Internet Economics +Regulating Technology ISpring 2007February 27

Today

The emerging role of the Internet in economic growthInternet business modelsRegulating Internet infrastructureNet Neutrality

Today

Markets are central to economic processes

When might we need government?Market failures: externalities, public goods, monopoly, imperfect information

Economic Development 1.0CapitalOutputLabor Technology

Economic Development 2.0Physical capitalOutputLabor Technology Human capital

Economic Development 2.xCivic organizations & institutionsGovernanceEconomic DevelopmentInnovation & Productivity

Civic organizations & institutionsGovernanceEconomic DevelopmentInnovation & Productivity Information Technology & CommunicationEconomic Development the Role of ICT

Transactions CostsRonald Coase The nature of the firm 1937Transactions costs influence the structure of production, firms and marketsTransactions costsSearch costs and information costsBargaining and contracting costsPolicing and enforcement costsProtecting trade secrets

InstitutionsDouglass North the rules of the gameInstitutions reduce transactions costsInstitutions include the rule of law, property rights, social norms,

AnonymityLAWMARKETNORMSARCHITECTURE

AnonymityLAWMARKETNORMSARCHITECTURE

AnonymityLAWMARKETNORMSARCHITECTURE

What are the most important stories in Internet business and economics?

AmazoneBayGoogle YahooiTunesWikipediaCraigs listOutsourcingSyndicationAggregationOpen source

New models or more competitive?Internet = falling transactions costsParticularly for information services and knowledgeInternet = lower costs of information

How much is delivering new products and services and how much is displacing existing businesses?Are the institutions changing as well?

Internet Business Models

The Long Tail

Long TailSale of less popular products is now a larger part of total salesLower search costs = more available for more peopleLower inventory and distribution costs make it becomes profitable to sell a wider variety Netflix vs. the video rental storeAmazon vs. the bookstore

What is the net result: new mega-corporations or support for small producers?

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FriedmanThe World is FlatSupply chains that stretch across oceansOutsourcing technical support, software engineers, tax preparation, the presentation for your meeting, McDonalds, JetBlue, and so onGlobalization is here deal with it

Internet & GlobalizationInternet has helped to spur on globalizationCost of distributed production has droppedLess need for locating labor close to product sales and servicingLower information costs create new production, trade and management alternativesEffective aggregators of low cost producersTechnology transferWalmart & the supply chain

Globalization IIHigher growth + economic developmentCorrelated with reduced job securityDisruption, uncertainty and adjustment costsDecline in local economiesWinners and losers

Market failuresPublic goodsImperfect informationMonopolyExternalities - spillovers

Network effectsNetwork effects = positive externalities = spillovers ~= public goodsReeds law networks scale exponentiallyInteroperabilityPath dependency & lock-inBarriers to entry and competition Fax machine; IM; Windows; Wikipedia; markets

Defining Public Goods

Internet: Public or Private?

Internet: Public or Private?

Typology of Infrastructure

Typology of Infrastructure

MonopolyEconomies of scaleHigh fixed costsLow variable costsFalling costs of productionChoices:Private production without regulationPrivate production with regulationPublic production

So what should we do about it?Is there a role for government?Telecommunications policy

Three eras of communication: Over-the-airLocalism, Diversity, UniversalismCableRelationship between cable and over-the-airInternetInnovation, competition, democracy

Radio Act of 1927

SEC. 11. If upon examination of any application for a station license or for the renewal or modification of a station license the licensing authority shall determine that public interest, convenience, or necessity would be served by the granting thereof, it shall authorize the issuance, renewal, or modification thereof in accordance with said finding.

Public Interest in the Broadcast AgeTrusteeship model with commercial broadcasters Public Broadcasting Service and Corporation for Public BroadcastingPublic, Educational, Government (PEG) Access Channels

A Fundamental ShiftScarcitytoCompetition

Regulatory Failure(1982)

Telecommunications Act of 1996

Deregulatory, in the hope of fostering competition

Market Failure

A Fundamental ShiftOne-to-ManytoMany-to-Many

Public Interest Media in the Internet Age Today our problem is not making miracles--but managing miracles. We might well ponder a different question: What hath man wrought--and how will man use his inventions?

Generativity

RhetoricNeutralityDiscriminationRed Herrings and Straw Men

Framers Intent?Bob Kahn:Network Neutrality is a dogmatic slogan that means: "nothing interesting can happen inside the net"Vint Cerf:On discriminatory techniques: Im worried that such a business model will seriously impair innovation in the network

Mapping the Neutrality DebateThe Telecom/Cable PositionHow do we incentivize investment & innovation?

Antitrust (ex post)A possible market-power oriented solution?

Regulation (ex ante) Should we trust antitrust?

Four Internet Freedomsaccess the lawful Internet content of their choicerun applications and services of their choice, subject to the needs of law enforcementconnect their choice of legal devices that do not harm the networkcompetition among network providers, application and service providers, and content providers(Although the Commission did not adopt rules in this regard, it will incorporate these principles into its ongoing policymaking activities. All of these principles are subject to reasonable network management.)consumers are entitled to

Sample Legislation

Verizon Positionregulation categorically fails

Nondescrimination regulation would be a new impositionCompetition exists and is fierce

Antitrust (ex post)Madison River and VonageCould rely on market definitionsDesigned to solve problems only when they occur

Should We Trust Antitrust?Is it effective?Can it be clear enough?Does it capture the public interest?

Regulatory Approaches (ex ante)

Vertical, and the legacy of common-carrierLayer-based models

Wus proposal

Internet economicsHow to monetize the distribution of information?Managing intellectual property rightseCommerce

New Internet economicsLeveraging information for human and economic developmentForming new institutions for growth and better governancePeer production Innovation commons

Take HomeFalling transactions costs and lower prices create new markets and production possibilitiesBig changes means big winners and losersKey question is how to address issues of public goodsInstitutions including property rights play a key role in economic growth. There are many avenues towards innovation. Should policy favor one over the other?

Institutional changeTechnological change is rapidChanging technology can undermine existing institutionsInstitutional change has historically been slow