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Writing on Telecom’s Wall

By 28 June 2010 One Comment

The term “the writing on the wall” is applied to any portent of doom, based on the words Mene Mene Tekel Pharsin that appeared spectrally during King Belshazzar’s feast in the Book of Daniel.

Congress has been writing on a lot of walls lately, most recently in the financial reform bill which, buried on pages 1884-1904 of 2315, provides for price controls on debit card interchange charges. The silliness of this provision in the context of debit cards was covered last week in Crony Capitalism, so today’s sermon is the import for other industries that must make huge capital investments up front which are then recovered by charges that exceed the variable costs of providing the services — industries such as telecom (or pharmaceuticals, or software, or computers, or every other sector of an industrial society).

The essence of the new requirement is that the fees shall be based on marginal cost pricing. They are to be “reasonable and proportional to the cost incurred by the issuer with respect to the transaction,” and in assessing this, the regulator shall:

(B) distinguish between the incremental cost incurred by an issuer for the role of the issuer in the authorization, clearance, or settlement of a  particular electronic debit transaction, which cost shall be considered under paragraph (2); and (ii) other costs incurred by an issuer which are not specific to a particular electronic debit transaction, which costs shall not be considered under paragraph (2).

Then come the exceptions — for fraud prevention charges, for issuers with assets under $10 billion, for government-issued payment cards, for prepaid cards. Then, because regulations always metastasize, the Board is given power to regulate other charges, lest these be used as substitutes for interchange fees.

Rembrandt - from Wikipedia

The pricing of services offered by networks is a difficult business problem. In industries governed by comprehensive regulatory schemes, it is a difficult regulatory problem. The network offers its services to many customers:  who pays what? The economists’ have done great harm by their focus on marginal cost pricing as the “efficient” price, because, rather obviously, no industry with any investment expense at all can charge marginal cost.

My colleague Solveig Singleton has written the best account of the issue in Is Cheaper Always Better? Misusing the Concept of Marginal Cost in Policy Discussions (July 24, 2008). See also my Marginalized (July 29, 2003), and the Competitive Enterprise Institute’s 2004 program on Declining Marginal Cost Industries in the Global Information Age, which includes interviews with the giants Lester Telser & Ronald Coase.

But Congress now sees it as its province to pick a network and decree that, with respect to some services, some favored users must receive marginal cost pricing, unless of course the services are provided by favored providers, who are exempt.

There is no limit to the fields to which this lack of principle could be extended, and telecom companies are at immediate risk because they are such obvious targets. Congress could require, for example, that video–on-demand be offered at marginal cost, or VoIP, or that universities or non-profits receive all services at marginal cost, or anything else that the mind of a DC rent-seeker can conceive.

Of course, as more services or people are exempted from any need to pay for the fixed costs of the system, the burden on the remaining non-exempt users (aka, “the suckers”) grows until they withdraw in droves, and the formerly favored interests find themselves stuck with the entire bill for investment in the network, at which point the whole network goes into run-off because there is no money to pay for maintenance.

BTW – Belshazzar’s kingdom collapsed that very night. It may take a bit longer for Congress to realize what a fine new toy it has created for itself, but it has a pretty fast learning curve for this type of thing.

Image from Wikipedia Commons.

One Comment »

  • Endangering Digital Commerce « The Enterprise Blog said:

    […] provisions that will have unknown, but probably serious, impacts on digital commerce. It requires marginal cost pricing for interchange fees, a precedent that should alarm network proprietors everywhere (e.g., telecom); it upsets current […]