Monday, January 6, 2014

Some Pro-Competitive Policies Just Don't Work

Political rationality and economic rationality sometimes are in conflict. In other words, public policy sometimes (perhaps often) is applied in ways that actually are counter productive, whether that is communications policy or social policy.

One example: nearly two years after the official end of the "Great Recession," the U.S labor market remains historically weak. Counter intuitively, dramatic expansions of unemployment insurance might be prolonging the problem.

In other words, not only do our efforts to ameliorate distress do very little, those efforts actually cause the problem to become worse.

To be specific, a study by the National Bureau of Economic Research suggests that
unemployment insurance extensions had significant but small negative effects on the probability that the eligible unemployed would exit unemployment, concentrated among the long-term unemployed.

In other words, UI benefit extensions raised the unemployment rate in early 2011 by about 0.1 to 0.5 percentage points.

National policies to promote competition in telecommunications markets suffer from similar dangers. What “seems reasonable” to promote consumer welfare might in fact lead to the opposite effect, namely a reduction in long term consumer welfare.

The practical example is policy affecting the number of providers in any market segment. And just how few service providers are necessary to provide meaningful competition in any segment of the telecommunications business is a thorny question.

Many observers would say the empirical evidence is fairly clear when the number of suppliers is “one or two,” based on the history of monopoly fixed network communications, or sluggish adoption, high prices and limited innovation when just two mobile service providers operated in any single market.

But there is more controversy about the minimum number of contestants required in the satellite TV segment, fixed network business and mobile business, under present circumstances.

Intermodal competition (competition from other suppliers outside the segment) is the difference. A few decades ago, one might have argued, as did U.S. antitrust regulators, that the satellite TV market would be insufficiently competitive if the two suppliers merged.

These days, satellite TV competes directly, and successfully, with cable TV and telco TV suppliers, at least for the video product. But satellite providers are at a clear disadvantage in the areas of broadband Internet access, voice and interactive services generally.

So “two becoming one” in the satellite segment might not be as challenging as in the past, in terms of impact on consumer welfare.

The other key challenge is the minimum number of service providers necessary to maintain effective or reasonable levels of competition in the core fixed network and mobile service segments.

In the fixed network access market, that minimum number today is “two.” Google Fiber will provide a key test of whether the long-term number of sustainable providers can become “three.”

In the U.S. mobile communications business, the developing issue is whether three major providers will provide sufficient sustainable competition. To be sure, there will be a common sense belief that four providers provides more competition than three providers.

That, in fact, is a common belief for regulators in some European markets.

To the extent that is true, the issue is whether competition is sustainable over the long term. Highly fragmented markets can be relatively stable over long periods of time, so long as capital intensity is low. Most packaged consumer products categories provide examples.

But access networks are capital intensive, limiting the number of viable providers over the long term, even if, in the near term, competition can temporarily support more competitors. And that’s the conundrum.

It is difficult to say what the minimum number of providers must be to provide the benefits of competition, beyond the number “one.” One is tempted to argue that “more providers” provides greater benefits than “fewer” providers.

That might even be the case, in the short term. Over the long term, sustainable competition might feature fewer competitors. The reason is simple enough: capital intensive businesses require enough profit margin to allow robust investment in the business.

Having “too many” providers in a market tends to reduce profit margins so much that no providers, at least theoretically, can earn enough to sustain themselves over the long term.

So although “more” sounds like a better recipe for competition than “fewer,” fewer might be the way to sustainable long term competitive benefits.

Sure, it sounds crazy that “fewer” competitors might produce better consumer outcomes than “more” competitors. But the problem is that a highly capital intensive business requires methods to earn enough money to build the next generation of networks. And “excessive” levels of competition might be quite detrimental in that regard.

In the end, perhaps political rationality wins, at the expense of economic rationality. But there is no reason to pretend that some policies designed to promote competition and consumer welfare actually will do so.

Some policies designed to ensure competition might actually do so at the expense of the ability to invest in the next generation of networks. In that sense, some touted pro-competitive policies might lead, in the long term, to sub-optimal consumer welfare.

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