Assessing the Need for More Incentives to Stimulate Next Generation Network Investment Assessing the Need for More Incentives to Stimulate Next Generation Network Investment A Presentation at the 38 th Annual Telecommunications Policy Research Conference Arlington, VA October 2, 2010 Rob Frieden, Professor of Telecommunications and Law Penn State University Web site : Blog site:

2 Regulatory Brinksmanship and Framing the Debate Politically adept stakeholders in telecommunications policymaking have created a truism that any government regulation creates disincentives for investments in essential (and job creating) next generation network (“NGN”) infrastructure. Politically adept stakeholders in telecommunications policymaking have created a truism that any government regulation creates disincentives for investments in essential (and job creating) next generation network (“NGN”) infrastructure. Legislatures and policy makers take this assertion as a given without empirical proof. Legislatures and policy makers take this assertion as a given without empirical proof. The stakeholders also emphasize the existence of “robust” competition which erode market share and profits, e.g., replacement of wireline telephony with Voice over the Internet Protocol (“VoIP”) service provided by cable television. The stakeholders also emphasize the existence of “robust” competition which erode market share and profits, e.g., replacement of wireline telephony with Voice over the Internet Protocol (“VoIP”) service provided by cable television. Might competitive necessity and the loss of core market revenues force NGN investment even in the absence of government-created incentives? Might competitive necessity and the loss of core market revenues force NGN investment even in the absence of government-created incentives? Note that the same companies that condition investment on incentives have needed no such incentives and have paid billions for the privilege of making huge investments in NGN wireless plant. Note that the same companies that condition investment on incentives have needed no such incentives and have paid billions for the privilege of making huge investments in NGN wireless plant. These very same companies gladly take almost $9 billion in basic telephone service subsidies, but largely have refused to participate in rural and underserved broadband development programs. These very same companies gladly take almost $9 billion in basic telephone service subsidies, but largely have refused to participate in rural and underserved broadband development programs. This paper asks: what drives carrier investment decisions and when, if ever, should government create NGN investment incentives? This paper asks: what drives carrier investment decisions and when, if ever, should government create NGN investment incentives?

3 Local Loop Unbundling as a “Confiscation” In the horse trading leading up to enactment of the Telecommunications Act of 1996, incumbent wireline carriers agreed to provide new resale competitors with unbundled access to switching and transmission capacity at below market rates in exchange for new market access opportunities. In the horse trading leading up to enactment of the Telecommunications Act of 1996, incumbent wireline carriers agreed to provide new resale competitors with unbundled access to switching and transmission capacity at below market rates in exchange for new market access opportunities. The incumbents belatedly determined that they accepted a losing deal as long distance telephone services generated low margins and profits. The incumbents backed off their access commitments and claimed in litigation that local loop unbundling (“LLU”) was an unconstitutional taking of property. The incumbents belatedly determined that they accepted a losing deal as long distance telephone services generated low margins and profits. The incumbents backed off their access commitments and claimed in litigation that local loop unbundling (“LLU”) was an unconstitutional taking of property. While the Supreme Court rejected this claim, lower courts accepted arguments that the FCC should use finely calibrated and granular efforts to jumpstart competition. The courts accepts the argument that too generous resale opportunities would remove incentives for market entrants to build their own networks. While the Supreme Court rejected this claim, lower courts accepted arguments that the FCC should use finely calibrated and granular efforts to jumpstart competition. The courts accepts the argument that too generous resale opportunities would remove incentives for market entrants to build their own networks. How does this rationale jibe with the fact that over $1 trillion was invested in telecommunications during the dotcom gold rush, including billions in fiber optic plant? Bear in mind incumbents often acquired rights of way at near zero cost. How does this rationale jibe with the fact that over $1 trillion was invested in telecommunications during the dotcom gold rush, including billions in fiber optic plant? Bear in mind incumbents often acquired rights of way at near zero cost.

4 Local Loop Unbundling as a “Confiscation” (cont.) As the Supreme Court noted, incumbent carriers never proved any network sharing obligation was mandated at below cost rates. As the Supreme Court noted, incumbent carriers never proved any network sharing obligation was mandated at below cost rates. FCC statistics show that incumbent carriers never had to invest in more plant to accommodate reseller demand. Compulsory rentals from incumbents to newcomers peaked at 12% and stood at 8% before the FCC stopped collecting the data. See Trends in Telephone Service (Aug. 2008), at p. 8-8; available at FCC statistics show that incumbent carriers never had to invest in more plant to accommodate reseller demand. Compulsory rentals from incumbents to newcomers peaked at 12% and stood at 8% before the FCC stopped collecting the data. See Trends in Telephone Service (Aug. 2008), at p. 8-8; available at

5 What Drives Carrier Network Investment Decisions? Incumbent carriers have framed NGN network investment as driven primarily by regulations, as though the general business cycle, competitive necessity, the cost of capital, new investment opportunities, technological innovation and declining revenues in core markets did not matter. A change in regulatory climate does not explain why Comcast wants to acquire NBC and Bell Canada seeks to increase to 100% its ownership of a major broadcast television network. Sponsored researchers have claimed that when the FCC eliminated LLU requirements, incumbent carriers expedited and vastly increased NGN investment. But did deregulation solely cause this outcome? Might proven demand for broadband have had a significant impact? Just as wireless has provided incumbents with a revenue generating alternative to wireline services, broadband demand surely has and will stimulate investment. But if U.S. NGN investment or market penetration lags, what strategies should legislatures and regulators use? U.S. policy concentrates on deregulation and additional incentive creation through subsidies and other forms of supply-side stimulation.

6 NGN Investment Stimulation Requires Exact Calibration In a major shift in policy the Obama Administration and Congress have targeted broadband development for $7.2 billion in subsidies. Without exact calibration, government risks subsidizing projects that carriers would pursue even without taxpayer underwriting. In a major shift in policy the Obama Administration and Congress have targeted broadband development for $7.2 billion in subsidies. Without exact calibration, government risks subsidizing projects that carriers would pursue even without taxpayer underwriting. While best practices require nations to consider a variety of strategies for stimulating NGN development, the U.S. government has become preoccupied with “incentivizing.” While best practices require nations to consider a variety of strategies for stimulating NGN development, the U.S. government has become preoccupied with “incentivizing.” Governments need to calibrate incentive creation and avoid tilting the competitive playing field with inconsistent regulation, subsidies, grants, tax credits, loans, loan guarantees and other incentives. Governments need to calibrate incentive creation and avoid tilting the competitive playing field with inconsistent regulation, subsidies, grants, tax credits, loans, loan guarantees and other incentives. NGN development has a substantial impact of a nation’s competitiveness in the NGN development has a substantial impact of a nation’s competitiveness in the global economy and should not be the subject of regulatory brinksmanship.

7 Until 2009 the U.S. Assumed a Robustly Competitive Broadband Market Existed Despite ample evidence to the contrary, until 2009 the U.S. government, including the FCC saw no need to create broadband incentives based on evidence of global best practices. “[T]here is substantial competition in the provision of Internet access services. Broadband penetration has increased rapidly over the last year with more Americans relying on high-speed connections to the Internet for access to news, entertainment, and communication. Increased penetration has been accompanied by more vigorous competition. Greater competition limits the ability of providers to engage in anticompetitive conduct since subscribers would have the option of switching to alternative providers if their access to content were blocked or degraded. In particular, cable providers collectively continue to retain the largest share of the mass market high speed, Internet access market. Additionally, consumers have gained access to more choice in broadband providers.” AT&T Inc. and BellSouth Corp., Application for Transfer of Control, Memorandum Opinion and Order, 22 FCC Rcd. 5662, (2007). In 2008, John Kneuer, then Assistant Secretary for Communications and Information and Administrator at the Commerce Department’s National Telecommunications and Information Administration claimed the United States “has the most effective multiplatform broadband in the world.”

8 Suddenly in 2010 the FCC Recants The FCC now estimates that 1,024 out of 3,230 counties in the United States and its territories are unserved by broadband, and between approximately 14 to 24 million Americans do not have access to any form of broadband service. The FCC now estimates that 1,024 out of 3,230 counties in the United States and its territories are unserved by broadband, and between approximately 14 to 24 million Americans do not have access to any form of broadband service. The... [unserved] group appears to be disproportionately lower-income Americans and Americans who live in rural areas. The goal of the statute, and the standard against which we measure our progress, is universal broadband availability. We have not achieved this goal today, nor does it appear that we will achieve success without changes to present policies. The evidence further indicates that market forces alone are unlikely to ensure that the unserved minority of Americans will be able to obtain the benefits of broadband anytime in the near future. Therefore, if we remain on our current course, a large number of Americans likely will remain excluded from the significant benefits of broadband that most other Americans can access today. Given the ever-growing importance of broadband to our society, we are unable to conclude that broadband is being reasonably and timely deployed to all Americans in this situation. The... [unserved] group appears to be disproportionately lower-income Americans and Americans who live in rural areas. The goal of the statute, and the standard against which we measure our progress, is universal broadband availability. We have not achieved this goal today, nor does it appear that we will achieve success without changes to present policies. The evidence further indicates that market forces alone are unlikely to ensure that the unserved minority of Americans will be able to obtain the benefits of broadband anytime in the near future. Therefore, if we remain on our current course, a large number of Americans likely will remain excluded from the significant benefits of broadband that most other Americans can access today. Given the ever-growing importance of broadband to our society, we are unable to conclude that broadband is being reasonably and timely deployed to all Americans in this situation.

9 For Years the FCC Provided One Source Document for All the Positive News on Broadband Penetration—Everything Else Constituted a “Trade Secret” Necessitating Confidential Treatment

10 Until 2010 the FCC Asserted that the U.S. Had 100% Broadband Penetration With Consumers in 94.6% of All Zip Codes Having 4 or More Broadband Choices Source: FCC (2009) Percent of Zip Codes with High-Speed Providers

11 source: OECD (2009) The U.S. Ranks 15 th Among OECD Nations in Terms of Household Penetration source: OECD (2009)

12 source: OECD (2008) The U.S. Lags Most Nations in Broadband Penetration On the Basis of Per Capita GDP source: OECD (2008)

13 source: Internetinnovation.org;

14 Who’s Statistics Are Most Credible? Most satellite and terrestrial wireless broadband options do not yet provide true broadband service, yet the FCC reports that 32.1% of all lines provided via satellite, terrestrial fixed or mobile wireless advertized service at greater than 200 kbps; the percentage drops to 13.0% using the lowest rate proposed in the National Broadband Plan. Most satellite and terrestrial wireless broadband options do not yet provide true broadband service, yet the FCC reports that 32.1% of all lines provided via satellite, terrestrial fixed or mobile wireless advertized service at greater than 200 kbps; the percentage drops to 13.0% using the lowest rate proposed in the National Broadband Plan. The U.S. government and sponsored academics dispute the OECD statistics as failing to include Wi-Fi hot spots, at work access, etc. The U.S. government and sponsored academics dispute the OECD statistics as failing to include Wi-Fi hot spots, at work access, etc. Additional excuses include the lack of computer literacy and access, having a large rural hinterland, adverse demographics, yet other nations with similar disadvantages do better. Additional excuses include the lack of computer literacy and access, having a large rural hinterland, adverse demographics, yet other nations with similar disadvantages do better. Bear in mind that in 2010 the FCC determined that up to 24 million Americans have no broadband access options, agreed that 200 kbps isn’t really a broadband speed, migrated from zip code to census tract/county measurements and acknowledged a gap between advertized versus delivered bit rates. Bear in mind that in 2010 the FCC determined that up to 24 million Americans have no broadband access options, agreed that 200 kbps isn’t really a broadband speed, migrated from zip code to census tract/county measurements and acknowledged a gap between advertized versus delivered bit rates.

15 Reasons Why Incumbents Can Postpone Major Broadband Investment Currently incumbents can “make their numbers” thanks to still growing wireless revenues, generous universal service funding, and the absence of competitive necessity. Currently incumbents can “make their numbers” thanks to still growing wireless revenues, generous universal service funding, and the absence of competitive necessity. In the third quarter of 2009, Verizon reported that 58% of its total revenues accrued from wireless service. In the third quarter of 2009, Verizon reported that 58% of its total revenues accrued from wireless service. Most of the nearly $9 billion annually allocated for universal service flows to incumbent local exchange carriers. Most of the nearly $9 billion annually allocated for universal service flows to incumbent local exchange carriers. U.S. broadband in many locales is comparatively slow and expensive despite two platform options (DSL and cable modem). U.S. broadband in many locales is comparatively slow and expensive despite two platform options (DSL and cable modem). Until 2009, the U.S. had no targeted broadband development funding. Until 2009, the U.S. had no targeted broadband development funding.

16 Global Best Practices in Broadband Development Best practices does not require nations to “throw money at the problem,” but instead: Develop a vision and strategy; Develop a vision and strategy; Promote digital literacy, i.e., the ability to use digital technologies to pursue information, communications and entertainment interests;Promote digital literacy, i.e., the ability to use digital technologies to pursue information, communications and entertainment interests; Invest in infrastructure, aggregating demand, and serving as an anchor tenant;Invest in infrastructure, aggregating demand, and serving as an anchor tenant; Foster facilities-based competition;Foster facilities-based competition; Create targeted incentives for private investment and disincentives for litigation and other delay tactics;Create targeted incentives for private investment and disincentives for litigation and other delay tactics; Offer electronic government services, including healthcare, education, access to information, and licensing;Offer electronic government services, including healthcare, education, access to information, and licensing; Auction off universal service franchises that receive subsidies and grants; andAuction off universal service franchises that receive subsidies and grants; and Revise and reform governmental safeguards to promote a high level of trust, security, privacy, and consumer protection in NGN services, including electronic commerce.Revise and reform governmental safeguards to promote a high level of trust, security, privacy, and consumer protection in NGN services, including electronic commerce.

17 Development Models Top/Down Nations emphasize expanding the supply of broadband capacity by stimulating access through: Expanded universal service obligation to include broadband service; Use of targeted financial stimulus tools such as grants, subsidies, and tax credits; Reallocated spectrum to expand available bandwidth useable for broadband services; and Supporting competition from multiple platforms, including retrofitted fixed line telephone networks, cable television plant, white spaces and other wireless options, fiber optic links, and the powerline grid.

18 Development Models (cont.) Bottom/Up Nations emphasize stimulation of demand for NGN and the services they deliver through government: Becoming an early provider of NGN-mediated services and an underwriter of programs designed to enhance digital literacy, i.e., the skills needed to use NGNs for enhancing social and personal utility; Offering access to e-government services ; Offering free or subsidized computers and support for the creation of digital content; Funneling grant money to “community champions” and broadband demand aggregators in addition to carriers; and Addressing consumer protection issues including, privacy, network reliability, security and neutrality, and competition policy issues.