Over at Discourse magazine I’ve posted my latest essay on how conservatives are increasingly flirting with the idea of greatly expanding regulatory control of private speech platforms via some sort of common carriage regulation or new Fairness Doctrine for the internet. It begins:

Conservatives have traditionally viewed the administrative state with suspicion and worried about their values and policy prescriptions getting a fair shake within regulatory bureaucracies. This makes their newfound embrace of common carriage regulation and media access theory (i.e., the notion that government should act to force access to private media platforms because they provide an essential public service) somewhat confusing. Recent opinions from Supreme Court Justice Clarence Thomas as well as various comments and proposals of Sen. Josh Hawley and former President Trump signal a remarkable openness to greater administrative control of private speech platforms. Given the takedown actions some large tech companies have employed recently against some conservative leaders and viewpoints, the frustration of many on the right is understandable. But why would conservatives think they are going to get a better shake from state-regulated monopolists than they would from today’s constellation of players or, more importantly, from a future market with other players and platforms?

I continue on to explain why conservatives should be skeptical of the administrative state being their friend when it comes to the control of free speech. I end by reminding conservatives what President Ronald Reagan said in his 1987 veto of legislation to reestablish the Fairness Doctrine: “History has shown that the dangers of an overly timid or biased press cannot be averted through bureaucratic regulation, but only through the freedom and competition that the First Amendment sought to guarantee.”

Read more at Discourse, and down below you will find several other recent essays I’ve written on the topic.

• “FCC’s O’Rielly on First Amendment & Fairness Doctrine Dangers“
• “A Good Time to Re-Read Reagan’s Fairness Doctrine Veto“
• “Sen. Hawley’s Radical, Paternalistic Plan to Remake the Internet“
• “How Conservatives Came to Favor the Fairness Doctrine & Net Neutrality“
• “Sen. Hawley’s Moral Panic Over Social Media“
• “The White House Social Media Summit and the Return of ‘Regulation by Raised Eyebrow’“
• “The Not-So-SMART Act“
• “The Surprising Ideological Origins of Trump’s Communications Collectivism“

Here’s a new animated explainer video that I narrated for the Federalist Society’s Regulatory Transparency Project. The 3-minute video discusses how earlier “tech giants” rose and fell as technological innovation and new competition sent them off to what the New York Times once appropriately called “The Hall of Fallen Giants.” It’s a continuing testament to the power of “creative destruction” to upend and reorder markets, even as many pundits insist that there’s no possibility change can happen.

This is an important lesson for us to remember today, as I noted in the recent editorial for The Hill about why, “Open-ended antitrust is an innovation killer“:

Those who worry about today’s largest tech giants becoming supposedly unassailable monopolies should consider how similar fears were expressed not so long ago about other tech titans, many of which we laugh about today. Just 14 years ago, headlines proclaimed that “MySpace Is a Natural Monopoly,” and asked, “Will MySpace Ever Lose Its Monopoly?” We all know how that “monopoly” ceased to exist. At the same time, pundits insisted “Apple should pull the plug on the iPhone,” since “there is no likelihood that Apple can be successful in a business this competitive.” The smartphone market of that era was viewed as completely under the control of BlackBerry, Palm, Motorola and Nokia. A few years prior to that, critics lambasted the merger of AOL and TimeWarner as a new corporate “Big Brother” that would decimate digital diversity and online competition.

Accordingly, policymakers should be humble and recognize that, “it’s better to let rivalry and innovation emerge organically,” and only bring in the wrecking ball of heavy-handed antitrust regulation as a last resort, I argued. Technological change and entrepreneurialism has a way of upending and reordering markets when we least expect it. Just ask all those members of the Hall of Fallen Giants.

Interoperability is a topic that has long been of interest to me. How networks, platforms, and devices work with each other–or sometimes fail to–is an important engineering, business, and policy issue. Back in 2012, I spilled out over 5,000 words on the topic when reviewing John Palfrey and Urs Gasser’s excellent book, Interop: The Promise and Perils of Highly Interconnected Systems.

I’ve always struggled with the interoperability issues, however, and often avoided them became of the sheer complexity of it all. Some interesting recent essays by sci-fi author and digital activist Cory Doctorow remind me that I need to get back on top of the issue. His latest essay is a call-to-arms in favor of what he calls “adversarial interoperability.” “[T]hat’s when you create a new product or service that plugs into the existing ones without the permission of the companies that make them,” he says. “Think of third-party printer ink, alternative app stores, or independent repair shops that use compatible parts from rival manufacturers to fix your car or your phone or your tractor.”

Doctorow is a vociferous defender of expanded digital access rights of many flavors and his latest essays on interoperability expand upon his previous advocacy for open access and a general freedom to tinker. He does much of this work with the Electronic Frontier Foundation (EFF), which shares his commitment to expanded digital access and interoperability rights in various contexts.

I’m in league with Doctorow and EFF on some of these things, but also find myself thinking they go much too far in other ways. At root, their work and advocacy raise a profound question: should there be any general right to exclude on digital platforms? Although he doesn’t always come right out and say it, Doctorow’s work often seems like an outright rejection of any sort of property rights in networks or platforms. Generally speaking, he does not want the law to recognize any right for tech platforms to exclude using digital fences of any sort.

Where to Draw the Lines?

As someone who has authored a book about the importance of permissionless innovation, I need to be able to answer questions about where these lines between open versus closed systems are drawn. Definitions and framing matter, however. I use “permissionless innovation” as a descriptor for one possible policy disposition when considering where legal and regulatory defaults should be set. Another conception of permissionless innovation is more of an engineering ideal; a general freedom to connect, tinker, modify, etc. (I speak more about these conceptions in my latest book, Evasive Entrepreneurs.) Of course, someone advocating permissionless innovation as a policy default will sometimes be confronted with the question of what the law should say when someone behaves in an “evasive” fashion in the latter conception of permissionless innovation.

Doctorow would generally answer that question by saying that law should not be rigged to favor exclusion through laws like the DMCA (and specifically the law’s anti- circumvention provisions), Computer Fraud and Abuse Act, patent law, and various other rules and laws. “[T]he current crop of Big Tech companies has secured laws, regulations, and court decisions that have dramatically restricted adversarial interoperability.”

Generally speaking, I agree. I’m not a fan of technocratic laws or regulations that seek to micro-manage interoperability and which stack the deck in favor of exclusionary conduct with steep penalties for evasion. But does that mean adversarial interoperability should be permitted in all cases? Should there exist any sort of common law presumption one way or the other when a user or competitor seeks access to an existing private platform or device?

Specifics matter here and I don’t have time to get into all the case studies that Doctorow goes through. Some are no-brainers, like the infamous Lexmark case involving refillable printer ink cartridges. Other cases are far more complicated, at least for me. Does Epic, creator of Fortnite, have a right of adversarial interoperability that it can exercise against Apple and their AppStore? As Dirk Auer suggests in a new essay, this episode looks more like a straightforward pricing dispute. Epic is making it out to be much more than that, suggesting Apple is guilty of unfair and exclusionary practices that require a legal remedy.

Why not take that logic further and just say Apple’s App Store us tantamount to a natural monopoly or digital essential facility that Epic and everyone else is entitled to on whatever terms they want? For that matter, why not apply the same logic to Epic’s Fortnite platform or even its Unreal Engine? Does every other gaming developer have a right to piggyback on the juggernaut that Epic has built?

This gets to the core question about Doctorow’s concept of adversarial interoperability: Exactly what should common law and the courts say platform owners make access rights a simple pricing matter and say: “You pay or you are out.” Like Doctorow and EFF, I don’t want Apple to benefit from any special favors from laws like DMCA. Where we differ is that I would still leave the door open for Apple to exercise various other common law contractual rights or property rights in court.

I suspect Doctorow would deny any such claims by Apple or anyone else. If so, I would like to see him spell out in more precise terms exactly what Apple’s property rights and contractual rights are in this instance. Or, again, should we just treat the App Store as a digital commons with unfettered open access rights for developers? If so, would Apple be required to still manage the resource once it is a quasi-commons?

I think that would end miserably, but would like to hear Doctorow’s preferred approach before saying more. I suspect a lot rides on the distinction between “open” verses “proprietary” standards, but compared to Doctorow and EFF, I am willing to embrace a world of both open and proprietary systems, and many hybrids in between. I don’t want the law favoring one type over the other, but that means I need to endorse a generalized property right for digital operators such that they can still exclude others (even in the absence of artificial regulatory rights like DMCA creates). Again, I suspect Doctorow would reject that standard, preferring a generalized right of access, even if that means the platforms become de facto commons.

More Radical Steps

Elsewhere, Doctorow has said is that some of these questions would be better addressed through more aggressive antitrust regulation. Mere data portability or mandatory interoperability isn’t enough for him. “Data portability is important,” Doctorow says, “but it is no substitute for the ability to have ongoing access to a service that you’re in the process of migrating away from.”

In his latest online book on “How to Destroy Surveillance Capitalism,” Doctorow suggests that it is time to “make Big Tech small again” through an “anti-monopoly ecology movement.” That “means bans on mergers between large companies, on big companies acquiring nascent competitors, and on platform companies competing directly with the companies that rely on the platforms.” And he desires a host of other remedies.

So, here we have the convergence of interoperability policy and antitrust policy, with a layer of property confiscation layered on top apparently. “Now it’s up to us to seize the means of computation, putting that electronic nervous system under democratic, accountable control,” he insists in his latest manifesto.

What’s funny about this is that Doctorow begins most of his essays by pointing out all the ways that politics is the problem when it comes to access issues, only to end by suggesting that a lot more political meddling is the required solution. He repeatedly laments how large tech players have so often been able to convince lawmakers and regulators to pass special laws or regulations that work to their favor. Yet, in his We-Can-Build-A-Better-Bureaucrat model of things, all those old problems will apparently disappear when we get the right people in power and get rid of those nefarious capitalist schemers.

Thus, what really animates Doctorow’s advocacy for adversarial interoperability is a deep suspicion of free market capitalism and property rights in particular. In this worldview, interoperability really just becomes a Trojan Horse meant to help bring down the entire capitalist order. Am I exaggerating? “As to why things are so screwed up? Capitalism.” Those are his exact words from the conclusion of his latest book.

Adversarial Innovation & Evolutionary Interop

Still, Doctorow raises many legitimate issues about interconnection and digital access rights. But we need a better approach to work though these questions than the one he suggests.

In my lengthy review of the Palfrey and Gasser Interop book, I tried to sketch out an alternative framework for thinking seriously about these issues. I referred to my preferred approach as “experimental interoperability” or “evolutionary interoperability.” I described this as the theory that ongoing marketplace experimentation with technical standards, modes of information production and dissemination, and interoperable information systems, is almost always preferable to the artificial foreclosure of this dynamic process through state action. The former allows for better learning and coping mechanisms to develop while also incentivizing the spontaneous, natural evolution of the market and market responses.

Adversarial interoperability is important, but not nearly as important as adversarial innovation and facilities-based competition. Stated differently, access rights to existing systems is an important value, but the incentives we have in place to encourage entirely new systems is what really matters most. At some point, a generalized right of access to existing systems discourages the sort of platform-building that could help give rise to the sort of creative destruction we have seen at work repeatedly in the past and that we still need today. Taken too far, adversarial interoperability threatens to undermine this goal. Why seek to build a better alternative platform if you can just endlessly free ride off someone else’s by force of law?

Thus, I prefer to work at the margins and think through how to balance these competing claims of access / interoperability rights versus contractual / property rights. My take will be too utilitarian for not only Doctorow but also for some libertarians, who want clear answers to all these questions based upon their preferred natural law-oriented constructions of rights. The problem with that approach is that it leads to all-or-nothing extremes (complete digital property rights, or virtually none) and that approach is fundamentally unworkable and destructive. We need to work harder about how to balance these rights and values in pro-competitive, pro-innovation fashion.

There is No Such Thing as Optimal Interoperability

In sum, there is no such thing as “optimal interoperablity.” Sometimes proprietary or “closed” systems will offer the public features and options that they will find preferable to “open” ones.  “There are many reasons why consumers might prefer ‘closed’ systems – even when they have to pay a premium for them,” argues Dirk Auer in a separate essay. It could be greater convenience, security, or other things. Palfrey and Gasser correctly noted in their book that, “the state is rarely in a position to call a winner among competing technologies” (p. 174). Moreover, they concluded:

“Lawmakers need to keep in view the limits of their own effectiveness when it comes to accomplishing optimal levels of interoperability. Case studies of government intervention, especially where complex information technologies are involved, show that states tend to be ill suited to determine on their own what specific technology will be the best option for the future (p. 175)

A thousand amens to that! The law should not artificially foreclose experimentation with many different types of platforms, standards, devices and the interoperability that exists among them.

Does anyone remember Blockbuster and Hollywood Video? I assume most of you do, but wow, doesn’t it seem like forever ago when we actually had to drive to stores to get movies to watch at home? What a drag that was!

Yet, just 15 years ago, that was the norm and those two firms were the titans of video distribution, so much so that federal regulators at the Federal Trade Commission looked to stop their hegemony through antitrust intervention. But then those firms and whatever “market power” they possessed quickly evaporated as a wave of Schumpeterian creative destruction swept through video distribution markets. Both those firms and antitrust regulators had completely failed to anticipate the tsunami of technological and marketplace changes about to hit in the form of alternative online video distribution platforms as well as the rise of smartphones and robust nationwide mobile networks.

Today, this serves as a cautionary tale of what happens when regulatory hubris triumphs over policy humility, as Trace Mitchell and I explain in this new essay for  National Review Online entitled, “The Crystal Ball of Antitrust Regulators Is Cracked.” As we note:

There is no discernable end point to the process of entrepreneurial-driven change. In fact, it seems to be proliferating rapidly. To survive, even the most successful companies must be willing to quickly dispense with yesterday’s successful business plans, lest they be steamrolled by the relentless pace of technological change and ever-shifting consumer demands. It is easy to understand why some people find it hard to imagine a time when Amazon, Apple, Facebook, and Google won’t be quite as dominant as they are today. But it was equally challenging 20 years ago to imagine that those same companies could disrupt the giants of that era.

Hopefully today’s policymakers will have a little more patience and trust competition and continued technological innovation to bring us still more wonderful video choices.

[OC] Blockbuster Video US store locations between 1986 and 2019 from r/dataisbeautiful

On Monday, April 16th, the Technology Policy Institute hosted an event on “Facebook & Cambridge Analytica: Regulatory & Policy Implications.” I was invited to deliver some remarks on a panel that included Howard Beales of George Washington University, Stuart Ingis of Venable LLP, Josephine Wolff of the Rochester Institute of Technology, and Thomas Lenard of TPI, who moderated. I offered some thoughts about the potential trade-offs associated with treating Facebook like a regulated public utility. I wrote an essay here last week on that topic. My remarks at the event begin at the 13:45 mark of the video.

If there is one thing I have learned in almost 23 years of covering communications and media regulation it is this: No matter how well-intentioned, regulation often has unintended consequences that hurt the very consumers the rules are meant to protect. Case in point: “universal service” mandates that require a company to serve an entire area as a condition of offering service at all. The intention is noble: Get service out to everyone in the community, preferably at a very cheap rate. Alas, the result of mandating that result is clear: You get less competition, less investment, less innovation, and less consumer choice. And often you don’t even get everyone served.

Consider this Wall Street Journal article today, “Google Fiber Is Fast, but Is It Fair? The Company Provides Neighborhoods With Faster and Cheaper Service, but Are Some Being Left Behind?” In the story, Alistair Barr notes that:

U.S. policy long favored extending service to all. AT&T touted its “universal service” in advertisements more than a century ago. The concept was codified in a 1934 law requiring nationwide “wire and radio services” to reach everyone at “reasonable charges.” In exchange for wiring a community, telecommunications providers often gained a monopoly. Cities made similar deals with cable-TV providers beginning in the 1960s.

The problem, of course, is that while this model allowed for the slow spread of service to most communities, it came at a very steep cost: Monopoly and plain vanilla service. I documented this in a 1994 essay entitled, “Unnatural Monopoly: Critical Moments in the Development of the Bell System Monopoly.” As well-intentioned regulatory mandates started piling up, competition slowly disappeared. And a devil’s deal was eventually cut between regulators and AT&T to adopt the company’s advertising motto — “One Policy, One System, Universal Service” — as the de facto law of the land.

It took us almost a century to dig ourselves out of that mess and move towards telecommunications competition. Alas, we’re still living with the vestiges of this old regulatory mentality. Cities and counties across America still impose a wide variety of “universal service” regulatory mandates. Again, their intention is noble: They want everyone in their community served. You can’t blame them for that. But the result is still the same: Limited facilities-based competition and investment.

And so we return to today’s Wall Street Journal story about Google Fiber, which explains how local officials are finally starting to understand these realities. The story notes:

In 2011, Google struck a deal with authorities in both Kansas City, Kan., and Kansas City, Mo., to build the service based on customer demand. City officials say they didn’t push hard for universal coverage because they thought faster Internet service would boost the local economy and they were competing against so many other cities. “The main point was to win and bring that infrastructure to our city,” said Rick Usher, assistant city manager of Kansas City, Mo. As phone and cable companies slowed their own expansion plans, more cities allowed the selective approach.

Google’s ‘build-to-demand’ model is catching on because it produces results: More infrastructure investment, innovation, and competition. Traditional telecom and broadband operators are prepared to step up investment, too, when the incentives are right:

Verizon was required by cities and some state laws to build and offer its FiOS service widely across cities. It stopped expanding to new cities in 2010; to date, it has spent more than $23 billion on the FiOS rollout. Chief Financial Officer Fran Shammo said in March that the company wouldn’t expand to additional markets until FiOS had “finally returned its cost of capital.” If Verizon resumes expansion, the company would consider Google’s build-to-demand model because it has the potential to be more profitable, said Chris Levendos, a Verizon executive overseeing the FiOS build-out in Manhattan. Others are doing just that. AT&T said in April it would offer Internet speeds of up to one gigabit in as many as 100 cities. It is building to demand and working with local authorities to reduce construction costs, the company said. Tuesday, it said it would bring the high-speed service to Cupertino, Calif., close to Google’s headquarters. This approach “starts to make this business model look quite attractive,” John Stankey, AT&T’s chief strategy officer, said at an investor conference on Aug. 13.

Again, when you get the incentives right and give investors and innovators a green light, they will seize the opportunity. And that’s even true — actually, it is especially true — for high fixed-cost investments like fiber networks.

But wait, aren’t there some pockets of the population that will fall through the cracks under this alternative arrangement? In the short-term, potentially yes. But the right answer to that “digital divide” problem is never to restrict short-term investment and innovation opportunities just because you think you have a better, more “well intentioned” plan. That is the crucial mistake policymakers made in the past. Their desire to get everyone served at the exact same time with the exact same plain vanilla service meant we got sub-optimal technologies and stagnant markets with little hope of any new innovation or investment over the long-haul.

This is how “universal service” consistently fails us. Universal service sells us short. It sells human ingenuity short. The logic that motivates universal service regulation is that: ‘Well, this is about the best we can do. Let’s just get everyone some basic level of service and that will be just and good.’  Can you imagine if we would have applied this logic to other major markets and technologies?!

But what about the under-served communities? First, when you allow new innovation in networks, you never know how or where they might spread next. If you have more competitors offering unique networks architectures and services, there is a very good chance that entrepreneurial minds will figure out how to push out the boundaries of what is possible, especially in terms of how the service is delivered.

Consider this: Back in the old days, did it really make sense to try to stretch a thin copper wire way, way out into the middle of every valley, desert, farm field, and mountain? The myopic universal service mindset says: ‘Well, that’s all we had at the time.’ Perhaps for a time it really was. But how much quicker might we have seen some sort of alternative system if we hadn’t locked in those old assumptions as policy requirements? Is it impossible to believe that wireless technologies might have developed much more quickly if the incentives would have been right? Again, there was no reason for any innovators or investors to even consider the idea at a time when policymakers were mandating copper wires be stretched to every corner of the land, and as they were showering favored companies with subsidies to achieve that goal. That’s not something a new innovator could compete with, and so no one did. It would have been like policymakers saying we needed a “universal service” policy for cheap hamburgers for the masses and then showering McDonald’s with subsidies since they were the first one in many local markets who could deliver on that promise. Had we had such a universal cheap hamburger policy, do you think any other fast food places would have ever come to town and tried to compete against those subsidized burgers? Not likely.

The lesson for today’s policymakers is clear: Open up markets, relax regulatory burdens, eliminate discriminatory taxes and subsidies, and clear away other barriers to investment. Then see what happens. As the Google Fiber experience suggests, innovative minds can and will emerge to offer constructive solutions and slowly spread new networks and technologies.

OK, but won’t there still be some communities that are underserved, even with all that new innovation and investment. It’s certainly possible. And where those communities exist, some government action may be necessary to incentivize the spread of some sort of network to them, or even have the government build it for the community. I’m not opposed to that. (Have you ever driven through the hills of West Virginia or the mountains of rural Western states? Hard places to get wired networks out to!) I’m not very optimistic local governments will do a very good job of building sophisticated networks because they already have a horrible track record in this regard. But, again, I don’t oppose local action on this front if no other alternatives appear after a certain period of time.

But, again, the answer here is not crazy national and state-based universal service mandates that regulate everyone in every community as if they had the same problem. Let competition and innovation work its magic where it can and do not mess that up. Where it proves much harder for that network competition and innovation to take root, use smart incentives to get companies to build out their networks further, or offer alternative wireless infrastructure of some sort, or just have the government build the networks themselves. But we should always give competition and innovation the benefit of the doubt and see what happens first.

So, let me perfectly clear what I am saying here: GOOD INTENTIONS ARE NEVER ENOUGH! [And yes, I am using all caps because I am shouting!] The next time somebody starts mouthing something about how they have the moral high ground in these debates because their intentions are supposedly pure as the driven snow, ask them to show you results. Tell them you want evidence that their intentions have actually produced something concrete and positive for society. If their answer is, in essence, ‘Well, with our regulatory mandates we can at least get everybody some basic level of really crappy monopoly service,’ then tell them that they can take their good intentions and shove them. We can do better.

Jerry Ellig, senior research fellow at the Mercatus Center at George Mason University, discusses the the FCC’s lifeline assistance benefit funded through the Universal Service Fund (USF). The program, created in 1997, subsidizes phone services for low-income households. The USF is not funded through the federal budget, rather via a fee from monthly phone bills — reaching an all-time high of 17% of telecomm companies’ revenues last year. Ellig discusses the similarities between the USF fee and a tax, how the fee fluctuates, how subsidies to the telecomm industry have boomed in recent years, and how to curb the waste, fraud and abuse that comes as a result of the lifeline assistance benefit.

Download

Related Links

• Jerry Ellig’s Biography Mercatus Center
• Benefits, Costs and other Important Stuff-Demystifying Regulatory Analysis Ellig, Mercatus Center
• The Future of Regulation Ellig, Pepperdine University School of Public Policy

Ian Brown and Christopher T. Marsden’s new book, Regulating Code: Good Governance and Better Regulation in the Information Age, will go down as one of the most important Internet policy books of 2013 for two reasons. First, their book offers an excellent overview of how Internet regulation has unfolded on five different fronts: privacy and data protection; copyright; content censorship; social networks and user-generated content issues; and net neutrality regulation. They craft detailed case studies that incorporate important insights about how countries across the globe are dealing with these issues. Second, the authors endorse a specific normative approach to Net governance that they argue is taking hold across these policy arenas. They call their preferred policy paradigm “prosumer law” and it envisions an active role for governments, which they think should pursue “smarter regulation” of code.

In terms of organization, Brown and Marsden’s book follows the same format found in Milton Mueller’s important 2010 book Networks and States: The Global Politics of Internet Governance; both books feature meaty case studies in the middle bookended by chapters that endorse a specific approach to Internet policymaking. (Incidentally, both books were published by MIT Press.) And, also like Mueller’s book, Brown and Marsden’s Regulating Code does a somewhat better job using case studies to explore the forces shaping Internet policy across the globe than it does making the normative case for their preferred approach to these issues.

Thus, for most readers, the primary benefit of reading either book will be to see how the respective authors develop rich portraits of the institutional political economy surrounding various Internet policy issues over the past 10 to 15 years. In fact, of all the books I have read and reviewed in recent years, I cannot think of two titles that have done a better job developing detailed case studies for such a diverse set of issues. For that reason alone, both texts are important resources for those studying ongoing Internet policy developments.

That’s not to say that both books don’t also make a solid case for their preferred policy paradigms, it’s just that the normative elements of the texts are over-shadowed by the excellent case studies. As a result, readers are left wanting more detail about what their respective policy paradigms would (or should) mean in practice. Regardless, in the remainder of this review, I’ll discuss Brown and Marsden’s normative approach to digital policy and contrast it with Mueller’s since they stand in stark contrast and help frame the policy battles to come on this front.

Governing Cyberspace: Mueller vs. Brown & Marsden

Mueller’s normative goal in Networks and States was to breathe new life into the old cyber-libertarian philosophy that was more prevalent during the Net’s founding era but which has lost favor in recent years. He made the case for a “cyberliberty” movement rooted in what he described as a “denationalized liberalism” vision of Net governance. He argued that “we need to find ways to translate classical liberal rights and freedoms into a governance framework suitable for the global Internet. There can be no cyberliberty without a political movement to define, defend, and institutionalize individual rights and freedoms on a transnational scale.”

I wholeheartedly endorsed that vision in my review of Mueller’s book, even if he was a bit short on the details of how to bring it about. But it is useful to keep Mueller’s paradigm in mind because it provides a nice contrast with the approach Brown and Marsden advocate, which is quite different.

Generally speaking, Brown and Marsden reject most forms of “Internet exceptionalism” and certainly reject the sort of “cyberliberty” ethos that Mueller and I embrace. They instead endorse a fairly broad role for governments in ordering the affairs of cyberspace. In their self-described “prosumer” paradigm, the State is generally viewed as benevolent actor, well-positioned to guide the course of code development toward supposedly more enlightened ends.

Consistent with the strong focus on European policymaking found throughout the book, the authors are quite enamored with the “co-regulatory” models that have become increasing prevalent across the continent. Like many other scholars and policy advocates today, they occasionally call for “multi-stakeholderism” as a solution but they do not necessarily mean the sort of truly voluntary, bottom-up multi-stakeholderism of the Net’s early days. Rather, they are usually thinking of multi-stakeholderism as what is essentially pluralistic politics; it’s the government setting the table, inviting the stakeholders to it, and then guiding (or at least “nudging”) policy along the way. “We are convinced that fudging with nudges needs to be reinforced with the reality of regulation and coregulation, in order to enable prosumers to maximize their potential on the broadband Internet,” they say. (p. 187)

Meet the New Boss, Same as the Old Boss?

Thus, despite the new gloss, their “prosumer law” paradigm ends up sounding quite a bit like a rehash of traditional “public interest” law and common carrier regulation, albeit with a new appreciation of just how dynamics markets built on code can be. Indeed, Brown and Marsden repeatedly acknowledge how often law and regulation fails to keep pace with the rapid evolution of digital technology. “Code changes quickly, user adoption more slowly, legal contracting and judicial adaptation to new technologies slower yet, and regulation through legislation slowest of all,” they correctly note (p. xv). This reflects what Larry Downes refers to as the most fundamental “law of disruption” of the digital age: “technology changes exponentially, but social, economic, and legal systems change incrementally.”

At the end of the day, however, that insight doesn’t seem to inform Brown and Marsden’s policy prescriptions all that much. Theirs is a world in which policy tinkering errors will apparently be corrected promptly and efficiently by still more policy tinkering, or “smarter regulation.” Moreover, like many other Internet policy scholars today, they don’t mind regulatory interventions that come early and often since they believe that will help regulators get out ahead of the technological curve and steer markets in preferred directions. “If regulators fail to address regulatory objects at first, then the regulatory object can grow until its technique overwhelms the regulator,” they say (p. 31).

This is the same mentality that is often on display in Tim Wu’s work, which I have been quite critical of here and elsewhere. For example, Wu has advocated informal “agency threats” and the use of “threat regimes” to accomplish policy goals that prove difficult to steer though the formal democratic rulemaking process. As part of his “defense of regulatory threats in particular contexts,” Wu stresses the importance of regulators taking control of fast-moving tech markets early in their life cycles. “Threat regimes,” Wu argues, “are best justified when the industry is undergoing rapid change — under conditions of ‘high uncertainty.’ Highly informal regimes are most useful, that is, when the agency faces a problem in an environment in which facts are highly unclear and evolving. Examples include periods surrounding a newly invented technology or business model, or a practice about which little is known,” Wu concludes.

This is essentially where most of the “co-regulation” schemes that Brown and Marsden favor would take us: Code regulators would take an active role in shaping the evolution of digital technologies and markets early in its life cycle. What are the preferred regulatory mechanisms? Like Wu and many other cyberlaw professors today, Brown and Marsden favor robust interconnection and interoperability mandates bolstered by antitrust actions as well. And, again, they aren’t willing to wait around and let the courts adjudicate these issues in an ex post fashion. “Essential facilities law is a very poor substitute for the active role of prosumer law that we advocate, especially in its Chicago school minimalist phase” (p. 185). In other words, we shouldn’t wait for someone to bring a case and litigate it through the courts when preemptive, proactive regulatory interventions can sagaciously steer us to a superior end.

More specifically, they propose that “competition authorities should impose ex ante interoperability requirements upon dominant social utilities… to minimize network barriers” (p. 190) and they model this on traditional regulatory schemes such as must-carry obligations, API interface disclosure requirements, and other interconnection mandates (such as those imposed on AOL/Time Warner a decade ago to alleviate fears about instant messaging dominance). They also note that “Effective, scalable state regulation often depends on the recruitment of intermediaries as enforcers” to help achieve various policy objectives (p. 170).

The Problem with Interoperability Über Alles

So, in essence, the Brown-Marsden Internet policy paradigm might be thought of as interoperability über alles. Interoperability and interconnection in pursuit of more “open” and “neutral” systems is generally considered an unalloyed good and most everything else is subservient to this objective.

This is a serious policy error and one that I address in great detail in my absurdly long review of John Palfrey and Urs Gasser’s Interop: The Promise and Perils of Highly Interconnected Systems. I’m not going to repeat all 6,500 words of that critique here when you can just click back and read it, but here’s the high level summary: There is no such thing as “optimal interoperability” that can be determined in an a priori fashion. Ongoing marketplace experimentation with technical standards, modes of information production and dissemination, and interoperable information systems, is almost always preferable to the artificial foreclosure of this dynamic process through state action. The former allows for better learning and coping mechanisms to develop while also incentivizing the spontaneous, natural evolution of the market and market responses. The latter (regulatory foreclosure of experimentation) limits that potential.

More importantly, when interoperability is treated as sacrosanct and forcibly imposed through top-down regulatory schemes, it will often have many unintended consequences and costs. It can even lock in existing market power and market structures by encouraging users and companies to flock to a single platform instead of trying to innovate around it. (Go back and take a look at how the “Kingsbury Commitment” — the interconnection deal from the early days of the U.S. telecom system — actually allowed AT&T to gain greater control over the industry instead of assisting independent operators.)

Citing Palfrey and Gasser, Brown and Marsden do note that “mandated interoperability is neither necessary in all cases nor necessarily desirable” (p. 32), but they don’t spend as much time as Palfrey and Gasser itemizing these trade-offs and the potential downsides of some interoperability mandates. But what frustrates me about both books is the almost quasi-religious reverence accorded to interoperability and open standards when such faith is simply not warranted after historical experience is taken into consideration.

Plenty of the best forms of digital innovation today are due to a lack of interoperability and openness. Proprietary systems have produced some of the most exciting devices (iPhone) and content (video games) of modern times. Then again, voluntary interoperable and “open” services and devices thrive, too. The key point here — and one that I develop in far greater detail in my book chapter, “The Case for Internet Optimism, Part 2 – Saving the Net From Its Supporters” — is that the market for digital services is working marvelously and providing us with choices of many different flavors. Innovation continues to unfold rapidly in both directions along the “open” vs. “closed” continuum. (Here are 30 more essays I have written on this topic if you need more proof.)

Generally speaking, we should avoid mandatory interop and openness solutions. We should instead push those approaches and solutions in a truly voluntary, bottom-up fashion. And, more importantly, we should be pushing for outside-the-box solutions of the Schumpeterian (creative destruction / disruptive innovation) variety instead of surrendering so quickly on competition through forced sharing mandates.

The Case for Patience & Policy Restraint

But Brown and Marsden clearly do not subscribe to that sort of Schumpeterian thinking. They think most code markets tip and lock into monopoly in fairly short order and that only wise interventions can rectify that. For example, they claim that Facebook’s “monopoly is now durable,” which will certainly come as a big surprise to the millions of us who do not use it all. And the story of MySpace’s rapid rise and equally precipitous fall has little bearing on this story, they argue.

But, no matter how you define the “social networking market,” here are two facts about it: First, it is still very, very young. It’s only about a decade old. Second, in that short period of time, we have already witnessed the entire first generation of players fall by the wayside. While the second generation is currently dominated by Facebook, it is by no means alone. Again, millions like me don’t use it at all and get along just fine with other “social networking” technologies, including Twitter, LinkedIn, Google+, and even older tech like email, SMS, and yes, phone calls! Accusations of “monopoly” in this space strain credulity in the extreme. I invite you to read my Mercatus working paper, “The Perils of Classifying Social Media Platforms as Public Utilities,” for a more thorough debunking of this logic. (Note: The final version of that paper will be published in the CommLaw Conspectus shortly.)

Such facts should have a bearing on the debate about regulatory interventions. We continue to witness the power of Schumpeterian rivalry as new and existing players battle in a race for the prize of market power. Brown and Marsden fear that the race is already over in many sectors and that it is time to throw in the towel and get busy regulating. But when I look around at the information technology marketplace today, I am astonished just how radically different it looks from even just a few years ago, and not just in the social media market. I have written extensively about the smartphone marketplace, where innovation continues at a frantic pace. As I noted in my essay here on “Smartphones & Schumpeter,” it’s hard to remember now, but just 6 short years ago:

• The iPhone and Android had not yet landed.
• Most of the best-selling phones of 2007 were made by Nokia and Motorola.
• Feature phones still dominated the market; smartphones were still a luxury (and a clunky luxury at that).
• There were no app stores and what “apps” did exist were mostly proprietary and device or carrier-specific; and,
• There was no 4G service.

It’s also easy to forget just how many market analysts and policy wonks were making absurd predictions at the time about how the telecom operators at the time had so much market power that they would crush new innovation without regulation. Instead, in very short order, the market was completely upended in a way that mobile providers never saw coming. There was a huge shift in relative market power flowing from the core of these markets to the fringes, especially to Apple, which wasn’t even a player in that space before the launch of the iPhone.

As I noted in concluding that piece last year, these facts should lead us to believe that this is a healthy, dynamic marketplace in action. Not even Schumpeter could have imagined creative destruction on this scale. (Just look as BlackBerry). But much the same could be said of many other sectors of the information economy.  While it is certainly true that many large players exist, we continue to see a healthy amount of churn in these markets and an astonishing amount of technological innovation.

Public Choice Insights: What History Tells Us

One would hope these realities would have a greater bearing on the policy prescriptions suggested by analysts like Brown and Marsden, but they don’t seem to. Instead, the attitude on display here is that governments can, generally speaking, act wisely and nudge efficiently to correct short-term market hiccups and set us on a better course. But there are strong reasons to question that presumption.

Specifically, what I found most regrettable about Brown and Marsden’s book was the way — like all too many books in this field these days — the authors briefly introduce “public choice” insights and concerns only to summarily dismiss them as unfounded or overblown. (See my review of Brett Frischmann’s book, Infrastructure: The Social Value of Shared Resources for a more extended discussion of this problem as it pertains to discussions about not just infrastructure regulation by the regulation of all complex industries and technologies.)

Brown and Marsden make it clear that their intentions are pure and that their methods would incorporate the lessons of the past, but they aren’t very interested in dwelling on the long, lamentable history of regulatory failures and capture in the communications and media policy sectors. They do note the dangers of a growing “security-industrial complex” and argue that “commercial actors dominate technical actors in policy debates.” They also say that the “potential for capture by regulated interests, especially large corporate lobbies, is an essential insight” that informs their approach. The problem is that it really doesn’t. They largely ignore those insights and instead imply that, to the extent this is a problem at all, we can build a better breed of bureaucrats going forward who will craft “smarter regulation” that is immune from such pressures. Or, they claim that “multi-stakeholderism” — again, the new, more activist and government-influenced conception of it — can overcome these public choice problems.

A better understanding of power politics that is informed by the wisdom of the ages would instead counsel that minimizing the scope of politicization of technology markets is the better remedy. Capture and cronyism in communications and media markets has always grown in direct proportion to the overall scope of law governing those sectors. (I invite you to read all the troubling examples of this that Brent Skorup and I have documented in our new 72-page working paper, “A History of Cronyism and Capture in the Information Technology Sector.” Warning: It makes for miserable reading but proves beyond any doubt that there is something to public choice concerns.)

To be clear, it’s not that I believe that “market failures” or “code failures” never occur, rather, as I noted in this debate with Larry Lessig, it’s that such problems are typically “better addressed by voluntary, spontaneous, bottom-up, marketplace responses than by coerced, top-down, governmental solutions. Moreover, the decisive advantage of the market-driven approach to correcting code failure comes down to the rapidity and nimbleness of those response(s).” It’s not just that traditional regulatory remedies cannot keep pace with code markets, it’s that those attempting to craft the remedies do not possess the requisite knowledge needed to know how to steer us down a superior path. (See my essay, “Antitrust & Innovation in the New Economy: The Problem with the Static Equilibrium Mindset,” for more on that point.)

Regardless, at a minimum, I expect scholars to take seriously the very real public choice problems at work in this arena. You cannot talk about the history of these sectors without acknowledging the horrifically anti-consumer policies that were often put in place at the request of one industry or another to shield themselves from disruptive innovation. No amount of wishful thinking about “prosumer” policies will change these grim political realities. Only by minimizing chances to politicize technology markets and decisions can we overcome these problems.

Conclusion

For those of us who prefer to focus on freeing code, Brown and Marsden’s Regulating Code is another reminder that liberty is increasingly a loser in Internet policy circles these days. Milton Mueller’s dream of decentralized, denationalized liberalism seems more and more unlikely as armies of policymakers, regulators, special interests, regulatory advocates, academics, and others all line up and plead for their pet interest or cause to be satisfied through pure power politics. No matter what you call it — fudging, nudging, coregulation, smart regulation, multistakeholderism, prosumer law, or whatever else, — there is no escaping the fact that we are witnessing the complete politicization of almost every facet of code creation and digital decisionmaking today.

Despite my deep reservations about a more politicized cyberspace, Brown and Marsden’s book is an important text because it is one of the most sophisticated articulations and defenses of it to date. Their book also helps us better understand the rapidly developing institutional political economy of Internet regulation in both broad and narrow policy contexts. Thus, it is worth your time and attention even if, like me, you are disheartened to be reading yet another Net policy book that ultimately endorses mandates over of markets as the primary modus operandi of the information age.

Additional Resources about the book:

• the official MIT Press website for Regulating Code
• shorter Brown & Marsden paper on “Prosumer Law” (via SSRN)
• Little Atoms podcast featuring Brown & Marsden discussing Regulating Code
• Ian Brown edited this beefy Research Handbook On Governance Of The Internet, which makes a nice complement to Regulating Code. It offers even more detailed case studies on the major issues featured in the book. A terrific resource (if you can afford it!)
• a video of Brown & Marsden discussing the book at the Oxford Internet Institute (also embedded below):

Other books you should read alongside “Regulating Code” (links are for my reviews of each):

• Milton Mueller’s Networks and States: The Global Politics of Internet Governance
• John Palfrey & Urs Gasser’s Interop: The Promise and Perils of Highly Interconnected Systems
• Rebecca MacKinnon’s Consent of the Networked: The Worldwide Struggle for Internet Freedom
• David G. Post’s In Search of Jefferson’s Moose: Notes on the State of Cyberspace
• Christopher Yoo’s The Dynamic Internet: How Technology, Users, and Businesses are Transforming the Network
• Larry Lessig’s Code (my 2-part exchange with Lessig upon Code’s 10^th anniversary: Part 1, Part 2)

I plan to write more about broadband competition and the impact of Google Fiber but in the meantime, there is a New York Times article on the subject that I’ll briefly address.

The author, Eduardo Porter, misdiagnoses why tiered pricing in broadband exists, giving readers the impression that only monopolies price discriminate:

That means that in most American neighborhoods, consumers are stuck with a broadband monopoly. And monopolies don’t strive to offer the best, cheapest service. Rather, they use speed as a tool to discriminate by price — coaxing consumers who are willing to pay for high-speed broadband into more costly and profitable tiers.

Consumer advocacy groups regularly–and wrongly–equate price discrimination with monopoly. Price discrimination–where firms price different customers different prices because of their willingness to pay–tells us nothing about the existence of monopoly (and little about market power). Firms lacking monopoly–in industries like airlines, clothing retail, movie theaters, and restaurants–use price discrimination. No one alleges monopoly in these industries, so I don’t know why the author makes this connection between monopoly and price discrimination. Had Porter thought about it, this paragraph makes little sense since even in the urban areas that have 2 or 3 high-speed broadband providers you still see tiered pricing. This should be a tip-off that tiered pricing does not arise from monopoly.

Porter makes another error, which I think just signals the sloppy reporting in this piece:

The preferred strategy seems to involve more cooperation than competition. In 2011, Verizon tried to cobble together agreements with the nation’s major cable firms to jointly market each others’ services — offering itself as the wireless complement to cable’s wireline plans. It was foiled only because the Justice Department slapped the deals down as anticompetitive.

As Gigi Sohn (who generally agrees with the author) points out on Twitter, this is not right either.

Great @nytimes piece on why US #broadband is mediocre: nytimes.com/2013/05/08/bus…Correction: DoJ did *not* block Verizon-cable spectrum deal

— Gigi Sohn (@gigibsohn) May 8, 2013

The agreements to jointly market others’ products were not in any meaningful sense “foiled.” Those agreements were approved with conditions, namely, that Verizon couldn’t market a cable company’s service where FiOS is available.

I don’t think these are minor nitpicks. The fact is, journalists and advocates regularly employ loose definitions of “monopoly,” often intentionally in order to increase the urgency to further some political end. And the portion about the Verizon deal gives readers the distinct impression that Verizon was doing something colluding and nefarious that was stopped by the DOJ, and that’s just not true.

The Mercatus Center at George Mason University has just released my new white paper, “The Perils of Classifying Social Media Platforms as Public Utilities.” [PDF] I first presented a draft of this paper last November at a Michigan State University conference on “The Governance of Social Media.” [Video of my panel here.]

In this paper, I note that to the extent public utility-style regulation has been debated within the Internet policy arena over the past decade, the focus has been almost entirely on the physical layer of the Internet. The question has been whether Internet service providers should be considered “essential facilities” or “natural monopolies” and regulated as public utilities. The debate over “net neutrality” regulation has been animated by such concerns.

While that debate still rages, the rhetoric of public utilities and essential facilities is increasingly creeping into policy discussions about other layers of the Internet, such as the search layer. More recently, there have been rumblings within academic and public policy circles regarding whether social media platforms, especially social networking sites, might also possess public utility characteristics. Presumably, such a classification would entail greater regulation of those sites’ structures and business practices.

Proponents of treating social media platforms as public utilities offer a variety of justifications for regulation. Amorphous “fairness” concerns animate many of these calls, but privacy and reputational concerns are also frequently mentioned as rationales for regulation. Proponents of regulation also sometimes invoke “social utility” or “social commons” arguments in defense of increased government oversight, even though these notions lack clear definition.

Social media platforms do not resemble traditional public utilities, however, and there are good reasons why policymakers should avoid a rush to regulate them as such. Treating these nascent digital services as regulated utilities would harm consumer welfare because public utility regulation has traditionally been the archenemy of innovation and competition. Furthermore, treating today’s leading social media providers as digital essential facilities threatens to convert “natural monopoly” or “essential facility” claims into self-fulfilling prophecies. Related proposals to mandate “API neutrality” or enforce a “Separations Principle” on integrated information platforms would be particularly problematic. Such regulation also threatens innovation and investment. Marketplace experimentation in search of sustainable business models should not be made illegal.

Remedies less onerous than regulation are available. Transparency and data-portability policies would solve many of the problems that concern critics, and numerous private empowerment solutions exist for those users concerned about their privacy on social media sites.

Finally, because social media are fundamentally tied up with the production and dissemination of speech and expression, First Amendment values are at stake, warranting heightened constitutional scrutiny of proposals for regulation. Social media providers should possess the editorial discretion to determine how their platforms are configured and what can appear on them.

This 63-page paper can be found on the Mercatus site here, on SSRN, or on Scribd.  I’ve also embedded it below in a Scribd reader. Eventually, a shorter version of this paper will appear as a chapter in a MIT Press book.

Social Networks as Public Utilities [Adam Thierer]

Over at his blog, our old TLF colleague Tim Lee has been discussing the AT&T – T-Mobile merger and the ways libertarians should think about antitrust more generally.  In his latest post, he pushes back against a brief comment I posted on a previous essay. You can head over to his site and read that exchange and then see my latest comment. But I thought I would also post it here for those interested.

____________

Tim… My thinking on antitrust is very much shaped by the choice between ex ante vs. ex post regulation. How much faith should we place in sector-specific regulators to get things right through preemptive, prophylactic regulation versus allowing things to play out and then — on the rare occasions when intolerable monopolies over essential goods develop — letting antitrust regulators devise a remedy?

More than any other economic value, I care about experimentation. I am completely under the sway of the Austrian School of thinking about markets and competition as an ongoing experiment, an evolutionary journey, a discovery process.  How are we to know if intolerable monopolies over essential goods will actually develop unless we let things play out?

As I argued in my critiques of the Lessig/Zittrain/Wu school of thinking, we need to be a bit more humble and have a little faith that ongoing experimentation and discovery will help us evolve into a better equilibrium. It’s during what some regard as a market’s darkest hour when some of the most exciting forms of disruptive technologies and innovation are developing. [I’ve elaborated more on this point in this lengthy discussion about Gary Reback’s recent book on antitrust.]

Viewed in that light, opting for ex post antitrust regulation, therefore, is an easy choice compared to the misguided micro-management associated with preemptive regulatory strikes.  The entire history of FCC common carriage regulation and “public interest” mandates teach us that. It also teaches how bureaucracies become hopeless entrenched, inefficient, and prone to capture.

Now, having said all that, it must be noted that antitrust law itself is a form of economic regulation and has its own set of problems. And you’re correct to note that there “has long been a tension in the libertarian approach to antitrust law.” I can appreciate many of the arguments made by antitrust abolitionists. (There’s a certain madness to antitrust law best captured by R.W. Grant’s classic story, “Tom Smith and His Incredible Bread Machine.”) Nonetheless, it’s important to be realistic and acknowledge that antitrust likely isn’t going away and that perhaps it shouldn’t if it’s existence can help us avoid what I regard as the nightmare scenario I described above: preemptive, sectoral, technology-specific, command-and-control oriented regulation.

Of course, some antitrust law can be preemptive without having all that baggage.  And that’s essentially what I think you are endorsing here for AT&T – T-Mobile.  You want the feds to “just say No” and be done with it. You’re assuming that’s sensible and efficient solution when I wouldn’t regard either of those things as a given.  Again, I’d like to let experimentation continue and see how things turn out.

I also do not understand your conclusion that “The federal government has a responsibility to clean up its own messes, as it did with the Ma Bell breakup in 1984, and it will hopefully do by blocking the AT&T/T-Mobile merger.”  These two situations are completely unique. As I noted in that old history of how the original AT&T monopoly came about, there was nothing “natural” about it. It was government guided at almost every junction. Not so for the new AT&T. While we don’t have a perfectly free market in communications services today, AT&T competes more aggressively — and is generally more antagonistic toward government intervention — than it ever has been before.  Moreover, having lived through the tail end of the old Bell System, I can remember the days of having to use a crappy rotary dial phone in just one color and being told to be happy about it.  Today, by contrast, competition is robust and innovation is thriving. I’ve never used an AT&T phone and I don’t plan to because of the many excellent smartphone alternatives at my disposal.

It’s a new world and one that keeps getting better regardless of who owns what.  Have a little faith, my friend.

But give me a call if things get bad. You have my Skype number after all!

I’m going to close out my series of essays about Tim Wu’s new book, The Master Switch: The Rise and Fall of Information Empires, by discussing his proposed solutions.  In the first five essays in the series, [1, 2, 3, 4, 5] I’ve critiqued Wu’s look at information history as well as his use of terms like “market failure,” “laissez-faire” and “open” vs. “closed.”  I argued there’s a great deal of over-simplification, even outright distortion, in his use of those terms throughout the book.

Anyway, let’s run through the basics of the book once more before getting to Wu’s proposed solutions.  By my reading of The Master Switch, Wu’s argument essentially goes something like this:

• Information industries go through cycles. After a period of “openness” and competition, they tend to drift toward “closed,” corporate-controlled, anti-consumer models and outcomes.
• The resulting “monopolists” then block much innovation, competition, and free speech.
• Consequently, “the purely economic laissez-faire approach… is no longer feasible.”
• Moreover, information industries are more important than all others (“information industries… can never be properly understood as ‘normal’ industries”) and even traditional forms of regulation, including antitrust, “are clearly inadequate for the regulation of information industries.” (p. 303).
• Thus, special rules should apply to information-related sectors of our economy.

Again, I’ve challenged some of these assertions in my previous essays, specifically, Wu’s incomplete history of cycles and the fact that he greatly underplays the role of governments in “locking-in” sub-optimal market structures or, worse yet, creating those structures through misguided public policies or regulatory capture.  Wu discusses some of those factors in his book, but he tends to regard them as secondary to the inquiry, whereas I believe they are crucial to understanding how most “closed” or anti-competitive scenarios develop or endure. Instead, Wu simplistically suggests that “the purely economic laissez-faire approach… is no longer feasible,” even though no such state of affairs has ever existed within communications or media industries. They have been subjected to varying levels of indirect influence or direct control almost since their inception.

Regardless, what does Tim Wu want done about the problems he has (mis-)diagnosed?

What Wu Wants: A “Constitutional” Approach to Private Regulation

Broadly speaking, Wu wants to counter what he regards as “the danger of private power,” “the Lockean sanctification of private property,” and the fact that “American economic life [has] been built mostly on freewheeling capitalism.” (p. 300)  More specifically, he wants to end the “cycle” he describes of markets moving from supposedly open to closed.

To do so, he proposes what he calls a “constitutional” approach to private marketplace regulation.  In reality, it would be a massive, unprecedented, and highly destructive information sector industrial policy that would substitute the Rule of Man for the Rule of Law.  But let’s hear how Wu describes it:

What I propose is not a regulatory approach but rather a constitutional approach to the information economy. By that I mean a regime whose goal is to constrain and divide all power that derives from the control of information. Specifically, what we need is something I would call a Separations Principle for the information economy. A Separations Principle would mean the creation of a salutary distance between each of the major functions or layers in the information economy. It would mean that those who develop information, those who control the network infrastructure on which it travels, and those who control the tools or venues of access must be kept apart from one another. At the same time, Separations Principle stipulates one other necessity: that the government also keep its distance and not intervene in the market to favor any technology, network monopoly, or integration of the major functions of an information industry.”  (p. 302, emphasis in original)

Wu calls this a “constitutional approach” because he models it on the separations of power found in the U.S. Constitution, such as the separation of church and State, as well as the separation of powers between branches of government.  Wu makes a few additional assertions:

• “[T]he Separations Principle accepts in advance that some of the benefits of concentration and unified action will be sacrificed, even in ways that may seem painful or costly.” (p. 305)
• But Wu believes that pain or cost is worth it because of the “corrupting effect of vertically integrated power.” (p. 305)
• “You cannot serve two masters, and the objectives of creating information are often at odds with those of disseminating it,” he says. (p. 305)
• Specifically, he claims the Separations Principle would better protect free speech and entrepreneurial freedom. On the former: “It is a recognition that the disposition of firms and industries is, if anything, more critical than the actions of the state in controlling who gets heard.” On the latter: “The Separations Principle protects entrepreneurial freedom by preventing stagnation and repression of business innovation, especially with the help of the state.” (p. 306)

There’s a lot to unpack here including Wu’s stunning claim that his Separations Principle doesn’t represent a regulatory regime, as well as his rather incredible belief that government meddling and machinations could be kept in check under this regime.

First, however, Wu deserves credit for coming clean about just how radical his proposal is.

Constitutional Limits on Governments vs. Private Actors

Wu admits that “It would be quite radical today even to contemplate imposing on the economy the kind of safeguards that the Constitution places on the political system.” (p. 301)  A few pages later he notes that “The Separations Principle… requires a certain breadth and ambition in its application.” (p. 308)

I’m glad Wu was willing to at least acknowledge the radicalness of his proposal.  But, as he is prone to do throughout the book, he raises an important potential objection only to quickly walk away from it.  In this case, however, it’s completely understandable why Wu wouldn’t want to continue this inquiry: His proposal really is “quite radical” since it is completely at odds with America’s constitutional heritage of individual liberty and limited government.

Let’s go back to Civics 101.  We require that governments live under certain constraints and the Rule of Law because we recognize that governments possess the unique ability to fine, punish, and imprison citizens.  Moreover, escape from government’s tentacles is difficult, if not impossible. A constitutional system is required, therefore, to limit government’s role over our lives and the economy.

By contrast, we do not impose similar constraints on individuals — or on individuals when they work collaboratively in organizations or corporations — primarily because we believe there should be a presumption of liberty in most human affairs.  Freedom is the default position.  We value freedom because it allows humans to exercise their free will and live a life of their own choosing — and that includes the freedom to pursue happiness by making money in a business venture.  Our nation’s founders saw the wisdom in this even before we had a grand historical clash between communism and capitalist systems.  From that experience, however, we now have undisputed proof that social and economic freedoms are closely linked, and that when humans are free, they prosper.  The other reason we default to freedom for private individuals and organizations is because the possibility of “escape” exists from undesirable social or economic situations.

Wu doesn’t bother slowing down to appreciate these distinctions. He gives occasional lip service to the dangers of excessive government power:

Again and again in the histories I have recounted, the state has shown itself an inferior arbiter of what is good for the information industries. The federal government’s role in radio and television from the 1920s through the 1960s, for instance, was nothing short of a disgrace…. Government’s tendency to protect large market players amounts to an illegitimate complicity … [particularly its] sense of obligation to protect big industries irrespective of their having become uncompetitive. (p. 308)

Quite right. Yet, as I pointed out in this earlier essay, there’s seemingly never any serious lesson to be drawn from that conclusion.  Wu just marches right along in his narrative and ignores that “disgrace” and its relationship to “the cycle.”

The crucial point here is that Wu doesn’t fully appreciate the qualitative difference between State power and corporate power.  Instead — consistent with many “media access” theorists who came before him — he largely equates those forms of power or even makes private power out to be the more significant threat to personal liberties and freedom of speech.  Again, we hear statements like “the disposition of firms and industries is, if anything, more critical than the actions of the state in controlling who gets heard.”

The problem with this is that (a) history shows it’s simply not true and (b) the corrective remedies such a theory counsels would require a massive enhancement of State power to counter the supposed threats of private power, which (c) would create an even bigger threat to human liberty since only the State can fine, imprison, and truly foreclose speech.

So, I’ll stick with traditional “constitutionalism,” thank you very much!  Tim Wu’s “constitutionalism,” by contrast, is the Rule of Man, not the Rule of Law.  Specifically, it would be the rule of a handful of unelected men (and women) down at the Federal Communications Commission, the Federal Trade Commission, or whatever other regulatory bureaucracies Wu would empower under this approach.   And, as we’ll see next, that approach is truly audacious in its scope.

Practical Considerations: An Unprecedented Information Control Regime

OK, let’s forget about all that philosophical and legalistic mumbo-jumbo.  After all, most people these days don’t really give a hoot about constitutional limitations or the first principles associated with our nation’s founding. Let us instead explore the Bold New World of information regulation that Wu wants imposed on the high-tech economy and consider its complexity and costs.  Wu is a bit short on details about how policymakers should go about constructing a “Separations” regime, or how it will work in practice, but he does suggest that Net neutrality regulation and expanded antitrust oversight are at least two of the core elements. But he says that will not be enough.

Despite the fact that Wu admits the FCC “has on occasion let itself become the enemy of the good, effectively a tool of repression,” Wu seems to suggest the agency will continue to have “day-to-day authority over the information industries.” (p. 309) Of course, the FCC’s role is currently limited mostly to older sectors of the information economy, but Wu seems to suggest that role should be expanded considerably.  Yet, FCC oversight isn’t enough either, Wu says.  He argues that “what is needed is not only an FCC institutionally committed to a Separations Principle but also a structural arrangement to guard against such deviations, including congressional oversight as well as attention and corrections from other branches of government.”

Here the “breadth and ambition in its application” associated with Wu’s Separations Principal becomes more apparent. We are talking about layers upon layers of regulation. More importantly, the key attribute of Wu’s Separations Principle is that it is preemptive and prophylactic in character.  He explicitly rejects the idea that marketplace experimentation should be allowed and that ex post administrative proceedings or antitrust enforcement will be good enough. “[T]here is the problem of taking an after-the-fact approach to a commodity so vital to our basic liberties,” he argues. (p. 204) Thus, Wu’s approach represent a return to the sort of anticipatory, “Mother, May I” regulatory regime America was supposed to be turning away from following the passage of the Telecommunications Act of 1996.

What’s most bizarre about Wu’s call for such a preemptive “Separations” approach is his insistence that it is not a regulatory approach.  It’s hard to know whether this is an astonishing bit of hubris or just plain naiveté.  I hate to suggest it, but I think Wu is perfectly aware of just how regulatory his system would be in practice; he just doesn’t want to admit it.  After all, for there to be “separations” of various segments of the information sector, someone would need to determine who and what belongs in which bucket.  Wu suggests we’ll need at least three buckets. To repeat, he says his Separations Principle “would mean that those who develop information, those who control the network infrastructure on which it travels, and those who control the tools or venues of access must be kept apart from one another.”  Let’s put some labels on these buckets:

• Bucket #1: Information Creators
• Bucket #2: Information Distributors
• Bucket #3: Information Hardware Makers

These would essentially become three of the new “titles” (or regulatory sections) of a forthcoming “Information Economy Separations Act.” (I’m assuming Wu understands it would take an act of Congress to implement this sweeping regime, although he never makes that clear.  Or perhaps he would just prefer the FCC “reclassify” the entire information economy by regulatory fiat? Who knows.  Again, he never really sweats the details on this important point.)

Regardless, the problem with these conceptually neat classifications is that don’t conform to our fast-paced, highly dynamic Information Age economy.  There is a fluidity of innovation and market activity that Wu utterly fails to appreciate.  I suppose it’d be easy to throw a couple of players into these buckets and tell them to stay put.  We could tell T-Mobile, for example, that they could be a wireless information distributor and absolutely nothing else; we could tell Discovery Networks, they could be a content creator and absolutely nothing else; and we could tell Intel, you can be a chip maker and absolutely nothing else.

But not every existing information sector actor or technology is so neatly compartmentalized. Moreover, Wu’s framework also begs the question: Would firms that currently have integrated operations and investments in multiple fields be forced to divest control of various operations to come in line with Wu’s Separations Principle?   Here are a few scenarios to consider (and with each example, ask yourself the question: What’s the harm here to would justify the sort of “separations” regime Wu proposes?):

• Cox Enterprises has a wide variety of content and distribution properties including: broadband services, cable TV channels and distribution systems, newspapers, radio stations, advertising and direct mail divisions, and AutoTrader.com.  How many pieces does the firm need to be split into to comply with Wu’s new “Separations” regime?
• Should an ISP be allowed to develop or offer (or directly integrate into their service) free anti-virus software and parental control technologies since that’s not part of the underlying distribution service? Nearly every major ISP does so already today.
• Even though the experiment was ultimately a failure, should Google have been allowed to break out of the search market and give the handheld device business a shot with the Nexus One?  Likewise, should Google be allowed to continue its experiment with local fiber or wi-fi networks even though it is so clearly outside their traditional line of business?  Finally, should the FCC have disallowed Google’s bid in the 700 MHz spectrum auction back in 2008 since it would have meant the firm was formally entering the information distribution business?
• Which bucket is Microsoft in as a traditional OS and software provider?  Regardless, was it a mistake to allow them to jump into the video game console marketplace with the Xbox many years ago?   Should MS have been forbidden from creating the Zune since it too was a digital device outside of Microsoft’s core field?  Should MS be allowed to have a content division that develops games or other content for its operating systems even though they might be considered two separate information markets?
• Sony produces movie and video game content but also develops hardware (video game consoles, televisions, music players, phones, etc.) on which that content can be played. Should that be illegal? Would they have to divest some of these divisions once Wu’s system went into effect?
• Apple is the ultimate example of an information hardware manufacturer that has not only diversified its hardware offerings from PCs to iPods, iPhones and iPads, but also become a (if not the) leading information distributor for digital music, movies, television shows, podcasts, books and audiobooks through iTunes.  The company’s Apps store also makes it a key distributor of software.  What bucket is it in?
• Should Amazon be allowed to be both the biggest online marketplace as well as the manufacturer of a device (the Kindle) that offers access to that store?

I could go on and on, but here’s the crucial point: Creating firewalls between the buckets Wu proposes would be a nightmare and would entail incessant regulatory interventions to make sure the walls weren’t breached.  As suggested above, the very act of regulatory line-drawing would be mind-bogglingly complex.  More importantly, each new information sector innovation would suddenly be subjected to a regulatory classification proceeding.

Wu is essentially saying there are few integrative efficiencies or other economic benefits associated with cross-sector deals or cross-platform technological developments.  Again, he dismisses the notion with one line: “[T]he Separations Principle accepts in advance that some of the benefits of concentration and unified action will be sacrificed, even in ways that may seem painful or costly.” (p. 305)  Well, that’s nice… except that this regulatory system would upend the U.S. information economy as we know it!  His Separations Principle is an unprecedented regulatory wrecking ball that would do untold destruction to the American economy in the name of creating a system of information apartheid. Wu also completely ignores the litigation nightmare that would ensue once the government started forcing the divestiture of various lines of business.  After all, many companies would likely have valid “takings” claims here under the Fifth Amendment.

But even if we could get beyond all that, we’d have to consider how this regime would work going forward.  Let’s consider a hypothetical example.  Virtual reality is an emerging field of our information economy that promises to experience rapid growth in coming years.  A number of companies are currently developing content and devices that will help bring a veritable Star Trek holodeck experience to our living rooms sometime very soon.  The market is still in a great deal of flux and it remains unclear which technologies will prevail or which developers and device makers will prosper.  One thing we know for certain, however: it’s a hugely complex and expensive undertaking.  VR technologies aren’t like creating a YouTube video of your cat playing a piano. There are significant costs associated with developing VR content and devices. Distributing VR bits over networks will, no doubt, be quite complicated as well.  Now, imagine two scenarios (which, for all I know, may already be playing out in the marketplace today):

• Scenario 1: A partnership is announced between some cutting-edge VR companies that have different core competencies in this field.  One of the companies is developing holographic imaging devices to project immersive environments directly into your living room or workspace.  Another of the partners is developing games that would take advantage of those new holographic imaging innovations.  And a third partner in the deal is developing software that will help manage the real-time, high-bandwidth flow of VR bits across broadband lines.  Under Wu’s Separations Principle, would this deal be illegal?
• Scenario 2: All of the activities discussed above are being handled by a single, integrated firm.  Is that illegal under Wu’s Separations Principle?

Now, it would be easy to dismiss this scenario with a casual wave of the hand and a ‘we’ll-figure-it-out-later’ attitude.  But consider the fact that deals and developments like this are happening every single minute of the day our modern information economy.  One wonders how regulators would even be expected to keep track of it all.  And they would have to keep track of it all because, again, Wu’s Separations Principle is preemptive and prophylactic in character.  His regulatory regime is going to have to come to grips with that fact that innovation happens. Markets evolve. People want to experiment and do bold new things. They tinker. They develop. They pitch. They deal. And so on.  As that dynamic process unfolds every day across the high-tech economy, Wu’s Separations Principle will be put to the test and necessitate a regulatory proceeding of some sort to determine what is permitted and what is verboten.  Meanwhile, the very uncertainty associated with Wu’s regime would delay and discourage investment in the field and formation of the partnership/venture necessary to successfully bring VR to market

Astonishingly, however, Wu argues that “a Separations regime would take much of the guesswork and impressionism, and indeed the influence trafficking, out of the oversight of information industries.” (p. 307) That’s a doozy of a claim.  To the extent his Separations Principle eliminates “guesswork” and creates more regulatory certainty, it would only do so by creating rigid artificial barriers to market entry and innovation across the information economy.  That’s “certainty” that we can live without.

Conclusion

Over on Amazon.com, I was interested to see Tim Wu post a glowing review of Kevin Kelly’s important new book, What Technology Wants (which I will be reviewing here next).  Kelly’s book argues that we should think of technology, or what he calls “the Technium,” as a “force” or even a living “organism” that has a “vital spirit” and which “has its own wants” and “a noticeable measure of autonomy.”  I think Kelly goes a bit far, but to the extent one buys into the notion that technology is like an organism, Tim Wu’s Information Industrial Policy would kill that organism.  Or, it would at least severely stunt its continued growth and evolution.

Because his information industry policy is every bit as “radical” as he suggests and would require, as he also admits, “a certain breadth and ambition in its application,” it is essential we reject this innovation-killing regulatory regime.  The health of the high-tech economy, the global competitiveness of the U.S. technology sector, and the long-term welfare of consumers depends upon it.

This is the third installment in a series of essays about Tim Wu’s new book, The Master Switch: The Rise and Fall of Information Empires.  As I noted in my first essay, Wu’s book promises to make waves in Internet policy circles, so I’m devoting some space here to debunking what I regard as some of the myths that drive his hyper-pessimistic worldview regarding the supposed death of openness.  In my second essay, I challenged Wu’s view of technological “cycles” and “market failure” and noted that he paints an overly simplistic portrait of both. In a similar vein, in this installment I will address Wu’s mistaken claim that purely free markets and “laissez-faire” have guided America’s communications and media sectors over the past century.

Wu’s narrative in The Master Switch is heavily dependent upon his retelling of the histories of several major sectors: telephony, film, broadcast radio, and cable television.  After surveying the history of those sectors throughout the past century, Wu concludes that “the purely economic laissez-faire approach… is no longer feasible” (p. 303) and that a fairly sweeping new regulatory regime – which I will address in a forthcoming post – is necessary to address the imperfections of the free market.

As any serious historian of the past century of information industries knows, however, we’ve never had anything remotely resembling a “purely economic laissez-faire approach” to communications, media or information policy in this country.  We’ve had a mixed system that allowed a certain degree of market activity accompanied by very heavy doses of “public interest” regulation.  Indeed, the story of 20 ^th century communications and media markets is one of artificial barriers to entry, government (mis-)allocation of key resources (like spectrum), price controls, rate-of-return regulations, speech controls and mandates, regulatory capture, and good ‘ol boy corporatism.

History Grade: Incomplete

Sadly, Wu ignores much of that history in The Master Switch or fails to properly diagnose the root causes of “market failure.”  Consequently, as a work of industrial history, his grade is: Incomplete.

Part of the problem here is that, far too often in the book, Wu dwells on intentions. Like so many other so-called progressive scholars who view most corporate leaders like the satanic spawn of Gordon Gecko or Mr. Burns from “The Simpsons,” Wu often wants to base his indictment of markets on a moralizing view of corporate bad intentions.  He gives us selective juicy bits of boardroom shenanigans and corporate scheming that would make for a good John Grisham novel.  If one’s indictment of free-market capitalism is based on the desires of corporate leaders, however, then it is hardly unsurprising they would conclude that it is a failure.  After all, Adam Smith taught us long ago that every businessman longs for a monopoly over trade in their field.

But intentions are largely meaningless in the larger scheme of things.  It’s the nature of the process and outcomes that give us our real gauge of the worth of a market-based approach. We need answers to questions like:

• Have markets given us more or less choice, competition, diversity, etc.?
• To the extent there was an excessive concentration of private “power” in a given sector, was it fleeting or lasting?
• If it was lasting, were markets to blame, or did government tip the balance in favor or certain actors our outcomes?  In other words, how “free” was this “free market”?
• Finally, did markets and new technologies evolve to solve whatever “problems” were ailing certain sectors? If not, what held back that progress?

Sadly, Wu often gives us little more than superficial answers to these questions because, again, he’s often too busy attempting to peer inside the minds of corporate leaders to discern what motivated their supposedly wicked ways. In the process, he leaves out plenty of pertinent facts. In particular, despite his insistence to the contrary, he significantly underestimates the importance of regulatory capture or unnatural resource allocation / mismanagement as the key causes of the technological “closings” he cites.  He also downplays or occasionally ignores the trade-offs at work associated with regulatory solutions to the supposed problems he cites.  Finally, he largely fails to appreciate the sweeping nature of technological change that has revolutionized so many of these markets for the better in recent years.

In my post yesterday, I noted how Wu ignored many of these variables when discussing the AOL case study.  Today, I’ll jump back 100 years in history and Wu’s treatment of the early development in America’s communications sector and the rise of the AT&T monopoly.  As we’ll see, he makes some crucial oversights and, ultimately, makes an unconvincing case against “the purely economic laissez-faire approach” since no such thing ever existed in this field or the others he surveys.

Wu’s Incomplete AT&T Case Study

Wu spends a great deal of time in The Master Switch focusing on the old AT&T / Bell System and its leader Theodore Vail as the paradigmatic example of “the Cycle” in action.  To reiterate, “the Cycle” refers to the closing and eventual monopolization of a sector after a period of openness and competition. That Vail and AT&T were hell-bent on monopolizing the American communications systems is beyond question.  What is in question, however, is to what degree any of this process was the result of Wu’s much-lamented “purely economic laissez-faire approach.”  The answer: Not much.

Sixteen years ago I penned a short history of how this sad tale unfolded and called it, “Unnatural Monopoly: Critical Moments in the Development of the Bell System Monopoly.”   What an accurate reading of that history reveals is that this monopolization was anything but the product of “market forces.”  Instead, America’s early communications history – as was the case in so many other countries – was very much shaped by political forces.

During the early years of the past century, when competition among independents was still quite vibrant, AT&T’s extensive campaign for “One Policy, One System, Universal Service” was a thinly veiled front for complete control of the telephone system under one corporate roof.  But was that goal really achievable absent government assistance?  Most industry historians don’t think so.

In his 1994 book, Contrived Competition: Regulation and Deregulation in America, Richard H.K. Vietor of Harvard University noted “Vail chose at this time to put AT&T squarely behind government regulation, as the quid pro quo for avoiding competition. This was the only politically acceptable way for AT&T to monopolize telephony…  It seemed a necessary trade-off for the attainment of universal service.” (p. 167, 172, 185) And AT&T’s own 1917 Annual Report noted, “A combination of like activities under proper control and regulation, the service to the public would be better, more progressive, efficient, and economical than competitive systems.”

Industry historian Robert W. Garnet, author of The Telephone Enterprise: The Evolution of the Bell’s Horizontal Structure, 1876-1909, provides further support for Vietor’s finding that regulation was the crucial driver of monopolization:

Regulation played a crucial role in Vail’s plans. Astute enough to realize that the kind of system he proposed — universal integrated monopoly — would stand little chance of gaining public approval without some form of public control, he embraced state regulation. In doing so, he broke with the company’s long-standing opposition to what [AT&T] management had traditionally regarded as an unwarranted intrusion on its prerogatives. But after years of unfettered competition, during which the firm’s financial strengths had been sapped and its efforts to build an integrated system had been dangerously undermined, regulation became a much-preferred alternative. Thus, Vail obviously saw government regulation as the way to eliminate competitors: the one-way ticket, not only to universal service, but also to monopoly profits. (p. 130, emphasis added)

The Kingsbury Commitment as Classic Corporatism

With the courtship of state regulators and legislators grew more widespread and successful, the stage was then set for the complete monopolization of the industry by AT&T.  Two crucial decisions at the federal level sealed that result.  First came the “Kingsbury Commitment” of 1913. Named after AT&T Vice President Nathan C. Kingsbury, who helped negotiate its terms, the agreement outlined a plan whereby AT&T would sell off its $30 million in Western Union stock, agree not to acquire any other independent companies, and allow other competitors to interconnect with the Bell System.

At the time, the Kingsbury Commitment was thought to be pro-competitive. Yet, this was hardly an altruistic action on AT&T’s part. The agreement was not interpreted by regulators so as to restrict AT&T from acquiring any new telephone systems, but only to require that an equal number be sold to an independent buyer for each system AT&T purchased. Hence, the Kingsbury Commitment contained a built-in incentive for regional monopoly-swapping rather than continued competition. Gerald Brock, author of The Telecommunications Industry: The Dynamics of Market Structure found that, “This provision allowed Bell and the independents to exchange telephones in order to give each other geographical monopolies. So long as only one company served a given geographical area there was little reason to expect price competition to take place.” (1981, p. 156)

In their 1992 treatise on Federal Telecommunications Law, Kellogg, Thorne, and Huber summarized the result of the Kingsbury Commitment as follows:

The government solution, in short, was not the steamy, unsettling cohabitation that marks competition but rather a sort of competitive apartheid, characterized by segregation and quarantine. Markets were carefully carved up: one for the monopoly telegraph company; one for each of the established monopoly local telephone exchanges; one for the Bell’s monopoly long-distance operations. Bell might not own everything, but some monopolist or other would dominate each discrete market. The Kingsbury Commitment could be viewed as a solution only by a government bookkeeper, who counted several separate monopolies as an advance over a single monopoly, even absent any trace of competition among them. (1992, p. 16-17)

The lesson here is clear: the move toward market-carving and mandated interconnection, while appearing in the independents’ favor at first, actually allowed AT&T to gain greater control over the industry. Brock found that “interconnection reduced the Bell’s ability to drive the independents out of business but also eliminated the independents’ incentive to establish a competitive long-distance system.” That is a crucial point, and one that Wu overlooks in his book and that many regulatory activists ignore till this day: Although well-intentioned, interconnection mandates can disincentivize more direct forms of head-to-head competition and disruptive forms of technological innovation.

To his credit, Tim Wu does acknowledge how the Kingsbury Commitment ended up being a disaster in practice. “Superficially a victory for openness and competition, in time the Kingsbury Commitment would prove the insidious death knell of both,” he notes. (p. 56)  But Wu doesn’t dwell on the gravity of this fatal regulatory decision very long.  Instead, he quickly switches gears and suggests that the problem was that regulators just didn’t go far enough. He suggests a preemptive breakup might have been the better way to go and implies that monopolization was inevitable.

Of course, we can never know how differently things might have turned out if that course of action had been pursued. But the problem for Wu is that most of the examples he uses in his book depend on this ‘why-didn’t-the-government-see-it-coming-and-intervene-earlier’ sort of thinking, even though (a) we don’t know how much of a difference it would have made in practice, and (b) such interventions could have backfired and had profoundly deleterious unintended consequences, just as the Kingsbury Commitment did.  Such interventions would have just necessitated additional forms of prophylactic regulation to keep the market as atomistic as Wu preferred.  As the Austrian economist Ludwig von Mises taught us six decades ago:

All varieties of interference with the market phenomena not only fail to achieve the ends aimed at by their authors and supporters, but bring about a state of affairs which—from the point of view of their authors’ and advocates’ valuations—is less desirable than the previous state affairs which they were designed to alter. If one wants to correct their manifest unsuitableness and preposterousness by supplementing the first acts of intervention with more and more of such acts, one must go farther and farther until the market economy has been entirely destroyed and socialism has been substituted for it.  (Human Action, at 858, 3rd ed. 1963, 1949).

(In a moment, we’ll see how the market economy was entirely destroyed and socialism substituted for it in this field.)

Again to his credit, Wu is willing to admit that, “it should also be obvious to anyone – one need by no means to be a raving libertarian – that there are some substantial dangers implicit in aligning the immense power of the state with the greatest of information monopolists.” (p. 59) Well, I am a raving libertarian, so you can imagine how sympathetic I am to this argument!  More impressively, in a footnote to that line, Wu properly labels this system what it is. “The technical term for such a system is ‘corporatism’: in its extreme manifestation it is called ‘fascism,’” he notes. Quite right!  What the Kingsbury Commitment represented was the essence of corporatism or what used to be called fascism before the Nazis essentially made the term impossible to use as a descriptor in economic histories or political philosophy.

A final problem with Wu’s interpretation of the Kingsbury Commitment: He praises Vail and AT&T for at least agreeing to common carriage obligations as part of the deal. “[I]f we regard the Kingsbury Commitment as having sanctioned the most lucrative monopoly in history, it also made good on the essential goals of common carriage,” Wu says. (p. 59) Here he utterly fails to fully appreciate the linkage between common carriage obligations and the corporatist model of industrial organization.  The imposition of common carriage obligations on a particular company or sector is tantamount to a “Game Over” moment for truly free markets.  Once you make that plunge, you’ve essential raised the white flag and surrendered on the notion of facilities-based competition. It is the death knell for laissez-faire.  Yet, Wu never makes that connection clear.

World War I and Communications Nationalization

More surprising, however, is the fact that Wu completely ignores the second major federal intervention that sealed AT&T’s lock on the communications marketplace. It was World War I, the nation’s first major global crisis, that would provide the United States government with a convenient excuse to forcefully gain control over communications and forever change the structure of the telephone industry.  On August 1, 1918, in the midst of World War I, the federal government nationalized the entire telecommunications industry for national security reasons. If, as Wu correctly suggests, the Kingsbury Commitment represented a dose of “fascism,” then this was surely a bit of good ol’ fashion socialism!  How it escaped Wu’s attention is perplexing because its significance cannot be underestimated.

As I noted in my history of the rise of the Bell System monopoly, AT&T executives were initially quite nervous when it was announced that Postmaster General Albert S. Burleson, a long-time advocate of nationalizing the telegraph and telephone industries, would assume control of the telephone system. But, once the benefits of nationalization where made evident to Theodore Vail, his anxieties disappeared. Industry historian George P. Oslin notes when Vail expressed concern over the plan to Western Union President and close personal friend Newcom Carlton, Carlton reassured Vail that the plan was in his interest: “It’s your salvation. The government will be able to raise your rates and get you new money.” As Oslin argues, “That was what happened. Burleson appointed Vail, rated by Carlton as a genius, to manage the telephone, and Carlton to operate the telegraph.”

In his 1939 book AT&T: The Story of Industrial Conquest, Noobar R. Danielian concurred: “There is evidence that Vail appreciated the advantages of Federal control… he was not in much of a hurry in the early part of 1919 to have his System back from nominal government control.” (p. 248) This attitude should not be at all surprising since shortly after the industry was nationalized, AT&T’s proposed contract establishing the terms of government ownership and compensation was accepted by the postmaster general. Danielian summarizes the deal as follows:

The federal government…  agreed to pay to AT&T 4 1/2 percent of the gross operating revenues of the telephone companies as a service fee; to make provisions for depreciation and obsolescence at the high rate of 5.72 percent per plant; to make provision for the amortization of intangible capital; to disburse all interest and dividend requirements; and in addition, to keep the properties in as good a condition as before. Finally, AT&T was given the power to keep a constant watch on the government’s performance, to see that all went well with government operation, by providing that the books of the Postmaster General would be at all times open for inspection. One might well wonder where the real control was lodged. Needless to say, the contract was eminently satisfactory to the Bell System. (p. 252)

In addition, once the nationalized system was in place, AT&T wasted no time applying for immediate and sizable rate increases. High service connection charges were put into place for the first time. AT&T also began to realize it could use the backing of the federal government to coax state commissions into raising rates. Vail personally sent Postmaster General Burleson studies that displayed the need to raise rates. By January 21, 1919, just 5 1/2 months after nationalization, long-distance rates had increased by 20 percent. In addition to being much greater than returns earned during more competitive years, the rates established by the postmaster during the year of nationalization remained in force many years after privatization. Consequently, AT&T’s generous long distance returns continued to average near or above 20 percent during the 1920s.

By the time the industry was returned to private control on August 1, 1919, the regulatory route to competition elimination had paid off handsomely for Vail and AT&T.  Of the estimated $50 million in rate increases approved by the postmaster general during nationalization, approximately $42 million, or 84 percent went to AT&T.  Additionally, the government cut AT&T a $13 million dollar check at the end of the period to cover any losses they may have incurred, despite the fact that none were evident.

You cannot get a better deal than that!  The year of government nationalization was the final nail in the coffin of communications competition, and it was a nail struck with the hammer of Big Government. The lesson: There was absolutely nothing “natural” about this monopoly.   Congress basically blessed the entire farce in 1921 with the passage of the Graham Act, which Wu does cite in his history. As he notes, it “recognized AT&T’s monopoly and remov[ed] any remaining obstacles to integration.” (p. 59)   But, again, this is Wu implying that there had been something natural about that monopoly, which there most certainly wasn’t.

This sad tale of corporatism only grew worse in subsequent years with the initiation of extensive rate regulation and direct barriers to entry and innovation. Rate regulation guaranteed AT&T stable returns and ensured that regulators suddenly had a vested interest in keeping the company healthy and protected from competition so that it could achieve the industrial policy vision of “One Policy, One System, Universal Service.”  AT&T had so utterly captured legislators and regulators that its motto became the prime directive and modus operandi for all communications regulation over the next half century.

And this is a pattern – dare I call it “the real cycle” – that we have seen play out in many other sectors that Wu discusses in the book.  Yet, he doesn’t seem to fully appreciate just how profoundly public policy makers to have distorted markets in the quest to achieve various social policy goals.  In many regulated sectors, history shows that policymakers often ended up depending upon one firm, or a small handful of firms, to provide all industry output/service. Those favored actors, like AT&T and Vail, became partners with the State.  Consequently, competition was made more difficult, if not impossible, by force of law.  As the dean of regulatory economists Alfred E. Kahn noted in his seminal 1971 treatise The Economics of Regulation:

When a commission is responsible for the performance of an industry, it is under never completely escapable pressure to protect the health of the companies it regulates, to assure a desirable performance by relying on those monopolistic chosen instruments and its own controls rather than on the unplanned and unplannable forces of competition. (p. 12)

Conclusion

In sum, Wu serves up an incomplete history of Theodore Vail and the rise of the Bell System by downplaying the role that governments played in spawning, and then sheltering, the resulting monopoly.  In the case of Vail and AT&T, we can definitively conclude that there was no such thing as a “purely economic laissez-faire approach” allowed after World War I.  It basically became a crime to compete against the company or even attempt to innovate around it.

Thus, the lesson we should take from this case study is not, as Wu suggests, that markets failed but that they were never allowed to function naturally. Interventions pursued in the name of protecting consumers and serving “the public interest” often backfire and become the death knell of competition and innovation. Consequently, they undermine consumer welfare — which should be regarded as the ultimate “public interest” — in the process.

A more cautious historian would have acknowledged that and then questioned whether expanded regulatory inventions would — then or now — improve matters, or instead simply lead to even more deleterious forms of regulatory capture and corporatism.

[Jump to Part 4 in the series.]

A recent study by Cecil Bohanon and Michael Hicks at Ball State University’s Digital Policy Institute found that statewide cable franchising has increased broadband deployment.

Half of the US states have now enacted legislation that creates statewide cable franchising. These laws allow new entrants into the video business (principally the phone companies) to get permission to offer video from the state, instead of having to deal with local governments to get cable franchises. Previous research, much of it cited here, found that cable competition reduces cable rates and expands the number of channels available to subscribers. Local franchising often delayed or prevented new competitors from entering the market.

Since the same wires get used to transmit video, telephone, and broadband, Bohanon and Hicks reasoned that opening up entry into cable would also increase competition in broadband and hence increase broadband subscribership. And that’s precisely what their econometric study finds. After controlling for other factors, broadband subscribership is 2-5 percent higher in states that have statewide video franchising. Based on this finding, Bohanon and Hicks estimate that statewide video franchising increased broadband subscribership by about 5 million.

Their study covers the years 1999-2008. Maybe some of these 5 million would eventually have gotten broadband anyway. At worst, this study shows that 5 million subscribers got broadband sooner than they otherwise would have.

The study does not test whether the increase in broadband subscribership occurred because statewide video franchising sped up investment and deployment of infrastructure, or if it simply spurred competition in places where phone and cable companies already had the relevant infrastructure deployed.  I don’t know how one would get the confidential data on broadband investment in order to test this.  But given the large amount of new investment related to broadband, I’d be willing to bet that statewide franchising encouraged both new broadband deployment and more intense competition where infrastructure was already in place.

Last week the D.C. Circuit Court of Appeals ruled that the Federal Communications Commission cannot impose net neutrality rules on broadband providers under its “ancillary jurisdiction” under the Communications Act.  If it wants to impose net neutrality, the FCC must first reverse previous decisions and reclassify broadband as a “Title II” common carrier.

Whoa!  The previous two sentences prove that this economist has been spending way too much time around telecom lawyers.

In almost-plain English, the court decision means the FCC cannot impose net neutrality regulations unless it publicly changes its five-headed mind and decides that broadband is much like an old-fashioned telephone monopoly and should be regulated much the same way. 

A lot of regulatory economists pretty much gag at this idea, or worse. Non-economists wonder what triggers this visceral reaction.

Let me explain.  As the recipient of 8 years of excellent Jesuit education, of course I have three reasons.

First, anyone who follows the scholarly literature on economic regulation generally knows that this form of regulation has a pretty checkered track record. In a wide variety of industries, economic regulation has increased prices, inflated costs, stunted innovation, and/or created shortages. In addition, because this regulation transfers enormous amounts of wealth — $75 billion annually in the case of federal telecommunications regulation — it creates enormous incentives for firms to lobby and litigate to bend the rules in their favor. While big corporations may feel they benefit from these expenditures, from a society-wide perspective the fight over wealth transfers is pure waste because it rarely produces anything of value for consumers. 

Utility regulation works best in relatively stangant industries where a company makes a big capital investment, pays a few employees to run it, and doesn’t need to innovate much.  In those kinds of situations, it’s easier for regulators and other outsiders to determine costs, set some rates that let the utility earn a reasonable rate of return, and keep the regulated company from gaming the system too much. If you think this describes broadband, well, good luck. A local water utility is probably the best example.

Second, anyone knowledgeable about the economic theory underlying utility regulation (which includes most economists who specialize in the area, and some lawyers) understands that regulation is supposed to be a last resort for “natural monopoly” industries where it’s cheaper to have one firm serve the entire market. A monopolist protected from competition could increase prices, degrade service, or do other things that increase its profits while harming consumers; economic regulation seeks to prevent those behaviors. But if competition is possible, competition is preferable. 

When phone, cable, wireless, and satellite companies bombard us continually with solicitations to switch to their broadband services, and I can see multiple wires running down the street outside my house when I go up on the roof to adjust the satellite dish, it’s pretty darn obvious that broadband is NOT a natural monopoly, even if competition isn’t “perfect.”  Therefore, broadband lacks a key prerequisite for public utility regulation to possibly increase consumer welfare.  Indeed, the most anti-consumer results of economic regulation have occurred when government created monopolies, cartels and/or shortages by imposing this regulation on industries where competition is possible, such as cable TV, trucking, railroads, airlines, oil, and natural gas.

Third, recent economic studies find that the FCC’s decision to classify cable, DSL, and fiber broadband as a less-heavily-regulated “information service” generated a tsunami of investment and spurred competition. See, for example, this study by my GMU colleagues Thomas Hazlett and Anil Caliskan. Some more cites are available on pp. 17-18 of this comment to the FCC. If you don’t believe economic studies, just keep in mind that the aggressive marketing of dirt-cheap entry-level DSL tracks pretty closely with the FCC’s decision that DSL is an information service not subject to Title II regulation.  Coincidence?

So, please excuse those of us regulatory economists who vomit when the subject of Title II comes up. If you check out the links above, perhaps the reaction will be more understandable.

I have not addressed the question of whether it’s realistic to think that reclassification of broadband under Title II could be a workable mechanism to impose just a limited, targeted, surgical, light-handed, smart, data-driven, evidence-based, transparent, transformative, sustainable, green, hybrid, itsy bitsy teenie weeny yellow polka-dot bikini smidgen of net neutrality regulation to prevent only certain forms of anti-consumer discrimination, without imposing the customary broad panpoly of public utility price and service regulation. Whether that’s possible in theory, or likely in real-world political practice, is a different issue for a different day. (Whether the other name for that kind of regulation is “antitrust” is also a different  issue for a different day.) For the moment, I just wanted to provide some context on the broader Title II issue.

And now I’ll go clean off my shoes.

FCC Chairman Julius Genachowski’s comparison of broadband with electricity in a speech this week has generated mixed reviews in the blogosphere. Manny Ju says that this shows Genachowski “gets it” — that he understands the transformational power of broadband and how it will come to be regarded as a ubiquitous necessity in the years ahead. Scott Cleland is more alarmed: “The open question here is electricity transmission is regulated as a public utility. Is the FCC Chairman’s new metaphor intended to extend to how broadband should be regulated?”

It may surprise some technophiles, but this kind of discussion even predates electricity. The advent of the railroads in the 19th century brought similar arguments.  Railroads were usually a heck of a lot cheaper way of hauling goods and people across land than the next best alternative at the time: wagons. Railroads were “The Next Big Thing” that no town could do without — especially if the town lacked access to navigable waters. Lawmakers handed out subsidies (often in the form of land grants), then regulated railroads to control perceived abuses, such as discriminatory pricing for different kinds of traffic or traffic between different locations. Henry Carter Adams, the godfather of economic regulation in the U.S., said all shippers deserved “equality before the railroads.” Even today, commentators lament the rural towns that people abandoned because they lacked rail access. Deja vu all over again! 

As long as we’re deja-vuing, let’s remember a few little problems America encountered down the railroad regulatory track:

1. Subsidies created “excess capacity” — that is, more capacity than customers were willing to pay for. In some cases, subsidies attracted shady operators into the railroad business whose main goal was to get land grants or sell diluted stock offerings to the public, not build and operate railroads. 

2. Regulation ended up caretlizing railroads and propping up rail rates, which faced downward pressure because of the excess capacity.

3. When another low-cost, convenient alternative (trucking) came along in the 1930s, truckers got pulled into the cartel when they too were placed under Interstate Commerce Commission regulation to keep them from undercutting rail rates.

4. Despite cartelization, by the late 1970s, 21 percent of the nation’s railroad track was operated by bankrupt railroads, even though the railroads had shed unprofitable passenger service to Amtrak earlier in the decade. Part of the reason was excessive costs: Because access to freight rail service was still considered a right, regulation prevented railroads from abandoning money-losing lines. Part of the reason was restraints on competition: The regulatory passion for “fair” pricing kept railroads from competing aggressively with each other or with truckers. When the Southern Railway introduced its 100-ton “Big John” grain hopper cars in the 1960s, for example, it couldn’t offer shippers lower rates in exchange for high volume until it appealed an Interstate Commerce Commission all the way to the Supreme Court.

By the late 1970s, a Democratic president, a bipartisan majority in Congress, and economists across the political spectrum agreed that railroad regulation needed a radical overhaul. Regulatory reforms made it easier for railroads to abandon unprofitable service, in many cases turning track over to new, lower-cost short lines and regional railroads. Prices for more than 90 percent of rail traffic were effectively deregulated. At the same time, Congress deregulated rates and entry on interstate trucking routes. This encouraged rail-truck competition and also allowed each mode to specialize in serving those markets it could serve at lowest cost.

Rail rates fell, and railroads came out of bankruptcy. The current system is hardly perfect, but most economic research suggests that most consumers, shippers, and railroads are much better off now than they were under the old regulatory system.  (For reviews of scholarly research on this, check out Clifford Winston’s paper here  or my article here.)

Will we repeat the cycle with broadband? I don’t know, but to this railfan, the current broadband debate is looking soooo retro — as in 19th century!

I’ve just released a new PFF white paper looking at the hysteria that has often accompanied major media mergers and then taking a look at the marketplace reality years after the fact.  Here‘s the PDF, but I have also pasted the entire thing down below.

_____________________________

A Brief History of Media Merger Hysteria: From AOL-Time Warner to Comcast-NBC

by Adam Thierer

Although the pending union of Comcast and NBC Universal has not yet made it to the altar, Chicken Little-esque wails about the marriage have already begun in earnest. For example, the pro-regulatory media organization Free Press has already set up a website to complain about the deal.[1] And Jeff Chester, executive director of the Center for Digital Democracy, has called it “an unholy marriage.”[2] The fever only promises to spread once the deal is formally announced, and a lengthy fight over the deal is expected at the Federal Communications Commission (FCC) and whichever antitrust agency reviews the deal.[3]

But reality tends to play out somewhat less dramatically than the script penned by the media worrywarts. It’s worth looking back at some of the more prominent examples of media merger hysteria in recent years to understand why such panic is unwarranted, and why a deal between Comcast and NBC Universal is unlikely to lead to the sort of problems that the pessimists suggest.[4]

AOL-Time Warner: From the “New Totalitarianism” to Digital Divorce Court in Less Than a Decade

When the mega-merger between media giant Time Warner and Internet superstar AOL was announced in early 2000, the marriage was greeted with a cacophony of righteous indignation and apocalyptic predictions.  When referring to the dangers of the deal, syndicated columnist Norman Solomon, a longtime associate of the media watch group Fairness & Accuracy In Reporting, summoned the ghost of Aldous Huxley when he and referred to the transaction in terms of “servitude,” “ministries of propaganda,” and “new totalitarianisms.”[5] Similarly, USC Professor of Communications Robert Scheer wondered if the merger represented “Big Brother” and claimed, “Diversity is out, niches are gone, it’s Skippy peanut butter time. AOL is the Levitown of the Internet, mom and apple pie, ‘50s boredom, conformity and dullness as a virtue: A Net nanny reigning in potentially restless souls.”[6]

Such pessimistic predictions proved wildly overblown. To say that the merger failed to create the sort of synergies (and profits) that were originally hoped for would be an epic understatement.[7] The titles of two popular books about the deal summed up the firm’s troubles: One was entitled Fools Rush In (by Nina Munk) and the other, There Must Be a Pony in Here Somewhere (by Kara Swisher and Lisa Dickey).[8]

The numbers were mind-boggling. By April 2002, just two years after the deal was struck, AOL-Time Warner had already reported a staggering $54 billion loss.^[9] By January 2003, losses had grown to $99 billion.^[10] By September 2003, Time Warner decided to drop AOL from its name altogether and the deal continued to slowly unravel from there.^[11] In a 2006 interview with the Wall Street Journal, Time Warner President Jeffrey Bewkes famously declared the death of “synergy” and went so far as to call synergy “bullsh*t”!^[12] In early 2008, Time Warner decided to shed AOL’s dial-up service^[13] and now is set to spin off AOL entirely.[14] Looking back at the deal, Fortune magazine senior editor at large Allan Sloan called it the “turkey of the decade”:

The day the deal was announced, Jan. 10, 2000, Time Warner closed at the equivalent of $184.50 a share. After almost 10 years of travail, the $184.50 has shrunk to about $42.25, consisting of one Time Warner share and a quarter of a Time Warner Cable share. The 77 percent decline is triple the decline in the Standard & Poor’s 500-stock index over the same period.[15]

And the Time Warner-AOL split wasn’t the end of this messy divorce process. In 2008, Time Warner Cable and Time Warner Entertainment decided to split.^[16] Time Warner has even spun off some of its oldest properties. In 2006, it announced that it was putting 18 of the 50 magazines in its Time magazine division up for sale.^[17]

As is always the case, these divestitures and down-sizing efforts garnered little attention compared with the hullaballoo and hysteria that accompanied the announcement of the deal back in 2000.^[18]

News Corp/DirecTV: Murdoch’s “Digital Death Star” Blows Up

No media industry personality attracts more attention (or angst) than News Corp. Chairman and CEO Rupert Murdoch. The popular leftist blog The Daily Kos has likened him to “a fascist Hitler antichrist.”[19] And CNN founder Ted Turner once compared the popularity of the News Corp.’s Fox News Channel to the rise of Adolf Hitler prior to World War II.^[20] Alternatively, Murdoch has been accused of being a Marxist.[21] Meanwhile, Karl Frisch, a Senior Fellow at Media Matters for America, speaks of Murdoch’s “evil empire”^[22] and a recent MSNBC poll has asked people to vote on the question: “Is Rupert Murdoch evil?”[23] In 2003, when asked by talk show host Chris Matthews, “Would you break up [News Corp.-owned] Fox?” then Democratic presidential candidate Howard Dean answered, “On ideological grounds, absolutely yes.”^[24] And in their book Our Media, Not Theirs, John Nichols and Robert McChesney took the Murdoch-as-evil-overlord storyline to its logical extreme when they suggested Hollywood was on to something by scripting a media tycoon like Murdoch as the bad guy in a James Bond movie: “No wonder conspiracy theories are so popular in America; no wonder, when the makers of James Bond movies look for believable villains these days, they eschew Eurotrash bad guys for more credibly threatening villains such as the Rupert Murdoch-like media baron of 1997’s Tomorrow Never Dies.”^[25]

These Murdochian fears came to a head in 2003 when News Corp. announced it was pursuing a takeover of satellite television operator DirecTV.  Paranoid predictions of a pending media apocalypse followed.  A group of regulatory activists filed joint comments to the FCC claiming that if News Corp. and DirecTV were allowed to merge, “the result will be unprecedented concentration within all aspects of the television marketplace, as well as increased prices for consumers of cable and satellite television.”[26] Similarly, then-FCC Commissioner Jonathan Adelstein worried that the deal would “result in unprecedented control over local and national media properties in one global media empire. Its shockwaves will undoubtedly recast our entire media landscape.” He continued; “With this unprecedented combination, News Corp. could be in a position to raise programming prices for consumers, harm competition in video programming and distribution markets nationwide, and decrease the diversity of media voices.”[27]

Not to be outdone, full-time media fussbudget Jeff Chester predicted that Murdoch would use this “Digital Death Star” as the base of a nefarious scheme to conquer the media universe:

Murdoch will use DirecTV as a ‘death star’ to force his programming on cable companies by threatening a price war unless they give Fox favorable access. Since News Corp will control cable TV’s principal multichannel competitor, it will easily create new channels—unlike anyone else in the TV business.  Rather than engage in open combat and competition, cable powerbrokers such as Comcast and AOL-Time Warner will likely accommodate Murdoch and add his new channels to their own services. Imagine Fox News on steroids. Worse, with DirecTV’s capacity to ‘spotbeam’ channels to serve distinct communities, localized versions of Fox programs could be available in major cities across the nation.[28]

Imagine the horror of new, “spotbeamed” local media competition!  However, unlike the destruction of the planet Alderaan by the Death Star in Star Wars,[29] no one was harmed in the making of the News Corp-DirecTV marriage.  Indeed, the rebels would get the best of Darth Murdoch since his “Digital Death Star” was abandoned just three years after construction.  In December 2006, News Corp. decided to divest the company to Liberty Media Corporation in an effort to win back more controlling News Corp. stock.^[30]

Ironically, many of the same groups that had vociferously protested the original News Corp-DirecTV deal again found reason to complain when the deal was being undone! The FCC’s failure to implement various restrictions as part of the license transfer, they claimed, would “result in continuing control by News Corp. over content distribution, harming competition in both the programming and distribution markets, reducing consumer choice and raising cable prices.”^[31] Unsurprisingly, little mention was made of the previous round of pessimistic predictions or whether there had ever been any merit to the lugubrious lamentations of the media critics.

Sirius-XM: “Merger to Monopoly” or Prelude to Bankruptcy?

Some of the most entertaining and wrong-headed predictions about the future of the media marketplace often come from media moguls themselves. For example, back in 2003, when he was still President and Chief Operating Officer of Viacom, Mel Karmazin said in reference to Microsoft, AOL Time Warner, and Comcast: “I can’t imagine being a competitor with any of these guys.”[32] Just six years later, however, plenty of others are competing with those companies. Microsoft finds itself in a heated war with Google on all fronts, AOL-Time Warner has fallen apart, and Comcast is squaring off against telco (e.g., Verizon’s FiOS and AT&T U-Verse) and online video competitors (e.g., YouTube, Hulu) that were unfathomable in 2003—not to mention the traditional satellite TV competitors they still face. Meanwhile, Karmazin abandoned Viacom and is now struggling to find a way to make subscription-based satellite radio survive the ongoing digital music bloodbath caused by the rise of online music services and a little thing called the iPod.

Of course, hysteria ran rampant when Sirius and XM were merging, too.  Critics called it a “merger to monopoly” and predicted a variety of coming calamities.[33] National Association of Broadcasters Vice President Dennis Wharton described the merger as a “monopoly platform for offensive programming” that would be “anti-consumer.”^[34] Mr. Wharton later remarked that the merged firms “will raise prices, won’t improve their technology and will limit their offerings.”^[35] A coalition of six non-profits claimed that the merger was “perhaps the worst offense against the basic principle that competition is the consumer’s best friend” and, if approved, “a tsunami of mergers could ripple through the digital space at the worst possible moment.”^[36] They predicted that “once the competition is eliminated, prices will rise over time,” “innovation will slow to the pace preferred by the monopolist and consumers will be much worse off in the long run.”^[37] Another coalition argued that the new company would “abuse consumers, artists and other input suppliers in the satellite radio market.”[38]

In the end, the merger took an astonishing 500-plus days for the FCC to finally approve[39] and was conditioned with a lengthy set of “voluntary concessions” to supposedly rectify these potential harms—including pricing constraints that could limit the firm’s ability to cover costs and pay down debt over time.

Unsurprisingly, things haven’t turned out so well for Sirius XM. When the merger was finally approved by the FCC in August 2008, Commissioner Copps dissented vigorously on various grounds but specifically insisted that, “We must assume that the marketplace can support two financially viable competitors.”[40] Unfortunately for Commissioner Copps—as well as Sirius XM—it’s not even clear that the market can sustain one satellite radio provider. The company’s stock went into freefall following completion of the deal and, at one point, its stock fell below 10 cents per share. The company flirted with bankruptcy in February of this year as “satellite radio failed to win over many younger listeners, and competition from other sources slowed subscriber growth.”[41] In March 2009, Karmazin orchestrated a cash-for-stock swap with Liberty Media to get a $530 million lifeline and avoid bankruptcy.[42] But even with the cash infusion Sirius XM faces an uncertain future with stiff competition.[43] “Sirius is girding for slower growth than in the past,” notes Olga Kharif of Business Week, “and analysts remain concerned about the company’s ability to control costs.”[44] Former stockbroker and RealMoney.com contributor Tim Melvin predicts the overleveraged company “will disappear from the landscape. The subscribers will go to another tech or entertainment company in bankruptcy proceedings. Subscription radio just does not have that much appeal to most people.”[45]

Whether Melvin’s dour forecast for satellite radio proves accurate remains to be seen. What’s clear, however, is that the fears bandied about by critics when the Sirius-XM deal was pending have not come to pass.

Murdoch’s Wall Street Journal Quest

In 2007, Rupert Murdoch announced his desire to purchase The Wall Street Journal.  Once again, a great deal of hand-wringing ensued. “This takeover is bad news for anyone who cares about quality journalism and a healthy democracy,” argued Robert McChesney. “Giving any single company—let alone one controlled by Rupert Murdoch—this much media power is unconscionable.”[46] And FCC Commissioner Copps warned that “It will create a single company with enormous influence over politics, art and culture across the nation and especially in the New York metropolitan area.”[47]

Today, however, the Journal keeps humming along and continues to produce some of the finest journalism on the planet. Meanwhile, “politics, art and culture” seem largely unaffected by the deal—either in New York or the nation.

And the deal certainly hasn’t made Murdoch or News Corp. any richer. “His purchase of The Wall Street Journal is widely seen as one of the worst moves of his career,” notes Michael Wolff of Vanity Fair.[48] News Corp. has already taken a whopping $3 billion write-down on the deal.  Considering the $5 billion price tag Murdoch paid two years ago, one wonders if he’ll hold on to this property any longer than he did DirecTV.

Comcast-NBC Universal: Debunking the Fears Preemptively

No doubt we’ll soon be hearing many of these same apocalyptic predictions about the Comcast-NBC deal. Free Press has said the new entity “will have an incentive to prioritize NBC shows over other local and independent voices and programs, making it even harder to find alternatives on the cable dial.”[49] And Free Press Executive Director Josh Silver has called for the Obama Administration to block the deal saying “it would further starve Americans of [media] diversity.”[50] Even competitors are complaining. Liberty Media Corp. Chairman John Malone, which owns DirecTV, has suggested that they might push the government to reject the deal.[51] Many other rivals will likely join that bandwagon.

These critics will likely raise vertical integration fears and claim that Comcast will act as a “gatekeeper” by limiting the ability of independent voices to get a slot on cable distribution systems, or by withholding NBC-Universal content from other platforms and providers. But there’s little historical evidence that suggests this will be a problem. As the adjoining exhibit illustrates, the overall number of video programming channels available in America has skyrocketed, from just 70 channels in 1990 to 565 channels in 2006, the last year for which the FCC has made data available.

More importantly—and despite claims to the contrary—vertical integration in the video marketplace has plummeted over the past two decades. While many more cable and satellite networks are available today than ever before, the greatest share of the growth in the multichannel video marketplace has come from independently owned video networks. Since 1990, the number of cable-owned or affiliated channels has increased slightly, but it pales in comparison with the growth of independently owned and operated video networks. In real terms, therefore, the percentage of the overall video marketplace controlled (i.e., owned and operated) by cable companies has plummeted—from 50% in 1990 to just 14.9% in 2006. Moreover, in the wake of the Time Warner Cable and Time Warner Entertainment divorce, vertical integration in the cable sector has probably fallen into the single digits. Even if the merger of Comcast and NBC-Universal results in slight increase in industry vertical integration, it almost certainly will not surpass 20 percent.  Consequently, as far as vertically integrated industries go, it is impossible to conclude that this market could be characterized as being controlled by “gatekeepers.”

It is difficult to imagine that Comcast would buck these trends and begin restricting independent options on its systems or withhold its content from others.  Video distributors don’t make money by restricting choice. Consumers would flock to alternative video providers and media services if Comcast played such games. The great thing about the modern media marketplace is that there is always another place for consumers to turn to find something they want.[52] Sports programming could be an exception to the rule, and is the one issue that Comcast may need to bargain over with FCC regulators or antitrust officials since they own regional sports networks that other video distributors want access to.^[53] But traditional concerns about access to over-the-air broadcast signals (namely, the NBC local broadcast television properties) shouldn’t be as much of an issue today as it was the past.  Frankly, local broadcasters need all the eyeballs they can get these days. Thus, it’s unlikely that Comcast would try to withhold those stations from other video distributors, especially since a great deal of NBC programming is already available through other means. And intense competition exists for some of the most important news and informational services that NBC offers, such as local news, weather, and traffic.

Overall, therefore, it’s hard to see the case for the FCC rejecting the deal. Regulators need to be forward-looking about what is driving this deal.  This deal isn’t about protecting old markets but instead about building new ones. “The real motivation behind this deal,” argues Mike Berkley, former CEO of SplashCast Media, “is survival.”

Comcast understands that the price point for distributing TV into homes is going to fall dramatically in the coming years. Comcast’s 3 distribution products, Voice – TV – Internet, are collapsing into just one, single product: Internet. This poses a huge threat to Comcast’s top line. As such, Comcast is hedging through diversification into content, moving up the media value chain. Comcast will be looking to replace lost revenue in distribution with revenue from content (advertising, subscriptions, etc).[54]

Similarly, Wall Street Journal business columnist Holman Jenkins points out that Comcast is scrambling to find a way to rework their business model as the era of set-top box-delivered video slowly gives way to a world of ubiquitously available online video:

This would be a merger, after all, of two businesses that seem headed toward some combination of the fates of newspapers, music CDs and the old wireline telephone business. Customers want the product for free. Comcast’s lifeblood, the $100-a-month cable bill and the $50-a-month broadband bill, increasingly look like duplicative expenses. And so on. True, the number of households that have actually dropped their cable subscriptions in favor of subsisting on TV streamed or downloaded from the Internet is not yet large. But for the Roberts family and its Comcast property, their worst fears lurk just around the corner—being reduced to a “dumb pipe,” subject to commodity pricing while somebody else (Google) makes all the money. Yet an escape route is vexingly hard to envision. Time Warner and Comcast have been talking up plans to make their respective cable lineups available by computer—as long as you keep paying your cable bill. This is a stopgap, especially appealing to anyone who owns two homes but wants to pay only one cable bill. Never mind, too, that hundreds of shows are already available online for free, via Web sites operated by none other than Comcast and the TV networks themselves.[55]

In light of such technological upheaval and marketplace uncertainty, it’s important that regulators proceed cautiously when reviewing this deal or future deals.

Conclusion: Let Markets Evolve

The point here is not that media mergers are inherently good or always make sense. Indeed, as the examples discussed above illustrate, mergers sometimes prove to be huge blunders.[56] But the hysteria sometimes heard before media mergers are consummated rarely bears any relationship to reality once the deals move forward. Media markets are extremely dynamic and prone to disruptive change and technological leap-frogging. Mergers are often one response to that turbulence.

But mergers are no panacea, and they often fail to produce the “synergies” hoped for. A 2004 survey by McKinsey & Co. found that “Nearly 70 percent of the mergers in our database failed to achieve the revenue synergies estimated by the acquirer’s management.”[57] Perhaps, therefore, the best argument for blocking media mergers is not their potentially pernicious effect on markets or consumers, but rather to save the merging firms (and their stockholders) from a miserable marriage!

On the other hand, experimenting with alternative business models and ownership structures is an important part of any dynamic market, because markets are not static but represent and ongoing processes of entrepreneurial “discovery.”[58] Thus, policymakers would be wise to avoid micro-managing mergers and instead let things run their course.  Sometimes collaboration makes a great deal of sense, especially when the significant costs of providing a media service becomes impossible absent a partnership. Indeed, federal officials and agencies are currently exploring how (or whether) journalism can survive an era of seeming perpetual media upheaval.[59] Healthy media companies certainly must be part of the answer and new ownership arrangements might be part of the solution.

Given how difficult it is to predict the future course of events in this chaotic sector, humility—not hubris—is the sensible disposition when it comes to media merger policy. At a minimum, policymakers should insist that ongoing debates are governed by facts instead of fanaticism, because, if the past decade is any guide, discussions about media mergers have been more often rooted in hyperbolic rhetoric and unsubstantiated hysteria.

[1] www.freepress.net/comcast

[2] Quoted in Cecilia Kang, Public Interest Groups Rail against a Comcast and NBC Merger, Washington Post, Post Tech Blog, Nov. 9, 2009, http://voices.washingtonpost.com/posttech/2009/11/for_example_were_advancing_tv.html

[3] “For regulators, a deal like this is a gift; an occasion to impose their will upon needy companies that would otherwise be outside their regulatory reach.” Craig Moffett, Bernstein Research, Comcast: Snatching Defeat from the Jaws of Victory? Oct. 23, 2009, at 14.

[4] Cecilia Kang, A New Kind of Company, A New Kind of Challenge for Feds, Washington Post, Nov. 26, 2009, at 1, www.washingtonpost.com/wp-dyn/content/article/2009/11/26/AR2009112602500.html

[5] Norman Soloman, AOL Time Warner: Calling The Faithful To Their Knees, Jan. 2000, www.fair.org/media-beat/000113.html

[6] Robert Scheer, Confessions of an E-Columnist, Jan. 14, 2000, Online Journalism Review, www.ojr.org/ojr/workplace/1017966109.php

[7] Looking back at the deal almost ten years later, AOL co-founder Steve Case said, “The synergy we hoped to have, the combination of two members of digital media, didn’t happen as we had planned.” Quoted in Thomas Heath, The Rising Titans of ’98: Where Are They Now?, Washington Post, Nov. 30, 2009, www.washingtonpost.com/wp-dyn/content/article/2009/11/29/AR2009112902385.html?sub=AR

[8] Nina Munk, Fools Rush In: Steve Case, Jerry Levin, and the Unmaking of AOL Time Warner (New York: Harper Business, 2004); Kara Swisher and Lisa Dickey, There Must Be a Pony in Here Somewhere: The AOL Time Warner Debacle and the Quest for a Digital Future (New York: Crown Business, 2003).

[9] Frank Pellegrini, What AOL Time Warner’s $54 Billion Loss Means, April 25, 2002, Time Online, www.time.com/time/business/article/0,8599,233436,00.html

[10] Jim Hu, AOL Loses Ted Turner and $99 billion, CNet News.com, Jan. 30, 2004, http://news.cnet.com/AOL-loses-Ted-Turner-and-99-billion/2100-1023_3-982648.html

[11] Jim Hu, AOL Time Warner Drops AOL from Name, CNet News.com, Sept. 18, 2003, http://news.cnet.com/AOL-Time-Warner-drops-AOL-from-name/2100-1025_3-5078688.html

[12] Matthew Karnitschnig, After Years of Pushing Synergy, Time Warner Inc. Says Enough, Wall Street Journal, June 2, 2006, http://online.wsj.com/article/SB114921801650969574.html

[13] Geraldine Fabrikant, Time Warner Plans to Split Off AOL’s Dial-Up Service, New York Times, Feb. 7, 2008, www.nytimes.com/2008/02/07/business/07warner.html?_r=1&adxnnl=1&oref=slogin&adxnnlx=1209654030-ZpEGB/n3jS5TGHX63DONHg

[14] John Letzing, AOL, On The Verge Of Independence, Weighs On Parent, Wall Street Journal, Nov. 4, 2009, http://online.wsj.com/article/BT-CO-20091104-718782.html

[15] Allan Sloan, ‘Cash for . . .’ and the Year’s Other Clunkers, Washington Post, Nov. 17, 2009, www.washingtonpost.com/wp-dyn/content/article/2009/11/16/AR2009111603775.html

[16] Tim Arango, Time Warner Spinning Off Cable Unit, New York Times, April 30, 2008, www.nytimes.com/2008/04/30/business/30warner-web.html?ref=technology

[17] Carolyn Pritchard, Time Inc. to Sell 18 Magazine Titles, MarketWatch, Sept. 12, 2006,  www.marketwatch.com/News/Story/Story.aspx?guid=%7B94967C37%2D9B4A%2D4C1A%2D8AC0%2D64904C1267A1%7D&dist=rss&siteid=mktw&rss=1

[18] “Break-ups and divestitures do not generally get front-page treatment,” notes Ben Compaine, author of Who Owns the Media?  See Ben Compaine, Domination Fantasies, Reason, Jan. 2004, p. 28, www.reason.com/news/show/29001.html

[19] www.dailykos.com/story/2009/9/7/778254/-Rupert-Murdoch-is-a-Fascist-Hitler-Antichrist

[20] Jim Finkle, Turner Compares Fox’s Popularity to Hitler, Broadcasting & Cable, Jan. 25, 2005, www.broadcastingcable.com/CA499014.html

[21] Ian Douglas, Rupert Murdoch is a Marxist, Telegraph.Co.UK, Nov. 9, 2009,  http://blogs.telegraph.co.uk/technology/iandouglas/100004169/rupert-murdoch-is-a-marxist

[22] Karl Frisch, Fox Nation: The Seedy Underbelly of Rupert Murdoch’s Evil Empire? MediaMatters.org, June 2, 2009, http://mediamatters.org/columns/200906020036

[23] www.msnbc.msn.com/id/19817142/

[24] Dean Vows to ‘Break Up Giant Media Enterprises,’ The Drudge Report, Dec. 2, 2003, www.drudgereport.com/dean1.htm; Bill McConnell, Dean Threatens to Break Up Media Giants, Broadcasting & Cable, Dec. 3, 2003, www.broadcastingcable.com/index.asp?layout=articlePrint&articleID=CA339546.

[25] John Nichols and Robert W. McChesney, Our Media, Not Theirs: The Democratic Struggle against Corporate Media (New York: Seven Stories Press, 2002) at 31.

[26] Consumers Union, Consumer Federation of America, Center for Digital Democracy, and Media Access Project, Comments In the Matter of News Corporation/Fox Entertainment Group Merger with Hughes Electronics Corporation/DirecTV, MB Docket No. 03-124, July 1, 2003, www.consumersunion.org/pdf/0701-DirecTV.pdf

[27] Dissenting Statement of Commissioner Jonathan S. Adelstein, Re:  General Motors Corporation and Hughes Electronics Corporation, Transferors, and The News Corporation Limited, Transferee, MB Docket No. 03-124, Jan. 14, 2004, http://hraunfoss.fcc.gov/edocs_public/attachmatch/FCC-03-330A6.doc

[28] Jeff Chester, Rupert Murdoch’s Digital Death Star, AlterNet, May 20, 2003, www.alternet.org/story/15949

[29] Destruction of Alderaan, Wookieepedia: The Star Wars Wiki, http://starwars.wikia.com/wiki/Destruction_of_Alderaan

[30] News Corporation and Liberty Media Corporation Sign Share Exchange Agreement, News Corp Press Release, Dec. 22, 2006, www.newscorp.com/news/news_322.html.  A frustrated Murdoch referred to DirecTV as a “turd bird” just before he sold it off. See Jill Goldsmith, Murdoch Looks to Release Bird, Variety, Sept. 14, 2006, www.variety.com/article/VR1117950090.html?categoryid=1236&cs=1

[31] Consumers Union, Consumer Federation of America, Free Press, and Media Access Project, Comments In the Matter of Authority to Transfer Control of DirecTV, MB Docket No. 07-18, March 23, 2007, www.mediaaccess.org/file_download/177

[32] Richard Linnett, Media Rivals Backslap at Cable Conference, AdAge.com, June 10, 2003.

[33] Dissenting Statement of Commissioner Michael J. Copps, Applications for Consent to the Transfer of Control of Licenses, XM Satellite Radio Holdings Inc., Transferor, to Sirius Satellite Radio Inc., Transferee, MB Docket No. 07-57, Aug. 5, 2008, http://hraunfoss.fcc.gov/edocs_public/attachmatch/FCC-08-178A3.pdf

[34] Dennis Wharton, National Association of Broadcasters, NAB Statement in Response to Sirius/XM Proposed Merger, Feb. 19, 2007, www.nab.org/AM/Template.cfm?Section=Search&template=/CM/HTMLDisplay.cfm&ContentID=8258.

[35] Peter Whoriskey and Kim Hart, Justice Dept. Approves XM-Sirius Radio Merger, The Washington Post, Mar. 25, 2008, www.washingtonpost.com/wp-dyn/content/article/2008/03/24/AR2008032401645.html.

[36] The XM-Sirius Merger: Monopoly or Competition from New Technologies: Hearing Before the Senate Committee on the Judiciary Subcommittee on Antitrust, Competition Policy and Consumer Rights, 3 & 6 (March 20, 2007) (statement of Common Cause et. al), www.hearusnow.org/fileadmin/sitecontent/2007_-_0320_Public_Interest_GroupsStatement-_Senate_Judiciary.pdf

[37] Id. at 6.

[38] Common Cause, Consumer Federation of America, Consumers Union, Free Press, Comments in the Matter of Consolidated Application for Authority To Transfer Control of XM Radio Inc. and Sirius Satellite Radio Inc., MB Docket No. 07-57July 9, 2007, at 1, www.hearusnow.org/fileadmin/sitecontent/xm-sirius_comments.pdf

[39] James Gattuso, Day 505: The XM-Sirius Circus Is Finally Over, Technology Liberation Front Blog, Aug. 7, 2008, http://techliberation.com/2008/08/07/day-505-the-xm-sirius-circus-is-finally-over

[40] Dissenting Statement of Commissioner Michael J. Copps, Applications for Consent to the Transfer of Control of Licenses, XM Satellite Radio Holdings Inc., Transferor, to Sirius Satellite Radio Inc., Transferee, MB Docket No. 07-57, Aug. 5, 2008, http://hraunfoss.fcc.gov/edocs_public/attachmatch/FCC-08-178A3.pdf

[41] Andrew Ross Sorkin & Zachery Kouwe, Sirius XM Prepares for Possible Bankruptcy, New York Times, Feb. 10, 2009,  www.nytimes.com/2009/02/11/technology/companies/11radio.html

[42] Jon Birger, Mel Karmazin Fights to Rescue Sirius, Fortune.com, March 16, 2009, http://money.cnn.com/2009/03/13/technology/birger_sirius.fortune/index.htm

[43] Former stockbroker and RealMoney.com contributor Tim Melvin worries about the “significant competition for the company going forward” He notes:

Most of the younger people I know have iPod docks in their vehicles for listening to music. Smartphones are bringing music and podcasts to mobile consumers. E-reading machines have wireless connections that can eventually deliver content on a subscription or pay-per-use basis. I really do not need the sports channels from Sirius if I can watch and listen to the games I want on my phone. As time goes by, satellite radio will be viewed as a stepping-stone technology that was replaced by smartphones and other portable media devices.

Tim Melvin, Sirius’ Hopes Keep Slipping Away, The Street.com, Nov. 10, 2009, www.thestreet.com/story/10624757/1/sirius-hopes-keep-slipping-away.html?cm_ven=GOOGLEFI

[44] Olga Kharif, Sirius XM: The Good and Bad Earnings News, Business Week, Nov. 5, 2009, www.businessweek.com/technology/content/nov2009/tc2009115_002716.htm

[45] Melvin, supra 39.

[46] Robert McChesney, Murdoch’s Deal for the Journal: Yet Another Blow for Journalism, Free Press Press Release, July 30, 2007, www.freepress.net/release/260

[47] Michael Copps, Letter to FCC Chairman Kevin Martin, Oct. 25, 2007, http://hraunfoss.fcc.gov/edocs_public/attachmatch/DOC-277576A1.pdf

[48] Michael Wolff, Rupert to Internet: It’s War! Vanity Fair, Nov. 2009, at 112.

[49] www.freepress.net/comcast

[50] Josh Silver, Too Big to Block? Why Obama Must Stop the Comcast-NBC Merger, Huffington Post, Nov. 13, 2009, www.huffingtonpost.com/josh-silver/too-big-to-block-why-obam_b_356826.html

[51] www.forbes.com/feeds/afx/2009/11/19/afx7143505.html

[52] Adam Thierer and Grant Eskelsen, The Progress & Freedom Foundation, Media Metrics: The True State of the Modern Media Marketplace, Summer 2008, www.pff.org/mediametrics

[53] However, experience with regulation of sports programming suggests that FCC meddling has had negative unintended consequences.  See W. Kenneth Ferree, Competition in the Sports Programming Marketplace, Testimony before the Subcommittee on Telecommunications and the Internet, House Committee on Energy and Commerce, March 5, 2008, www.pff.org/issues-pubs/testimony/2008/030508ferreetestimony.pdf; Barbara Esbin, Unable to Watch the Big Game? Testimony before the National Conference of State Legislatures Communications, Financial Services and Interstate Commerce Committee, Apr. 25, 2008, www.pff.org/issues-pubs/testimony/2008/080425esbinNCSLpresentation.pdf

[54] Mike Berkley, The Comcast-NBC Deal is a Defensive Move by Comcast. It’s about Survival, TV News Stream, Nov. 16, 2009, http://tvnewsstream.com/the-comcast-nbc-deal-is-a-defensive-move-by-c

[55] Holman Jenkins, The Economics of Jay Leno, Wall Street Journal, Nov. 18, 2009, at A17, http://online.wsj.com/article/SB10001424052748704431804574541684183772504.html

[56] Chris O’Brien, Beware the Hype Around Mergers, MercuryNews.com, Nov. 12, 2009, www.mercurynews.com/chris-obrien/ci_13756963?nclick_check=1

[57] Scott A. Christofferson, Robert S. McNish & Diane L. Sias, Where Mergers Go Wrong, McKinsey on Finance, Winter 2004, at 2, http://westportcapital.com/library/McKinsey_Where_Mergers_Go_Wrong.pdf.  The authors noted that, “acquirers face an obvious challenge in coping with an acute lack of reliable information. They typically have little actual data about the target company, limited access to its managers, suppliers, channel partners, and customers, and insufficient experience to guide synergy estimation and benchmarks.”

[58] See, e.g., Israel M. Kirzner, Competition, Regulation, and the Market Process: An “Austrian” Perspective, Cato Institute Policy Analysis No. 18, 1982, www.cato.org/pubs/pas/pa018.html

[59] For example, congressional hearings have been held on this topic and the Federal Trade Commission is holding a workshop on December 1^st and 2^nd asking, “Will Journalism Survive the Internet Age?” www.ftc.gov/opp/workshops/news/index.shtml

A recent article by Lisa Carley in the New York Wine Examiner reports that Amazon is suspending plans that would have allowed wine producers to sell direct to consumers.  The culprit? State regulations:

One of the main reasons why this program has been put on hold is the complexity of wine-shipping laws within the United States, and that fact that the major wholesalers spend millions of dollars on the state level to keep it difficult for the consumer to have access to wine they want at good prices.

About 35 states permit some form of direct shipment to consumers, but laws vary greatly. In Virginia, consumers can order wine from any winery or retailer licensed in any state, as long as the seller registers with the state of Virginia and collects taxes. In Maryland, direct shipment of wine to consumers is still a felony. Montana limits the total amount of wine any consumer can order to 12 cases per year, which means most wineries won’t ship there because an individual winery has no way of knowing how much wine the consumer has ordered from other sellers. I’m not making this stuff up; check the Wine Institute’s compendium of state laws.

In several studies, Alan Wiseman and I found that consumers can enjoy significant savings on higher-priced wines if they order online.  (The savings disappear for wines priced under $20 per bottle because of shipping costs.) The Internet also gives consumers access to wines that they might not find by simply walking into a store.   

It would be a shame to see Amazon’s idea die. Currently, a winery or retailer that wants to ship directly to consumers has to figure out and comply with each state’s laws. It makes a lot of sense that a single retail sales portal could consolidate and continuously update this information, then set up a system that lets any seller market its wine direct to consumers in states where that’s legal, in compliance with all state laws.

It seems the whole web is incorporating social networking functionality. Microsoft recently led the way in incorporating functionality to search, allowing users to share search results they like with their social networking contacts directly from the search results page through Twitter and Facebook. I’ve also noted that it’s just a matter of time before the same thing happens with advertising—and that Facebook will likely lead the way.

Websites have long used social networking buttons to encourage visitors to join their Facebook group, follow them on Twitter, etc. Facebook recently made this even easier by creating a widget for pages that can easily be embedded on any site. So why is Facebook blocking advertisers from including social networking functionality in ads like this one? Facebook’s terms of service using the new Fan Box widget in ads. Facebook’s spokesperson told InsideFacebook.com:

We want Page owners to have an easy way to connect with fans both on and off of Facebook.  In order to protect the the Fan Box widget from being used for the wrong reasons, we do not allow it to be used in third party advertising.

InsideFacebook.com speculates:

it’s safe to assume that Facebook wants to protect the “Become a Fan” experience from becoming too intertwined with aggressive online ads that it hasn’t approved. One can imagine the variety of ways advertisers could (potentially misleadingly) push users to become a fan in an ad unit on a web site, then pollute their Facebook stream later. Facebook wants more control over that experience, even if it means partially restricting growth for Facebook Pages.

So why might policymakers be interested in this? Because, as Fred Vogelstein predicted in Wired this June, Facebook will likely someday soon expand beyond selling ads on its own site to selling ads on the wider Internet that incorporate social networking functionality like the “Become a fan” button above. There is a vast untapped market for online advertising, and if Facebook’s going to get a piece of it, they’ll have to offer something no other ad network can. If and when this happens, Facebook will likely get a lot of grief from the anti-advertising zealots, but this would actually be a good thing for consumers for five reasons:

1. Facebook would prove a powerful competitor to Google. The ability to offer what Google can’t is precisely the sort of “disruptive innovation” that could up-end Google’s current dominance of online advertising. Those who fear that Google is the be-all-and-end-all of online advertising will likely find that Google can’t “stay on top of the heap” forever because online services are so profoundly dynamic. Some likely complain that Facebook has an “unfair advantage” if it’s the only ad network that can supply ads using Facebook buttons, but in the topsy-turvy world of Internet competition, you have to fight “fire with fire”: The only way to unseat the current leaders is to find ways of exercising a bit of “market power.” That term sets off alarm bells in the heads of many who can’t bear the thought that competition should ever be “unfair” in any way. But competition, like life itself, is not fair: Denying Facebook the opportunity to sell ads would only retard innovation and reduce competition. Greater competition between ad networks would ultimately mean more revenue for publishers as well as increased pressure to compete for reputation among consumers in terms of better privacy practices.
2. Increasing the effectiveness of online advertising means more revenue for the publishers who might sell ads through Facebook, which in turn will increase the quantity and quality of ad-supported online content. In fact, even publishers who don’t sell their ad inventory through Facebook would benefit if overall ad prices go up.
3. More revenue for Facebook would allow the company to continue to innovate in building better social networking functionality for its users. As I said in my response to Vogelstein, “Facebook can’t keep losing money forever.”
4. For the same reasons that Facebook is so cautious today about allowing the use of their button in ads, they would likely provide very clear guidelines for any advertising they might sell on the wider web. Specifically, Facebook would have a strong incentive to policy for the kinds of deceptive uses InsideFacebook speculates about above.
5. In addition to any direct oversight exercised by Facebook, the “Social-ification” of advertising would also change the incentives of advertisers: If your goal is to get someone to “become a fan,” you have to be even more careful about the way you engage them.  Annoying ads that flash or blink might build awareness of your brand by overcoming ad-blindness, but they’re sure not going to be effective in getting people to “Fan” you! Facebook pages allow advertisers to build communities around their brands, which means engaging customers as, well, friends!

In short, we shouldn’t fear the kind of change that Vogelstein warns about.  If Facebook is really thinking about this, they’re probably taking the time to do this correctly, which means coming up with clear policies for advertisers as well as explaining to users what this means for them.

Interesting piece from Jeff Jarvis about “Google Bigotry,” or his belief that “media people are going after Google’s success for no good reason other than their own jealousy.”  Jarvis argues that reporters penning hard-nosed stories about Google are, in reality, just a bunch of envious cry-babies:

newspaper people will use their last drops of ink to complain about Google’s success and try to blame it for their own failures rather than changing their own businesses. ..  It’s not just that they dislike the competition – and they do, for it is a new experience for too many of them. If they were smart, they’d use Google to get more audience and make more money but they don’t know how to (or rather, they’d prefer not to change). No, the problem is that Google represents change and a new world they’ve refused to understand.

Well, yes and no.  I don’t believe that every story penned about Google by a mainstream media reporter is rooted in envy, and certainly not the one that Jarvis alludes to as prompting him to pen this piece.  Jarvis apparently received an inquiry from a French journalist at Le Monde asking for comment about “an article about Google facing a rising tide of discontent concerning privacy and monopoly.”  That doesn’t necessarily sound like an unreasonable journalistic inquiry to me. So, I’m not sure it’s fair to accuse every journalist who calls with a hard-nosed question about privacy and antitrust as being guilty of “Google bigotry.”

That being said, some journalists are likely feeling a bit miffed about Google’s recent success, thinking it comes at their expense, and, therefore, their envy might be prompting some of them to pen attack stories on the company.  I think Jarvis in on stronger ground, however, in asserting that most privacy and antitrust complaints about Google are unfounded, and also based on envy. Indeed, Berin Szoka and I have have been cataloging the complaints that we believe are driven by an irrational form of corporate envy we call “Googlephobia.”  And in prior years we saw a similar form of Microsoft-bashing at work that we still have with us today. That’s why I think Jarvis is on to something when he notes that Google-bashing represents a broader sociological phenomenon:

Do some people complain about Google? Yes, it is often the same people who complain about the internet and about change and technology and simply use Google as their target simply because it is so big and so innovative.

In one sense, this gets back to my ongoing discussion of the debate between “Internet optimists &  pessimists” regarding  the impact of the Internet and digital technology on our lives.  I’m what you might call a “pragmatic Internet optimist” because I generally believe the Internet is reshaping our culture, economy, and society in most ways for the better, but not without some heartburn along the way. But there are plenty of Internet pessimists out there who have a deep sense of unease with the Digital Revolution and life in the Information Age and only focus on the disruptions caused by this transition.  Thus, because Google is in so many ways intertwined and identified with this digital revolution, it is more likely they will become the scapegoat for every supposed problem the Internet skeptics identify.

But, let’s not lose sight of the broader psychological or sociological phenomenon at work here when we talk about corporate-bashing more generally.  The root of this problem really is envy.  In his great book, Envy: A Theory of Social Behaviour (1966), the German sociologist Helmut Schoeck noted that, although it is part of life, when taken to extremes, “Envy can also turn man to destruction.” “The envious man thinks that if his neighbor breaks a leg, he will be able to walk better himself,” he noted. Schoeck also discussed the “harm envy, or its institutionalized consideration, can do to the process of economic growth” and pointed out how market success almost always breeds bitter reactions and responses:

It is virtually impossible to undertake innovations in a society, to improve or even to to develop an economy process, without becoming unequal. But when can a leader or innovator ever be sure that he will not incur the ill-will of those who do not immediately benefit from his activity?

That’s essentially the problem Google faces today, just as Microsoft did before them. They’ve built better mousetraps and the world beat a path to their doors to use them — and damn quick. And they got big and rich quick, too.  What isn’t there to envy about their success!  Who wouldn’t want to be in their shoes? And when that envy incentivizes further innovation to knock them off their perches, that’s a great thing.  But far too often envy just breeds contempt for success and leads to calls to — as Schoeck put it — “institutionalize envy”  by having the government confiscate wealth or innovations “for the public good.”  Microsoft has been living with this nightmare for over a decade, and Google is now facing similar regulatory problems as its enemies list growing longer by the day.  Antitrust simply becomes the club to deliver the envious blow.

Finally, speaking of antitrust, Jarvis has some things to say in his essay about the substantive accusations of monopoly and privacy violations by Google that I think are generally correct:

Google is not a monopoly. It is a competitive company and it took advertising dollars for one simple reason: because advertisers found a better deal there – buying performance, not scarcity, with Google sharing their risk – than they ever found in our old media… Privacy? That is an overused word. The issue is not privacy, as I say in my book. It is control. You should also look at the benefits of publicness, which come when we share things about ourselves and find others like us. If you have problems with privacy then you have problems with every member of Facebook and its clones across the world and the entire generation that made social sites huge.

Over at Ars, Ryan Paul has an appropriately sharp-tongued response to the Mozilla Foundation’s troubling move to become a cheerleader for the European Commission’s ongoing antitrust efforts against Microsoft. Apparently Mozilla will assist the EC’s investigation “by offering expertise about the browser market.”

Paul focuses on what’s wrong with this in both a micro and macro sense. He rightly points out that the potential remedies here do not bode well for the future of this sector, since regulatory tinkering with high-tech product standards is bound to end badly and create a terrible precedent for future interventions. “It’s hard to find a rational argument in favor of mandatory standards enforcement,”  Paul says. “It would be punitive and unhelpful to the advancement of the web.” Moreover, Paul notes that things have never looked better on the browser front:

Claims that Microsoft’s monopoly status has eliminated competition in the browser market sound hollow in the face of the profoundly vibrant browser market that exists today. The record-setting launch of Firefox 3 added up to over 8 million downloads in the first 24 hours alone. Firefox’s global market share continues to climb every month and the browser has grabbed almost 30 percent of the European market.

And let’s not forget about those two little companies called Google and Apple who have competing products in the field! They’re making serious inroads in the browser wars. Moreover, Microsoft is struggling to hold on to whatever “dominance” they have left in their core market: OS. As Paul concludes:

To the observant tech enthusiast, all signs seem to indicate that Microsoft’s monopoly is on its way out. The Redmond giant is in no danger of annihilation, but it’s definitely not positioned to dictate terms to the rest of the industry anymore.

But what is perhaps most shocking about Mozilla’s call for intervention is the way that Mozilla Foundation chairperson Mitchell Baker minimizes the importance of not just Firefox, but the entire open source movement, when justifying EC intervention in this marketplace.

“The success of Mozilla and Firefox does not indicate a healthy marketplace for competitive products,” she wrote. “I am convinced that we could not have been, and will not be, successful except as a public benefit organization living outside the commercial motivations. And I certainly hope that neither the EU nor any other government expects to maintain a healthy Internet ecosystem based on nonprofits stepping in to correct market deficiencies.”

As Paul points out in his Ars story, “[Mozilla’s] position on this matter is highly questionable.” Indeed, I believe it’s more than just highly questionable, it’s a bit of insult to an entire community of developers. Paul is generally correct in his response that:

There are quite a few open source software enthusiasts who would argue that, for a broad range of software products, the emergence of a Mozilla-like model is actually desirable and highly advantageous for consumers. A point will eventually arrive for many kinds of software where there is simply no point in trying to derive value from shrink-wrapping it, and then efforts will converge around collaboratively-developed open source implementations that will displace and eliminate the need for proprietary commercial implementations. Why should that be viewed as unhealthy?

Indeed, but it actually goes beyond that. The message that Mozilla’s Baker seems to sending to the open source community is: You can’t change the world. Your voluntary, collaborative actions cannot correct market deficiencies or fulfill unmet needs.

Geez, isn’t that what the open source movement is all about?!  I’m hardly some sort of open source / free software fanatic — indeed, I envision a future full of plenty of open source AND proprietary types of software and service — but the beauty of the open source movement to me is the way it has so nicely filled unsatisfied niches of demand in the software universe.  And, here’s the really important point, as Paul points out in his Ars article:

The popularization of the open source development model arguably emerged as a response to Microsoft’s monopoly. Developers had to find innovative ways to compete with an entrenched product. If the government had intervened in the software industry at an early stage and those conditions hadn’t existed, the browser market could arguably be a lot less rich and competitive than it is today. If Internet Explorer had never gained the dominant marketshare to necessitate a change in the status quo, the only browser choices we would have today might be between an ad-encumbered Opera and a proprietary Netscape.

That is exactly right. I have been making the argument for many years that it is at a market’s supposedly darkest hour that we are likely seeing some of the most exciting innovation being spawned. People don’t innovate most when they are completely happy with the world around them. It’s when they are pissed-off that they get cracking!!  Mozilla’s Firefox is the perfect example of that. And so is just about everything that Google and Apple have developed in response to Microsoft over the past 10 years.

And yet, sadly, the folks at the Mozilla Foundation want to now become handmaidens to the state — and the European Commission, no less — in their pathetic effort to stick it to a competitor using the law instead of using more marketplace innovation and competition. SHAME ON YOU MOZILLA!  I would dump your browser today if I didn’t love it so much! And thank you to all the brilliant, dedicated people behind the scenes who do keep innovating and making Firefox even better. I sincerely hope that the Mozilla Foundation doesn’t speak for you on this matter.

Those who criticize Google as a “monopoly” usually focus on the search and advertising markets.  Google may indeed have a huge lead in those markets, but it is by no means a “monopoly” in the strict sense of the word as the only (“mono-“) seller in that market.  

If the critics are concerned about about true “monopoly” or at least something close to it, perhaps they ought to focus on Feedburner, the free service Google acquired back in 2007.  If one takes a very narrow definition of the service Feedburner offers, one could argue that there is no real alternative to Feedburner.  But on the other hand:

I have a very simple solution. I use my own RSS feed I don’t need some other company providing a enhanced solution. I have never understood why people used feedburner at all. Getting statistics from a feed is elementary. There are several services out their that provide podcast statistics. Stupidity in giving someone else control over ones feed is something I will never get. I have no sympathy for those having feedburner issues.

Regardless, some leading bloggers have expressed outrage over Feedburner’s less-than-perfect reliability—see this recent rant by Michael Arrington.  But we call in the federales to “fix” the “problem”—if one properly apply that term to a free service beloved by (nearly all) bloggers everywhere just because it’s not absolutely, positively 100% reliable or instantaneous or simply because some people don’t like the idea of using yet another Google product, no matter how good it is—let’s see what Feedsqueezer, a soon-to-be-launched service, will offer.

Note:  The word “monopoly” is now commonly used to mean “control that makes possible the manipulation of prices.”  It’s not obvious what that would mean in the case of those Google services, that are both free to the user and not directly related to any price paid by, say an advertiser—as distinct from, say, Adwords or Adsense, where there are at least prices that might, in theory, be controlled.

The NYT reports that Google has recently disclosed in an SEC filing that it had 1 million advertisers as of 2007.  Some analysts suggest that Google’s growing scale will lead to higher ad prices:

Ben Schachter, an analyst with UBS, said he expects the current number is likely to be between 1.3 million and 1.5 million. Google declined to comment on the current size of its advertising base. “It is a number that people have wanted to know for a long time,” Mr. Schachter said. More advertisers means more revenue — and more revenue, on average, for every search query — for a couple of reasons: a larger number of queries will have ads matched against them; and on popular queries, competition for placement will be more intense, and as a result, ad prices, which are set by auction, will be higher.

But is Google’s success really driving up ad prices?  The same piece also notes that:

Interestingly, each advertiser, on average, spent a little more than $16,000 a year on Google. That figure changed little between 2003 and 2007.

As one of the commenters on the piece noted:

If average advertiser expenses hasn’t really changed in the last 5 years, maybe Google’s argument that it’s not a monopoly because prices are determined by ad auctions, not Google’s search share, holds some weight.

Meanwhile, Google Watch notes Microsoft’s recent success in signing up Verizon, Dell, Sun and Hewlett-Packard as partners for Microsoft’s Live Search engine and asks whether Google’s success is driving potential partners into Microsoft’s arms, as Microsoft appears to be working harder to gain market share for its own search and advertising products.  So can Microsoft—and Yahoo!—regain momentum?

Perhaps 2009 will bring some answers to these questions—and more hard data about ad prices.  But whatever happens, it’s a safe bet that speculation and fierce argument will abound with every new development in the search/advertising wars.