A New Regulatory Model for a New Telecom Era

Published May 24, 2004

The Communications Act of 1934 was written when the country had a unified, closed telecommunications platform–the twisted-copper-pair-based Public Switched Telephone Network (PSTN).

That single-platform voice world had some defining characteristics that made it relatively easy to regulate.

First, that world was localized, meaning it was divisible into distinct local and long-distance parts, and the infrastructure on which the communications traveled followed a knowable geographic path. Second, it was self-contained, meaning the regulator could accomplish social goals by manipulating rates to accomplish desired ends. And third, it had a single product–voice–integrated onto a single platform, and therefore could be regulated distinctly as a “telecommunications service.”

That age is at an end. Today, multiple existing and emergent platforms compete for consumers’ communications dollars. Along with traditional PSTN-based service, consumers can choose among wireless, email and instant messaging, circuit-switched cable telephony, and emerging Voice over Internet Protocol (VoIP) technologies. VoIP in particular promises to bring a torrent of choice and progress that will rush over, through, and past the old legacy regulatory rules. These emerging platforms will thrive only so long as they avoid the old legacy regulatory quagmires and classifications.

Policy Implications

What does this new, open system of competing telecommunications platforms mean for law and regulation?

As an initial matter, communications is no longer local, but instead national and even international in scope. A packetized communication, be it voice or data, does not follow a prescribed geographic path. The traditional jurisdictional distinctions no longer make sense.

Second, the self-contained regulatory world and the legal distinctions that sustained it no longer matter. Legal definitions of “information service” and “telecommunications service,” while debated endlessly by regulators and policy wonks, are irrelevant to today’s technological reality. Maintaining these distinctions into the future will do serious harm to consumers and producers.

Third, the architecture of today’s networks has changed, and the regulatory regime needs to adapt. It is no longer necessary for carriers to integrate facilities and services at the physical layer of the communications platform. The physical layer should be regulated the same across all platforms, regardless of what application layer is running over it. This layered concept of regulation means voice, merely one of several applications running over a physical network, should not be singled out for special regulatory purposes.

Just because the layered concept is helpful does not mean it can dictate specific outcomes we should aim at through regulation. We simply do not know the optimal degree of bundling and integration. In a competitive broadband, packetized world, the market will drive to the amount of integration and bundling that best serves consumers.

Under the old regulatory system, rates are manipulated by regulators, who favor some telecommunications products (and their consumers) over others. In the new world, technologies like VoIP will evade the regulators’ attempts at such cross-subsidies and special regulatory treatment. In the end, of course, the costs are borne by consumers. A freer, more explicit pricing system will serve them best.

Related to this, the intercarrier compensation system must be radically reformed so that access arrangements between carriers are rationally related to cost. Better yet, these arrangements also should be left to the market, as they are for the Internet backbone market.

Policymakers must also consider what sort of institutions will be needed to implement the next Communications Act. The FCC is slow; technology is fast. The FCC is split by muddled political compromises and legal uncertainty; capital markets that will finance the next generation networks need certainty and legal clarity. Because of its tendency toward political, as opposed to legal, determinations, the FCC has a dismal record in the courts on appeal.

Two Types of Regulation

Put broadly, there are two sorts of regulation: “Mother may I” and “Wait ’til your father gets home.”

The FCC and state utility commissions practice “mother may I” regulation. They require advance permission for engaging in this activity or that. Companies must get permission to do business, define the terms of a contract, and set prices.

“Mother may I” regulation was devised for an era of regulated monopoly, when there was a single provider and a limited set of services. It is prone to high error costs because it assumes the regulator knows best. But if the regulator does not, or even makes an honest mistake, the whole industry can suffer.

By contrast, “wait ’til your father gets home” regulation occurs after the fact. This, for the most part, is the sort of authority we give to agencies like the Federal Trade Commission and Antitrust Division. In this regulatory world, the market and market players are free to do what they want, use what technologies they want, do business with whom they want, and charge what they want, subject only to after-the-fact oversight for antitrust violations, consumer fraud, or other breaches of legal or contractual obligations.

This regulatory model is better suited for the next Communications Act. It applies laws, rather than attempt to make them. It minimizes regulatory errors and allows technological ingenuity and entrepreneurial dynamism to take the market to places regulators cannot even imagine.

With the proper regulatory conditions in place, new technologies will eclipse what remaining pockets of market imperfection persist in the communications space. The choice is between slightly immature but largely self-correcting markets, and demonstrably imperfect regulation that does not self-correct and often impedes progress and economic growth.

Raymond L. Gifford ([email protected]) is president of the Progress & Freedom Foundation. This article is excerpted from testimony he delivered to the U.S. Senate Committee on Commerce, Science, and Transportation, April 28, 2004.