striking the right balance between a fair competition – either from a healthy cable financial return while also creating a television industry, such as in Canada, or from competitive market for services. The argument new market entrants who have capitalised on advanced by incumbent operators is that they easy access to facilities through strict Section 5: Global areas of focus should be allowed to retain all the benefits of unbundling requirements, as in Japan their investment before they could be expected and South Korea. to invest further in expanding high-speed, 299 Where regulatory decisions are poor or last-mile infrastructure. delayed they can slow-up the availability of Past history, however, provides little new infrastructure and services for consumers. encouragement for that view. In the early Some argue that the relatively low penetration stages of broadband deployment, incumbent rate of broadband services in Australia and operators hesitated to introduce broadband New Zealand can be laid at the door of services. This may have stemmed mostly from untimely regulatory decisions. One solution fear of cannibalising revenues from might be for governments to quantify future established services, such as leased lines and policy objectives for all industry parties and dial-up internet access – particularly in publish international benchmarking of countries where there was very little inter- comparative services and pricing. modal competition from cable companies or But whatever approach governments take to other facilities providers. Countries with the regulators, one thing is critical if industry is to most extensive broadband penetration have 260-324 6/11/06 20:41 Page 300

make significant investments with medium- cultural and economic positions. In other term paybacks: namely, certainty of approach. words, there is no one-size-fits-all, best-practice When the New Zealand Government regulatory model that can be universally unexpectedly declared open access to Telecom applied to optimise the competing require- New Zealand’s (TCNZ) local loop,10 the TCNZ ments and tensions of government, industry share price experienced within a week one players, consumers and national social and of the most dramatic drops ever seen in the economic interests. telecommunications industry. Although the The convergence continuum model is a Government obviously believed such action conceptual framework proposed for under- was necessary, but it was not a good outcome standing the impact of digital convergence on for the stakeholders.. policy and regulation by using a four-phase The convergence continuum model approach to TMT competition development – a four-phase conceptual framework (see figure 2).

Development of the convergence Once the first phase of a country’s development continuum model has passed and universal access to basic services is available, there is significant An analysis of TMT regulatory trends in Asia- evidence that promoting competition results Pacific countries indicates that a customised in a quicker uptake of technology and more approach to regulation is required for each competitive prices. Interestingly, China created country, appropriate to their specific political,

Phase 1 Phase 2 Phase 3 Phase 4 regulatory reform in Asia-Pacific for analysing A framework

Monopoly Duopoly Multi- Convergence competition competition competition 300 Degree of regulation

Growth in economic wealth Source: Professor Steve Burdon (2006) Criteria Research and Analysis Pty Limited Figure 2: The convergence continuum model

10. New Zealand: Telecom NZ takes a pounding, (2006) AsiaMedia News Daily, 5 May http://www.asiamedia.ucla.edu/article.asp?parentid=44894 (accessed: 17 August 2006) 260-324 6/11/06 20:41 Page 301

two government-owned operators to compete settlements to finance the building of an with each other to achieve these benefits. international telecommunications network. And since the late 1980s in Thailand, the As expected, incumbent operators fight to private sector has been encouraged to defend their natural monopoly while powerful participate in Thailand’s telecommunications media conglomerates engage in trying to create market by entering into joint ventures with the new monopolies – or at least to minimise relevant state enterprises, or by obtaining competition, by owning or controlling the expensive concessions from one of the state new convergent services of content and carriage enterprises in the form of ‘build-transfer- wherever they can. operate’ contracts as opposed to the normal Key to these strategies are two things: the level ‘build-operate-transfer’.12 of competition authorised by countries (based Phase 2 – duopoly competition on the number of competitive players), and the types of services opened up to competition. As countries satisfy the basic service provision requirements of Phase 1, they progress to Phase 1 – monopoly provision a telecommunications liberalisation regime The initial provision of basic network with limited competition – usually a duopoly. infrastructure requires a significant investment Invariably this coincides with a shift in status without an established customer revenue from developing economy to emerging stream. Traditionally, the governments of economy, as illustrated by Thailand and developing countries have made these invest- Indonesia. ments through government-owned entities. During this phase, the policy objective is to Equally, this approach has also been deemed tip the competitive balance towards neutrality appropriate by developed countries as well. and gently erode the incumbent’s in-built For example, the Singapore Government was

competitive advantage. Key issues of inter- Section 5: Global areas of focus anxious to develop a broadband economy at connect, pricing, universal service number a very early stage, so it initiated its own network portability and so forth are regulated to structure and invited tele-communications enable the newcomer to build a viable operators to invest. 301 position. Furthermore, retail price caps are During the monopoly phase, governments can often instituted as a method of curbing the be innovative in terms of obtaining finance for natural advantages of the incumbent. the large investments involved. In Vietnam, In relation to market entry, additional carrier an interesting BOOT arrangement11 was licences are often auctioned or sold via a initiated using hard-currency international

11. Under a BOOT contract, a private sector company or organisation agrees with a government agency to build, own and operate a piece of infrastructure, for example, a road, hospital, prison or water filtration plant. After a defined time period the asset is transferred to the government agency, which does not have to fund the initial capital cost of the asset or facility. Instead, the private sector company agrees to build, own and operate the infrastructure for which it earns a commercial rate of return that includes recovering the capital and operating costs over the period of the contract. 12. Presently, private firms build and operate concession networks over a specified period of time and share their revenue with the TOT, CAT or PTD. Ownership in such networks is transferred to the state enterprises immediately after completion of construction and installation as Thai law does not allow private ownership of telecommunications infrastructure. 260-324 6/11/06 20:41 Page 302

Phase 1 Phase 2 Phase 3 Phase 4

Bhutan Afghanistan China Australia

Brunei Bangladesh India Hong Kong

Fiji Indonesia Malaysia Japan

Laos Mongolia South Korea

Myanmar New Zealand

North Korea Philippines

Papua New Guinea Singapore

Thailand Sri Lanka

Timor-Leste Taiwan Source: Professor Steve Burdon (2006) Vietnam Criteria Research and Analysis Pty Limited

Table 3: Distribution of Asia-Pacific countries on the convergence continuum model

combination of auction and ‘beauty contest’.13 In contrast, most of the Asia-Pacific NRAs took The latter concept is a means of delivering a more measured approach – albeit after seeing other perceived benefits. In Australia, for the impacts of the free-market approach in example, the second licence-holder was Europe. The Australian and Japanese required to roll out a national infrastructure Governments adopted the view that a one-off plan with specific technology requirements. large fee would be less useful to their policy The approach that’s taken for awarding or objectives than an approach of smaller or regulatory reform in Asia-Pacific for analysing A framework auctioning licences is a critical policy issue. incremental fees accompanied by actual Europe’s NRAs used a free-market approach, network build and commercial service launches. reaping huge financial windfalls from As the incumbent operator becomes less 302 auctioning 3G wireless licences. However the dominant, and the playing field levels, winning operators were so financially-strapped regulatory controls over services such as as a consequence that there were long delays in international calls and bundling of services network building; eventually, a few of the should, at least in theory, be rolled back. operators even surrendered their licences.

13. Traditionally three methodologies have been used for licensing: 1. Auction: traditionally seen as the most efficient mechanism for putting an economic value on spectrum and allocating it to the firm that uses it most efficiently. 2. Free licences: providing the licences free of charge to the existing telecom players, for example where 3G spectrum allocation can be viewed as an extension of 2G spectrum allocations considering that the operators are allowed to provide services with a technologically neutral licence. To avoid hoarding of spectrum, a minimum spectrum charge can be taken for the period until the service provider rolls out services. 3. Beauty contest: the government invites applications which are then rated according to some pre-set criteria. Licences are allocated to those who the government believes best meet the stated requirements. 260-324 6/11/06 20:41 Page 303

Phase 3 – multi-competition more advanced regulatory models and the FCC’s decision to allow competing technologies for The regulatory shift from Phase 2 of duopoly mobiles resulted in a comparatively low competition to Phase 3 – a multi-competitive penetration of this important technology. This situation – is based on the judgement of is not meant as a criticism of FCC policy; it whether adequate efficient competition has merely suggests that initiating regulators do not been achieved in the marketplace, as shown by always make the best decisions and, with the industry profitability and community benefits. benefit of hindsight, fast followers can capitalise This situation is likely to evolve as three on the initiators’ experiences. scenarios are developed: Some commentators believe that the endpoint • firstly, the regulatory mechanisms for of the multi-competition phase will be achieving a more level playing field minimal, or no, regulation. There is little have been achieved by interconnect evidence to support this view, as new network conditions, universal service and other structures and services can give rise to regulatory action; unanticipated issues requiring regulatory intervention or proactive action. • secondly, the more advanced networks and technology platforms become, the more Phase 4 – convergence competition likely it is that newcomers will develop a Most TMT industry players in Phase 3 are network advantage and/or possibility of already positioning themselves to gain creating a niche market; and competitive advantage from convergent • thirdly, that as the demand for services network opportunities, or from opportunities grows, new competitors can build created by owning both content and carriage. sustainable market share without major Phase 4, on the other hand, is characterised

detriment to the existing players. Section 5: Global areas of focus by bundled triple-play service offerings and China and India’s emerging economies converged TMT NRAs. However, countries appear to have arrived at this multi-competitive with broadband networks and significant Phase 3 relatively quickly, perhaps learning numbers of internet and mobile users are 303 from the experiences of Western countries already beginning to face a new set of issues regarding the development of regulatory that come with convergence. VoIP services practices. In addition, low-cost technologies are already achieving a double-digit share exist today that facilitate access, enabling of international traffic in a number of Asia- developing countries to ‘leapfrog’ over older, Pacific countries. These new activities are more expensive technology and, indeed, disrupting broadcasting and media markets avoid legacy issues. as new web-based services are developing.

It is interesting to note that the FCC in the USA Recently, there has also been rapid growth in was the first regulator to introduce competition; the number of media players, initially through at that time, this was in the most advanced a proliferation of free-to-air stations and the communications market. It could be argued that multi-channel availability of pay-TV stations. other NRAs such as Ofcom have now developed New media on the internet has also added to the convergence dynamic. 260-324 6/11/06 20:41 Page 304

Types of convergence Examples

Platforms Fixed to mobile

Services TV over broadband

Devices Mobile TV

Industries Consolidation within segments

Source: Professor Steve Burdon (2006) Criteria Research and Analysis Pty Limited

Table 4: Four generic types of convergence

Where there is separate regulation of New regulatory challenges broadcasting and telecommunications, in the age of convergence a number of conflicting approaches may occur, Countries with advanced TMTs are facing a such as content being regulated for broadcasting fresh set of dynamics around convergence, but not for telecommunications. Some countries heralding a new paradigm which is likely to such as Australia and Hong Kong have already require a significantly different approach. moved to address this by combining telecommunications and media NRAs. Forecast impact of convergence

Several commentators in recent times have Precisely what impact convergence will have written about the emerging shifts of conver- on consumers in society is still a matter of gence and these can be best reviewed as four some debate. However, a recent survey found generic types (see table 4). that telecommunications executives are in little doubt that the impact will be significant regulatory reform in Asia-Pacific for analysing A framework

Voice and data Voice and data convergence 88 304 (VoIP, voice as an application) Fixed and mobile Access technology convergence 77 (fixed, wireless, mobile)

Telecom and media Convergence of telecom and 66 broadcast media and content services

Telecom and IT IP/IT network convergence 51 (next generation network architecture) Source: IBM institute for Business Value Analysis, Device February 2006 Device convergence (consumer electronics 46 converging with traditional telecom)

0102030405060708090100

Percentage of telecom execs saying ‘very strong’ or ‘strong’

Figure 3: Impact of different types of convergence over the next three years 260-324 6/11/06 20:41 Page 305

Telepresence 3D holographics Virtual reality 5 sec CD download Multi-channel TV Video streaming Multi-channel TV Video on demand Video-streaming (VHS) Multi-player games Video conferencing MP3 streaming Online games Teleconferencing

Basic surfing Adapted from KPMG 2003, 2010 National Broadband IP telephony Targets Maintaining Australia’s Competitiveness, 31 July 2006, Internet Industry Association Email

0 .064 .128 .256 .512 1 2 10 20 100+

Bandwidth Mbps

Figure 4: Indicative application bandwidth demands

over the next three years, across the generic Regulatory challenges for types of convergence (see figure 3). convergence services Section 5: Global areas of focus Development of new convergence As market boundaries shift, organisations in services one market may be confronted with a new type of competitor or a changed market 305 Although the inter-relationship of the four situation. Consequently, the traditional views generic types of convergence is still evolving, on market definitions that NRAs have relied there appears to be one essential gating factor on in the past could become redundant, with – namely broadband availability – for a whole a new complexity arising in the scope and suite of new convergence services in the difficulty of regulatory oversight between entertainment sector. This, coupled with separate broadcasting and telecommunications broadband’s impact on the health and services. education sectors, is one of the reasons why many Asia-Pacific countries have become As a case in point, in July 2006 South Korea’s intent on fostering its accessibility and broadcasting regulator and its Ministry of affordability for widespread adoption. Figure 4 Information and Communications ended a shows a suite of new services that can be lengthy debate over jurisdiction issues, after developed as bandwidth increases from 2 to agreeing to jointly operate web-based 100 Mbps. television services (IPTV). The two bodies 260-324 6/11/06 20:41 Page 306

Telecommunications Features Broadcasting

Bi-directional Type Uni-directional

One-to-one Method One to many

No content regulation Regulation Content

Open access Competition Regulation

Closed access

Source: Professor Steve Burdon (2006) Criteria Research and Analysis Pty Limited

Figure 5: Historic differences in key features of telecommunications and broadcasting

were in dispute over whether IPTV should Content that was once fixed on distinct be operated within the boundary of the platforms – TV, radio, print, cinemas – is multimedia or telecommunications sectors.14 becoming unbundled and accessible across the web. Some of this is due to piracy but, Some idea of the difficulties involved can be increasingly, consumers are also accessing legal seen in figure 5 which summarises the music, movie and TV show programming differences between telecommunications and provided by the original content owners through broadcasting communications. Apple iTunes or their own websites. The internet Emerging convergence factors of new has evolved into a cost-effective and fluid media, internet and advertising distribution system for hitherto exclusive

regulatory reform in Asia-Pacific for analysing A framework content, eroding the influence of the content Audience fragmentation, web distribution and programmers, governments and regulators who consumer-generated content are all forces have become accustomed to making decisions contributing to a new media state of play, about the availability and timing of content on 306 disordering the traditionally neat distinctions behalf of audiences. between audiences, content creators and advertisers. As M. Walsh writes in The New Biz This networked model of media has far-reaching of Showbiz: implications stretching way beyond merely exchanging entertainment content. It also “Content is created by consumers within impacts on what gets found and consumed, a network of connections and exchanged and creates new advertising models. Traditional seamlessly. Even traditional entertainment broadcast and print advertising is easily and products like movies and music are annotated heavily regulated for values and appropriateness with user reviews, remixed or simply in keeping with the national population norms. exchanged across peer to peer networks.”15

14. Choung, A. (2006) KOREA: Regulators clear path for Web-TV, Korea Times, 19 July, http://www.asiamedia.ucla.edu/article.asp?parentid=49415 (accessed: 16 August 2006) 15. Walsh, M. (2006) The New Biz of Showbiz, http://www.thefourthestate.com/2006/06/the_new_busines.html#more (accessed: 15 August 2006) 260-324 6/11/06 20:41 Page 307

On the new networked media, however, the Now, some commercial advertisers are strategies of both regulators and advertisers need themselves becoming victims of unlawful a fundamental re-think as young people are practices such as ‘click fraud’, where people clearly spending more of their media (or computer systems) deliberately click on consumption time on the web, or playing the online advertisements of competitors, games. In 2005, 21 per cent of print readers used driving up their costs since they pay for every the web as their primary news source, with blogs click or visit to their sites.18 consumption becoming de rigueur.16 Some regulation is only to be expected as the Unlike the traditional media advertising medium matures, and the most notable to date options, there is no predictable model for has been censorship initiatives. Varying degrees engaging with social media, when individual of internet content filtering have been applied in consumer opinions are literally the DNA of many Asia-Pacific countries including Singapore, most web consumption decisions today. Myanmar, Vietnam and China. Furthermore, Amazon’s book recommendation service is China has been observed as having the most based on the consumption patterns of like- extensive, wide-reaching and effective legal and minded book buyers. Google’s page-rank technological systems in the world for internet algorithm works off the density of other censorship and surveillance.19 people’s webpages linking to a particular piece of content, while bands on MySpace survive by Three different regulatory the number of friends that they manage to sign approaches for convergence up and recruit to their own website. For other As competition becomes viable and market companies, blogs have become the latest forces exert greater discipline on operators’ weapon in the war for consumer attention. behaviour, it may be wiser for regulators to On a globally ubiquitous medium which aim to reduce the regulatory burden on all

observes no geographic borders, this operators – incumbents and new entrants Section 5: Global areas of focus imbalance between consumer-generated alike. However, regulators must strike a content and promotion, and commercial balance: on the one hand, they must not give advertising, poses regulatory challenges for incumbents too much latitude to obstruct 307 maintaining the values and cultural norms competition while, on the other, they must of individual countries. For any given NRA, avoid imposing so many restrictions that they overseas-generated content remains outside stifle investment. its jurisdiction but this has not deterred efforts There are broadly three regulatory approaches of an increasing number of countries – both that governments can take. democratic and non-democratic – to “curb the perceived lawlessness of the medium”.17

16. A Fifth of online users who read newspapers now rely primarily on web editions (2006) Neilsen/Net Ratings, http://www.nielsennetratings.com/pr/pr_050616.pdf (accessed: 15 August 2006) 17. The OpenNet Initiative (2006) http://www.opennetinitiative.net/modules.php?op=modload&name=Sections&file=index&req=viewarticle&artid=1, (accessed: 16 August 2006) 18. Click! Mouse fraud bytes web advertisers, (2006) Australian Financial Review, Tuesday 15 August, p1,32 19. Internet Filtering in China in 2004-2005: A Country Study (undated) The OpenNet Initiative, http://www.opennetinitiative.net/studies/china/ (accessed: 17 August 2006) 260-324 6/11/06 20:41 Page 308

1. They can proactively-manage competition, a more effective instrument to balance industry guided by clearly-set benchmarks for the profit-maximising goals with national interests. achievement of national interests. This Summary option would see the NRAs under instruction to proactively regulate, declare The Asia-Pacific region currently leads the services, set prices and generally lay the world in share-of-investment in TMTs and groundwork for industry development, advanced services such as broadband and 3G with guidance from benchmarked progress penetration, moving from third to first over the (see Figure 1 for Hong Kong’s approach). Americas and Europe in a matter of five years.

2. Use a reactive ‘light-touch’ approach to the The region is extremely diverse, and for the development of competition and services in purposes of this paper a four-phase consultation with industry and consumers, convergence continuum model was developed granting concessions as necessary to persuade as a tool to analyse the current state of play in industry to provide services and develop relation to TMTs, and to postulate future infrastructure that would be in national competition and regulatory developments. interests. Country groupings were devised based on the state of competition in the TMT sector and 3. Take a market-led approach by allowing the the respective TMT regulatory frameworks. natural evolution of technological and other Subjective judgements were then made about developments in the industry eco-systems, the positioning of each country within the only dealing with occasional issues escalated convergence continuum model. to the NRA which cannot be resolved among the industry players themselves. At the time of writing, Australia, Japan and Under this approach, the industry self- Hong Kong were in the position where a regulates extensively, with NRAs exercising single provider could offer bundled voice, data A framework for analysing regulatory reform in Asia-Pacific for analysing A framework regulatory forbearance and intervening only and video services (triple-play), although not in the event of market failure. necessarily on the same network, and their respective governments had moved to merge Implicit in the review of each of these options 308 their communications and content regulators are considerations about the shifts in balance into one body. between ex ante regulation, and ex post law in managing competition and dealing with anti- What has emerged is that the Asia-Pacific 20 competitive conduct. region is at the cusp of a further paradigm shift as its leading economies move inexorably The proactive-managed approach is already towards convergence competition. For NRAs common in Asia-Pacific, and more member that are not already consolidated, one of the countries may follow suit in the future. Its key challenges identified includes inter- advantages are that it provides for regulatory regulator jurisdictional issues that arise as the certainty and, when judiciously exercised, will be

20. Competition law is traditionally ex post in the sense that matters are brought before the appropriate authorities when abuses have been committed or are about to be committed. On the other hand, telecommunications regulations are mostly ex ante in nature with proactive market intervention based on specific legislative provisions. Ex post regulation is said to be more flexible and less interventionist, leaving problems to be sorted out in the market place until the point where abuses of general rules are committed. However its processes may be too slow in a fast developing communications environment. Cases have to be processed by the appropriate authorities, and the experience is that it may take years to reach a final decision. 260-324 6/11/06 20:41 Page 309

old distinctions between broadcasters, and has better prospects of optimising telecommunications operators and media outcomes for all stakeholders. Historically, it players are dissolving. has achieved results in a number of European and Asia-Pacific jurisdictions, and is probably And as new web-based, globally-available best suited for managing convergence media continues to proliferate with growing competition in an era where market dynamics broadband penetration, some governments are in a state of major change. perceive their national values, sensitivities and sensibilities as being under siege. They look to As the Asia-Pacific economies take the lead in find ways of controlling foreign-generated an increasing number of TMT sectors, the prime content, and this state of play is still evolving. initiators in world regulation – traditionally, Where, historically, technology and telecom- the USA, Scandinavia and the UK – could find munications innovations have led convergence themselves being challenged. If the current rate developments, it would appear that new of improvement in TMT continues, the old media may only now be doing so. 19th century adage for ambitious Europeans may soon need a revised 21st century version: As we’ve seen, governments have three possible “Go east, young men and women!” regulatory approaches open to them, ranging from proactively managing the development Acknowledgement of competition; to a light-touch, guide-and- I’d like to thank Kay Ong, Principal of encourage strategy; to a market-led, minimal AnalyzeThiz Pty Limited and Senior Researcher regulatory structure, with intervention by NRAs at the University of Technology Sydney for her only in the event of market failure. ideas, contribution and editorial assistance in Looking to the near-future, it is likely that a producing this research paper. growing number of governments in Asia-

Pacific will take the first option. The proactive Section 5: Global areas of focus management approach provides the highest level of regulatory certainty for all players, 309 260-324 6/11/06 20:41 Page 310

Possibilities for deregulation: a case study of Hong Kong M. H. Au Director-General of Telecommunications, Office of the Telecommunications Authority (OFTA), Hong Kong

Introduction prices. The market is very competitive and penetration rates are high. Some key statistics Since 2004, Hong Kong has embarked on of the telecommunications industry in Hong a course of deregulation. Some of the ex ante Kong are given in table 1. regulations introduced at the beginning of liberalisation have been scaled back as Ex ante regulation competition in the market has become more Hong Kong has adopted market-driven effective. This paper focuses on economic policies in the telecommunications sector, regulation on interconnection and access. with all sectors of the Hong Kong It examines the deregulation steps that have telecommunications market having been been taken, the considerations behind them, opened to competition since January 2003. and discusses the opportunities for further The number of operators is determined by deregulation in the environment of fixed mobile the market, except where physical constraints Possibilities for deregulation: a case study of Hong Kong Possibilities convergence and next generation networks. (e.g. spectrum availability) limit them. All Some background on Hong Kong investment in the telecommunications industry is market-driven and there is no Hong Kong is a Special Administrative Region 310 government subsidy. The industry is fully of the People’s Republic of China. The land privatised and there is no foreign ownership area is about 1,100 square kilometres; the restriction for any type of telecommunications population is 6.9 million; and there are operator, whether facilities-based or services- around 2.2 million households. The Gross based. The Office of the Telecommunications Domestic Product in 2005 was about Authority (OFTA) regulates the industry under US$25,000 per capita, with the services sector the Telecommunications Ordinance. accounting for nearly 90 per cent of that figure. Hong Kong positions itself as an international It was in 1995 that the local (domestic) fixed centre for finance, trading, logistics and tourism. network market started a progressive opening- up to competition when three new entrants Hong Kong’s economic development has were licensed to compete with the incumbent. been underpinned by an efficient telecom- In 2000, licences to new entrants were awarded munications infrastructure and high quality for wireless technologies (Local Multipoint telecommunications services at competitive Distribution Systems, LMDS). The cable 260-324 6/11/06 20:41 Page 311

Number of telephone lines 3.8 million

Telephone line density 54% by population

Number of broadband connections 1.65 million

Broadband penetration 23% by population

65% by households

Number of domestic fixed network operators 10 (6 active in retail market)

Number of mobile customers Post-paid – 4.7 million

Pre-paid – 3.8 million

Overall – 8.5 million

Mobile service penetration Overall 123%

2.5G/3G customers as a percentage of all mobile customers 22%

Number of mobile network operators 5 (4 with 3G licences)

Annual revenue from telecommunications services US$6.3 billion (2004)

Annual capital expenditure in telecommunications sector US$ 1 billion (2004)

Table 1: Key telecommunications statistics in Hong Kong

television operator was also licensed to operate under it. One example was that the retail prices a broadband internet access service over its of the incumbent operator, including discounts, hybrid fibre coaxial cable network, effectively were subject to ex ante approval by OFTA in Section 5: Global areas of focus forming the fifth wireline local fixed network. order to prevent anti-competitive pricing while Since January 2003, the local fixed network the incumbent operator retained its dominance market has been fully liberalised. in the market. In contrast, the new entrants were only required to publish the ceiling 311 Like other markets which develop from a of their prices. This regulation was terminated monopoly, the incumbent operator remained from January 2005 after considering the status dominant in the early days of market of competition in the market. liberalisation. It was therefore necessary to introduce ex ante regulation while the market Regulation on interconnection and access was not fully effective to protect consumer is by far the most important element of the interest and to foster the development of ex ante regulation. The obligation of network competition. It was intended that this regulation operators or ‘carriers’ to interconnect is should act as a surrogate for market forces and contained in the conditions of the licences could be withdrawn when the market became issued to them. Under these conditions, the effective. licensee is obliged to interconnect with other networks and services and the interconnection The regulation is contained in a combination charges should be based on the reasonable of legislation, the Telecommunications relevant cost attributable to the interconnection. Ordinance and the conditions of licences issued 260-324 6/11/06 20:41 Page 312

Under the Telecommunications Ordinance, customer access networks (e.g. local loops) OFTA may determine the terms and conditions of another, to enable it to reach its customers. of interconnection, and issue guidelines on This achieves the same objectives as it. Before intervening to make an intercon- ‘unbundling of local loops’ in other nection determination, OFTA has to consider jurisdictions. New operators were allowed to a number of factors: these include government interconnect to the copper-based local loops policy objectives for the telecommunications at the telephone exchanges of the incumbent industry; consumer interests; encouraging operator, so that they could start offering efficient investment in telecommunications services to their customers before their own infrastructure; and the nature and extent of customer access networks were rolled out. competition among the parties to the Type II interconnection interconnection and other relevant factors. That an operator has ‘significant market Apart from legal treatment, there are a power’ or ‘dominance’ is not explicitly number of features which distinguish the mentioned in the legislation as a factor to be Type II interconnection arrangements in considered by OFTA, but as for all economic Hong Kong from ‘unbundling of local loops’ regulation, OFTA has to consider if there is any in other countries. market failure in deciding whether to intervene. Firstly, Hong Kong has not unbundled Therefore, these two market characteristics network elements other than the local loops. would be relevant factors in the consideration. The new entrants are expected to build their In Hong Kong, there is also no specific own concentrators, backhauls, switches and provision in the legislation on ‘unbundling trunks so that Type II interconnection would of network components’, but the definition of facilitate the emergence of some facilities- ‘interconnection’ has been extended to include based competition. Secondly, the Type II

Possibilities for deregulation: a case study of Hong Kong Possibilities “access to, or interconnection with, any interconnection applied only to the copper element of a telecommunications network on local loops which were constructed by the an unbundled basis at any point that is incumbent during the monopoly period and technically feasible”. For this reason, there are has never been extended to newly-built optical 312 two types of interconnection under the Hong fibre cables or wireless access networks. Kong legislation: ‘Type I interconnection’ and Thirdly, there was a deliberate attempt to scale ‘Type II interconnection’. back Type II interconnection at the stage of further liberalisation in the local fixed network Type I is the commonly-known type of market in the year 2000, as post-2000 entrants interconnection defined in other regulatory are no longer entitled to Type II interconnection regimes such as the EU regulatory framework mandated by regulation at the exchanges of for electronic services. It refers to inter- the incumbent. connection between networks and services such that users connected to one network may This type of interconnection has been effective communicate with, or gain access to, other in opening up the narrowband fixed network users or services connected to other networks. market to competition. At the end of 2004, about 11 per cent of local telephone line users ‘Type II interconnection’ refers to were served by the new entrants through Type interconnection by one operator to the II. This, combined with self-built customer 260-324 6/11/06 20:41 Page 313

access networks connecting about 19 per cent co-ordinating road-opening work (to help of local telephone line users, enabled expedite the issue of excavation permits by the competition to develop in the local fixed relevant authorities); promoting the provision network market. The market share of the of adequate equipment rooms and cabling incumbent declined steadily to the 70 per cent ducts inside buildings; liaising with building level. However, the existence of Type II managers and property developers (to interconnection policy has not discouraged overcome building access problems); and roll-out of self-built customer access networks launching programmes to educate the public by some new market entrants. This has (about the merits of facilitating access of something to do with the economics for self- multiple networks into their buildings). built networks in Hong Kong. Another factor is that the new entrants who Although the total land area is over 1,000 came into the market after 2000 have no square kilometres, the terrain is hilly and alternative but to self-build their customer therefore the population is concentrated into access networks. Even for one of the pre-2000 much smaller usable land areas. As a result, entrants that was entitled to Type II inter- the population density in the urban areas can connection, it has instead adopted a policy reach 50,000 people per square kilometre. of self-building – probably because of the Most of them live in multi-storey apartment perceived advantages of having access buildings, with one building in the private networks owned by itself; better control sector typically housing 200 units or more. of lead time to serve customers; product In contrast, a public housing estate can differentiation; and the potential to develop accommodate thousands of families. higher-performance services for the future.

The costs of rolling out optical fibres to these As a result, facilities-based competition has buildings can be shared by a large number of emerged in the local fixed network market. potential customers. Estimates say that 80 per Apart from 98 per cent coverage of homes by Section 5: Global areas of focus cent of the 2.2 million households in Hong the Digital Subscriber Line-enabled (DSL) Kong are accommodated in around 8,000 local loops of the incumbent operator, over buildings and that it is technically feasible, 90 per cent of homes are within the reach 313 and economically viable, for the new entrants of the cable modem service of the cable to lay optical fibres to reach those buildings television network. 71 per cent of homes are as an alternative to the incumbent’s copper within the coverage of the customer access local loops. The legislation facilitates the network of at least one other new operator, and rollout of self-built customer access networks 43 per cent are within the coverage of the access by giving local fixed operators a statutory networks of at least two other new operators. right of access to the communal areas of The new entrants’ customer access networks apartment buildings (i.e. areas other than are typically using fibre-to-the-building those for exclusive occupation by the residents) technology, with optical fibres laid in to install cables and equipment to reach their underground ducts to a telecommunications customers inside the buildings. equipment room, located on the ground OFTA also adopts a number of active measures floor or basement of a building. The final to facilitate network rollout. These include connections to the customers’ premises in the 260-324 6/11/06 20:41 Page 314

building are through Category 5 copper wires of the incumbent operator are still ‘essential laid in the vertical risers and horizontal ducts facilities’. For buildings already connected by inside the building. more than one customer access network, the withdrawal of Type II interconnection for As a result of facilities-based competition, access to the buildings from the telephone prices for broadband have dropped to very exchanges will be sooner: three years after the competitive levels compared with narrowband buildings received these networks. access, and have stimulated demand. Broadband penetration of households has Most customers in Hong Kong live in multi- reached 65 per cent, and operators have storey buildings. With the optical fibres taken advantage of this high uptake to offer connecting the buildings terminated in the IP telephony and IPTV services over the telecommunications rooms on the ground broadband connections. ‘Triple-play’ services floor or basement of the buildings, the (i.e. services comprising voice telephony, customers on the upper floors have to be internet access and pay television) are offered connected through in-building wiring systems by four fixed network operators and their normally based on copper cables. These cables affiliates. New operators have captured 48 per are routed through in-building risers and cent of the broadband market. ducting systems.

This level of competition in the market has Owing to space limitations, and difficulties in prompted Hong Kong to review the regulation installing additional cables leading to of Type II interconnection that was introduced customers’ premises once the buildings have in the initial period of market liberalisation. been occupied, the in-building wiring systems In the short-term, Type II offered more choices can become ‘bottlenecks’ in some cases. For this to residents in multi-storey buildings, and reason, Type II interconnection to the wiring increased competition. However, it is also systems from the equipment rooms or Possibilities for deregulation: a case study of Hong Kong Possibilities viewed as a low-risk approach of connecting distribution boxes inside the buildings will be those customers. Its existence could dilute the continued. Normally, operators negotiate with incentive for investment in alternative customer each other for mutual access to the in-building 314 access networks which have the potential to wiring systems under their control, with OFTA offer more advanced services, rather than intervening only if these negotiations fail. So far, relying on the DSL-enabled local loops. OFTA has mediated in inter-operator disputes, but no determinations have been requested. The benefit of Type II has to be weighed against the cost of slowing down the rollout of more Type I interconnection modern infrastructure. In view of the expanding This regulation is essentially to achieve the coverage of the customer access networks of the policy objective of ‘any-to-any’ connectivity. new operators, it has been decided that Every user connected to a telecommunications continuing with mandatory Type II inter- network can communicate with any other connection indefinitely can no longer be user, or access any service, whether or not the justified. The Government decided in 2004 to other user or service is connected to the same end the mandatory application at the telephone network or another network. Like other exchanges by the end of June 2008, with the regulators, OFTA has implemented ex ante exception of cases where the copper local loops 260-324 6/11/06 20:41 Page 315

regulation on Type I interconnection. Meanwhile, more than ten years have passed The extent of regulatory attention has since Hong Kong opened the local fixed depended on whether the interconnection network market to competition. The networks arrangement is symmetric or asymmetric. that have entered the market have grown in size, and the relative bargaining positions of the Symmetric arrangements network operators have become more balanced. Symmetric Type I interconnection applies Both the incumbent and the new entrants need between fixed networks for communications to interconnect with each other in order to between users. The originating network meet the expectation of their customers. operator pays an interconnection charge to Therefore, there is considerable countervailing the terminating operator and the charge power to work against the exercising of any applies on a reciprocal basis. The ex ante market power in terminating calls. regulation in Hong Kong for symmetric Type I For this reason, there is increasingly less need interconnection has been applied with a light for OFTA to intervene in the negotiations; in touch. The network operators have an fact, since liberalisation commenced, there obligation to interconnect with each other have been just two occasions when OFTA under their licence conditions. There is no stepped in to determine the interconnection specific provision in the legislation to require charges between the incumbent and one new the dominant operator to publish Reference entrant. And since 2003, OFTA’s intervention Interconnection Offers for interconnection. hasn’t been needed at all in this type of OFTA has issued guidelines, setting out the interconnection between two fixed networks. charging principles for interconnection and At this stage, OFTA does not consider that it can the methodology for calculating the completely withdraw ex ante regulation on Type interconnection charges. Also, OFTA has I interconnection. In principle, in a competitive

adopted international best-practice that the Section 5: Global areas of focus market, operators should be free to negotiate interconnection charges should be based on terms and conditions for interconnection the Long Run Average Incremental Costs. among themselves. OFTA’s guidelines, and With guidance from these OFTA guidelines, the power to determine as a backup, could be 315 the operators are expected to negotiate viewed as a form of intervention affecting the interconnection agreements on a commercial outcome of negotiations. basis. OFTA may make a determination on the terms and conditions of interconnection However, the appropriate balance must be if commercial negotiations fail. struck between avoiding undue interference with the market process and minimising The need for imposing the ex ante regulation uncertainties that increase investment risks and was to address the imbalance in bargaining raise entry barriers. Some basic ground rules power between the incumbent and new would still be required; without them, there entrants in interconnection. Without would be considerable uncertainty and the obligations and OFTA guidelines, protracted negotiations. So OFTA should, for the incumbent probably did not have the the time being, continue to impose the incentive to interconnect with a new entrant obligation to interconnect and lay down the when the entrant had a zero, or small, basic rules of interconnection. However, should customer base. 260-324 6/11/06 20:41 Page 316

the operators negotiate and agree to adopt termination charges. For this reason, the level different terms for interconnection, then OFTA of these charges of the incumbent has should not interfere with their commercial traditionally been regulated by OFTA. agreements. Regulation would remain as a OFTA uses a cost model to work out the backup to resolve disputes which cannot be origination/termination charges and agrees resolved through commercial negotiations. with the incumbent operator to publish a Asymmetric arrangements tariff based on OFTA’s calculations. OFTA has a backup power to make a determination if In Hong Kong, asymmetric Type I inter- the incumbent operator does not implement connection arrangements exist between fixed the charges it has worked out. networks and mobile networks, and between networks and services. In the past, these The current asymmetric arrangement is obsolete arrangements have demanded more and would not be sustainable in the regulatory attention. environment of ‘fixed mobile convergence’ (FMC), as user terminals served by the same The first type of asymmetric interconnection network operator may be fixed at some times arrangements exists between fixed networks and moving at others. Interconnection rules and mobile networks. A Mobile Party Paying based on the distinction on whether the user is (MPP) arrangement is implemented at the fixed or mobile would become unenforceable. retail level for mobile services; the mobile users OFTA has therefore initiated a review on the pay for the calls they make and receive. appropriate interconnection charging At the interconnection level, for a call arrangement in the FMC environment. originating from a fixed network to be terminated on a mobile network – and for a The first question to be addressed in the call in the reverse direction – the mobile review is whether any market failure is

Possibilities for deregulation: a case study of Hong Kong Possibilities network operator has to pay either an expected when the existing regulation origination charge or a termination charge, as imposing the asymmetric arrangement is the case may be, to the fixed network operator. withdrawn. If not, it should indeed be (As far as OFTA is aware, this asymmetric 316 withdrawn. The next question is whether some arrangement is rather unique in the world; it is guidance to the industry on the basic rules the legacy of treating mobile services as being of interconnection would still be necessary, ‘value-added’ services, when they first appeared in order to provide more certainty and in the market.) predictability of the regulatory environment after the existing regulation is withdrawn. As the costs arising from the interconnection charges are borne by the mobile customers, If this guidance is warranted, in evaluating and would not directly affect the decisions of options of the basic rules, OFTA aims to the fixed line customers in choosing their fixed identify arrangements that would facilitate the network suppliers, the fixed network operators development of convergence services and would not be subjected to competitive pressure encourage operators to negotiate efficient to lower the origination or termination charges. interconnection agreements among themselves Therefore, the market may not be working without regulatory intervention. The effectively to restrain the origination/ arrangements should, in principle, simulate 260-324 6/11/06 20:41 Page 317

the outcome of commercial negotiations For outgoing international calls, the calling between operators of comparable bargaining parties may, arguably, use (in addition to fixed power. A symmetric arrangement would better phones) mobile phones and IP telephone satisfy these criteria than the existing services, but this ability to substitute is still to asymmetric one. This potential change is be assessed. For termination of incoming on the OFTA agenda of consultation with international calls, the calls can be terminated industry in 2006. only by the networks to which the called parties are connected. As part of the review The second type of asymmetric arrangement currently in progress, OFTA will examine applies to interconnection between networks whether market forces can act effectively to and value-added services, such as internet constrain the interconnection charges for call access services and international telephone origination and termination. services. The service providers have to pay an interconnection charge to the network Next generation networks operator, to pay for the network resources As in many other countries, operators in Hong consumed to connect the services to their Kong are busy implementing, or planning users. The levels of the interconnection transition to, next generation networks charges of the incumbent operator have (NGN). The equivalents of Type I and Type II traditionally been regulated by OFTA. A review interconnections to NGN should, in principle, has been initiated to look at whether market still exist. Up to now, Type I interconnection forces are able to constrain the level of these between IP networks has been based on charges; the extent of the constraints differs commercial agreements which are working according to the types of services. well, and give no reason for the regulator to In the case of origination charges for internet intervene. As explained in the section on Type access services, the high penetration rate of II interconnections, regulated Type II broadband in Hong Kong would exert interconnection will be phased out from the Section 5: Global areas of focus considerable pressure on those charges. Dial- middle of 2008 and is unlikely to be re- up access is used mainly as backup. If the introduced for NGN. However, one area that origination charge becomes excessive, users may need regulatory attention is intercon- 317 would simply stop using the dial-up access. nection and access to NGN infrastructure for It is therefore likely that the origination charge the provision of services, applications and for internet access services may be deregulated. content.

When it comes to the origination of calls from In the NGN environment, intelligence and fixed network users to international telephone functionalities for the provision of services service providers, and for the termination of embedded in the switches of traditional incoming international calls to the called parties networks will be moved to the network edges, on the fixed networks, the competitive to reside in the users’ devices and servers of constraints on the fixed network operators to services and applications providers. This will set the interconnection charges are not enable the separation of facilities operation so obvious. and services provision. Providers who do not own and operate physical infrastructure will 260-324 6/11/06 20:41 Page 318

also be able to offer services, applications and The issue, then, is to what extent should content in addition to the facilities operators. ex ante regulation be employed to achieve this open access? In this regard, OFTA The benefits of NGN in unbundling services considers that there is no need to create new provision and facilities operation would not principles for NGN. The principles applicable be realised unless NGN operators opened to all economic regulation should be applied. the access to their network infrastructure to Ex ante regulation should be employed to deal competing service providers. Inevitably, the with market failures that cannot be overcome number of infrastructure operators will be over time without regulatory intervention. limited by economic and technical factors. Therefore, if the facilities operators do not As is well known, the architecture of the NGN allow ‘open access’ to their network comprises four layers: namely (from bottom infrastructure, oligopoly would develop in the to top), the access layer; the transport (core market for services, applications and content. network) layer; the control layer and the This open access to the NGN would enable applications layer. In the Hong Kong competition for services, applications and environment, competing access networks have content over the NGN infrastructure, bringing been constructed based on DSL-enabled local diversity, choice and innovation to the users. loops, fibre-to-the-building and hybrid-fibre- There will also be more opportunities coaxial cable technologies. Four 3G networks generated for increasing numbers to participate are in operation and broadband wireless in the market, including small and medium- access (BWA) is planned to be licensed soon. sized enterprises which do not have the We can therefore expect that there will be resources to invest in network infrastructure. multiple access networks connected to the However, it is also necessary to preserve core networks. There is also no entry barrier the commercial incentive for investment to the core network market. With alternative Possibilities for deregulation: a case study of Hong Kong Possibilities and deployment of advanced network networks emerging, it would be unlikely to see infrastructure based on new technologies. a bottleneck at the access and core network Without such an infrastructure, the market for layers. Ex ante regulatory intervention at these 318 the services, applications and content would two layers is therefore unlikely to be not materialise – after all, NGN involves justifiable, with the exception of some remote substantial and possibly risky investment. areas where the incumbent’s local loops may The return on investment may depend on remain as ‘essential facilities’ in the fore- revenue from services, applications and seeable future. As regards interconnection and content provided by the NGN operators access at the upper levels, the control and themselves over the infrastructure. They may application layers involve new interfaces that not have the commercial incentive to open may not have equivalents in the traditional their networks to competing services-based networks. Whether new bottlenecks would operators as they do not want to see revenue emerge at these layers remains to be seen; diverting to third-party providers. Regulatory however, if they do, regulatory attention intervention to mandate open access at might be necessary. cost-based prices could potentially dilute Although regulated access may not be the incentive to invest. warranted for infrastructure that has no 260-324 6/11/06 20:41 Page 319

bottleneck issues, experience in Hong Kong access services to IP telephony service tells us that the mere existence of multiple providers under a commercial agreement. access networks in competition does not automatically lead to open access. Whether In the case of 3G content, the four 3G the infrastructure operators would adopt a network operators have been aggregating and walled-garden or open access policy would supplying content through their own portals. depend on whether they viewed the provision No commercial agreement for opening up the of access to third-party service providers as a network to third-party content providers has potential revenue threat to their own services, been concluded. Third-party content may be applications and content – or, conversely, an accessed through the internet, although a enhancement to their revenue from increased combination of the data conveyance charges, usage of their network infrastructure. the relatively more cumbersome steps involved and the suitability of the internet So far in Hong Kong, the business model content for display on handsets with small commonly adopted by 3G and broadband screens probably discourages such access. fixed network operators is to bundle the The 3G network licences contain obligations broadband access with the provision of their for the network operators to open 30 per cent own services, applications and content such of the network capacity to third-party content as IPTV, IP telephony services and 3G content. providers or Virtual Mobile Network In the case of IPTV services, there are three Operators. However, OFTA does not intend to operators in Hong Kong. So far, there has intervene until third-party content providers been one commercial agreement concluded have made reasonable attempts to conclude between an IPTV service provider and the commercial deals for access, but without operator of a broadband network for delivery success. So far, no request for intervention of the IPTV services; but in this case, the latter has been received by OFTA. Section 5: Global areas of focus does not operate any IPTV services. On the Although no substantial open access has been other hand, two other broadband access achieved at present, users are able to reach network operators – who also act as content services, applications and content supplied aggregators and IPTV service providers over 319 over the internet. Such delivery modes would their own networks – have yet to open their in the future exert competitive pressure on the networks to third-party service providers. operators of NGN infrastructure to open their In the case of IP telephony services, the networks to third-party service providers. So broadband customer access network operators long as the NGN users can freely access provide services over their own infrastructure applications on the internet without blockage to the customers. The users can also access, or deliberate degradation of performance, through their broadband connections, services service providers would be able to deliver their provided as applications on the public services to their customers through the internet. These applications may be provided internet, at least on a ‘best-effort’ basis. on the internet by operators within Hong With an open internet, any walled garden Kong, or by overseas operators. So far, there policy of the NGN operators cannot be totally have been no cases of the broadband effective. customer access network operators offering the 260-324 6/11/06 20:41 Page 320

In the supply of applications over the internet, open access in the NGN environment. and in the absence of commercial relation- The NGN market is still new and emerging, ships with the operators of the NGN, the and business models and relationships are delivery of the packets for the applications evolving. Premature regulatory intervention over the core and access networks of the NGN could stifle both investment and innovation. would be on a best-effort basis only. The Because multiple broadband access networks service providers would have the incentive to exist in the Hong Kong environment, there are seek direct access to the NGN under real opportunities for market forces to bring commercial agreement, in order to secure about open access. better control of the quality and reliability We should allow more time to see whether of the delivery services. NGN operators would services-based operators would be able to also have the incentive to offer direct access obtain access to the NGN on a commercial with better grades of quality and security than basis. Without the imposition of ex ante best-effort delivery services, for which the regulation, the practices of the NGN operators NGN operators would charge a premium. in the market will continue to be constrained So there should be reasonable prospects for by competition law on an ex post basis. commercial relationships to be concluded Conclusion between the NGN operators and the third- party service providers. Relationships forged Hong Kong’s high population and building this way would be more sustainable in the densities have meant that OFTA has been able long-term than one imposed by regulation. to go further down the deregulation road than countries where the ‘last-mile’ to the users In the longer-term, it would be possible for remains an economic bottleneck for the the service providers to set up transmission foreseeable future. OFTA has been able to paths over the public internet with guaranteed

Possibilities for deregulation: a case study of Hong Kong Possibilities withdraw some existing ex ante regulation on end-to-end quality of service for certain types the traditional networks, such as setting a of traffic, for which the service providers or termination date for mandatory Type II the end-customers would be expected to pay. interconnection (the equivalent of unbundling 320 There are no grounds to object to the service of local loops in other jurisdictions). Beyond providers, or the end-customers, being charged that date (in mid-2008), competitors in the for differentiated quality of delivery services market will generally be facilities-based and over the internet – provided these charges are not dependent on regulated access to the levied for specific levels of service open to all incumbent’s network. websites or service providers, on a non- The extent of deregulation has only been discriminatory basis. The NGN operators possible because of the level of facilities-based should have the commercial incentive to competition which, although attributable to interconnect with other operators to deliver Hong Kong’s population and densities, may also traffic under specific service level agreements have been helped by certain regulatory policies and share the additional revenue. for the rollout of competing infrastructure. Taken as a whole, it is premature to conclude The first is the policy to promote competition in that ex ante regulation is necessary to achieve the market: competition drives the entrants to 260-324 6/11/06 20:41 Page 321

consider self-building their customer access networks can reach the customer premises, networks in order to differentiate their services ex ante regulation would not be justifiable from those of the incumbent. unless a bottleneck issue could be established in the NGN. OFTA would allow time for The second is the deliberate policy to business models and business relationships to contain the scope of Type II interconnection evolve before considering ex ante regulation. (unbundling of local loops) so that an opti- mum balance was struck between accelerating By ensuring that NGN users have unrestricted competition through access to the incumbent’s access to the services, applications and content last-mile and maintaining the incentive for on the public internet, there may well be infrastructure investment. sufficient competitive pressure on the NGN operators to offer open access to their networks The third are the legislative and administrative to third-party service providers; if not, the measures to facilitate network rollout, such as competing products would simply be accessed the statutory right of access into apartment through the internet. Direct access to the NGN buildings for installation of equipment and would enable the service providers to control the wiring systems, and the proactive involvement level of quality and reliability of service delivery of the regulator in facilitating road opening to their customers, while the NGN operators and building access. received additional streams of revenue. While facilities-based competition is regarded So, there is scope for market forces to be by many regulators as the desirable goal, if it allowed to work in order to achieve open is applied on its own in the NGN environment access. Should this access fail to materialise, it may lead to oligopoly in the market for due to bottlenecks in the NGN that were services, applications and content if the network unlikely to be resolved by the market in a infrastructure is not opened to third-party reasonable period, OFTA would consider

service providers. This would then lose the Section 5: Global areas of focus ex ante regulation. benefits of the unbundling of facilities operation and services provision in the NGN In this chapter, I have focused on economic environment. Therefore, OFTA considers that regulation, but social and technical regulation 321 it should promote open access in order to may continue to be required in the NGN enable a thriving market for services, applica- environment if the market cannot deliver the tions and content to develop over the NGN desired policy objectives on its own, and if the infrastructure. benefit achieved through regulation exceeds its cost. Social regulation may be required to However, OFTA does not intend to apply achieve universal service and to protect public prematurely ex ante regulation to the NGN. consumer interests, while technical regulation There is a need to preserve commercial may be needed to facilitate interconnection incentive for infrastructure investment. In any and interoperability between networks. case, in an environment where multiple 260-324 6/11/06 20:41 Page 322

322 260-324 6/11/06 20:41 Page 323

Acknowledgements

Special thanks to those who contributed to Chris Adams, Monica Arino, Azeem Azhar, the editing and production of this book: Steven Barnett, Alex Blowers, Martin Cave, Pietro Crocioni, Julia Fraser, David Gillick, Andy Bailey, Peter Dunkley, Robin Hull. Ian Hargreaves, Lyn Maddock, David Thanks to those who contributed to the Mahoney, Chris Marsden, Gratham Mather, Approaches to Regulation project especially in Dominic Morris, Anil Patel, Peter Philips, the provision of helpful suggestions for topics Stewart Purvis, Dougal Scott, Emily Seymour, and authors: Len Waverman, Sean Williams. Acknowledgements

323 260-324 6/11/06 20:41 Page 324