Sunday, October 31, 2010

UTOPIA: A Costly Lesson in the Failure of Government-Owned Networks

Back in the news this month is UTOPIA, a broadband network venture of several Utah municipalities facing mounting debts. As recently covered in Communications Daily and other news outlets, UTOPIA member cities are considering a $60 million bailout to sustain the project. With local taxpayers potentially on the hook for even more money if the pricey bailout plan fails to make good on its promises, UTOPIA provides an unfortunate – but highly instructive – example of the financial perils of government-owned broadband networks.

Government ownership and operation of broadband networks poses potentially serious problems and pitfalls. Threshold concerns raised by government-owned broadband networks include whether government might use its taxing and rights-of-way powers to its give its own networks advantages over existing or potential private competitors, whether government has the institutional incentives and competency to provide advanced information services undergoing rapid innovation, and (particularly in the case of UTOPIA) whether taxpayers are sufficiently protected from financial failures. Whatever the potential upshots to government-owned broadband projects may be, the potential downsides should strongly caution any community against getting their government in the business of broadband business.

When it comes to government-owned broadband networks, a cautionary case in point is the struggling UTOPIA – the Utah Telecommunications Open Infrastructure Agency. UTOPIA member-city governments built and operate a fiber network, also allowing private ISPs to use the infrastructure to offer services. Launched less than a decade ago, the project was initially funded by a $185 million bond issue for which member cities have (thanks to refinancing) pledged over $500 million to back with sales tax revenue if subscriptions fall short.

In fact, subscribership has run far below the project's initial projections. UTOPIA initially predicted it would run fiber to some 70,000 homes and businesses in six of its member cities and achieve a 40% subscription rate by 2008. The Salt Lake Tribune reported this summer that UTOPIA only had around 10,000 subscribers. The Salt Lake Tribune also reported that "[i]n January, Utopia called on its member cities to begin covering the network's bond payments, something the original Utopia promoters promised never would happen."

UTOPIA has never covered its annual operating expenses. It lost $51 million alone in fiscal year 2009. One recently reported estimate put project loses at approximately $250,000 a month. The Utah Taxpayers Association claims that UTOPIA's budget projects 2011 losses of approximately $20 million.

If the ups and downs and the business failings of some telecommunications and broadband technology companies over the last fifteen years teach anything, it is that the broadband Internet marketplace is competitive and tumultuous. Some companies are winners, and others are losers. And when private broadband providers fail, private company investors and shareholders are saddled with the financial losses. But when government itself becomes a broadband provider – banking its projects with municipal bond issues and backing them with direct taxes – then citizen taxpayers are ultimately left holding the bag whenever government broadband network projects go belly up. Meanwhile, the active presence of government-owned broadband networks can discourage or delay private providers from expanding their operations or entering into the market to bring consumers competing, sustainable services.

So UTOPIA's prior losses and potential future losses should be cause enough for serious concern by UTOPIA member-city citizens. But as pointed out earlier, UTOPIA member cities have now begun deliberations on a UTOPIA bailout plan that includes an approximately $60 million bond issue to sustain the project. At least a handful of UTOPIA city governments have already pledged to throw more money into the project.

Unfortunately, some of the proffered reasons for propping up UTOPIA are less than persuasive. UTOPIA backers have made much of a feasibility study purporting to show how the chances for a turnaround are plausible if certain changes and large infusions of new money are put into the project. Keep in mind, however, that it was overly optimistic plans and studies of that kind that helped launch UTOPIA in the first place. Given how UTOPIA subscriptions and revenues have not panned out as previously planned, isn't a strong dose of skepticism warranted when considering new proposals to inject even more taxpayer money into the project?

Also keep in mind the much-cited feasibility study was performed by a private consulting company providing a variety of support services to government-owned broadband projects, including network design and build-out. This is not an imputation of bad motives behind the study, but the source does suggest an inherent lack of impartiality that should be factored in to any evaluation of the study. Not to be forgotten, Communications Daily and other outlets report that the Utah Taxpayers Association claims additional factors were not included in the feasibility study, such as potential future competition and demographic analysis of its prospective subscriber base. Given the financial stakes of a UTOPIA bailout, those claims are certainly worth exploration and could shed additional light on the study's merits.

Finally, no one should be impressed by the rationale that additional funding is necessary to save prior financial commitments from ruin. One might call it the government-owned broadband equivalent of the "too big to fail" meme. By itself, the claim in no way establishes that investing new funds will salvage a faltering business. And however one tries to answer the question of whether a $60+ million bailout of UTOPIA will, in fact, make the project sustainable, outside observers should see UTOPIA as an example of how faltering government-owned networks can back local government officials and taxpayers into a corner. UTOPIA member-cities and their citizens now have to either accept big losses or incur additional losses in the hope of cutting those losses while risking further losses if the project continues to struggle.

There may be good reason in some circumstances for government to run its own proprietary networks in order to carry out governmental functions. And there may even be instances where total lack of broadband service availability in remote areas might make limited government involvement a plausible option. (The latter seems increasingly less likely as wireless broadband and satellite broadband services continue to be rolled out.) But owning and operating broadband networks involves unpredictable capital and operating costs, market uncertainties, and financial risks that taxpayers should prefer not to be responsible for. The ongoing struggles of the dreamily-named UTOPIA should serve as a warning to others — and particularly to taxpayers — about the real-world hazards of government owning and operating broadband networks.

Wednesday, October 27, 2010

Reforming Communications Policy:The Constitutional Underpinnings

One of the chief benefits of the rise of the Tea Parties has been the increased awareness of constitutional principles they have brought to public policy debates. Whether questioning the constitutional authority for ObamaCare's compulsory individual mandate or the massive bailout of automobile manufacturers, raising such constitutional concerns is not unhealthy in a regime grounded in the rule of law. Indeed, it is unhealthy not to at least consider such concerns.

In that spirit, and in advance of Tuesday's elections, I want to offer here, in admittedly brief and broad outline, some thoughts on ways in which communications law and policy would benefit from closer alignment with widely shared constitutional values. I am not making the claim that existing constitutional jurisprudence necessarily dictates reform along the lines I advocate. It doesn't – for now.

But that doesn't mean that communications policy shouldn't be reformed in ways that do not run so much against the grain of the Founders' constitutional understandings. And it doesn't mean that, as we work to envision what communications law and policy should look like in the digital age, that we should not have in mind certain underpinnings of our Constitution.

Here are some thoughts to get started:

· The Public Interest Standard: So much of the FCC's regulatory activity is carried out under the vague and indeterminate delegation of authority to the agency to act in the "public interest." Although the Supreme Court said in 1928, and has repeated often since, that delegations of authority to administrative agencies must contain an "intelligible principle," the Court nevertheless has refused to rule that the public interest standard violates the non-delegation doctrine and is not likely to do so any time soon. This does not mean that when Congress updates the Communications Act to account for the rise digital age competition and convergence – as it should do sooner rather than later – that Congress should not provide the FCC with more specific policy direction. Under the public interest standard, unelected agency officials simply have too much unbridled discretion. And, by delegating authority in vague terms, our elected legislators escape accountability for having to make tough public policy choices. This is not the accountability to the public that our "separation of powers" framework is intended to foster. Congress should replace directives for the FCC to act in the "public interest" with explicit directives, especially commands to the agency to take into account marketplace competition.

· The First Amendment: It is time to recognize that we live in an age of media abundance and, yes, despite decades-old rote incantations to the contrary, media diversity. Legacy regulations that restrict the speech rights of media purveyors, even media operators routinely demonized as "giant corporations," are inconsistent with our free speech values. There are many examples, but in this category would fall program content restrictions still applicable to broadcasters and the "must carry" rules that require cable operators to carry local television stations.

And the incessant push for net neutrality mandates - requirements that Internet providers carry all traffic without discrimination - amounts to nothing more than a "must carry" regime for ISPs. Absent evidence of a market failure that would justify converting, either formally or as a matter of practical effect, today's Internet providers into common carriers, net neutrality mandates raise serious First Amendment issues by compromising ISPs' free speech rights. Supporters of net neutrality who claim these government-enforced non-discrimination restrictions promote free speech values evidence a profound misunderstanding: The First Amendment is intended to protect against censorship by the government, not by private entities. More than two decades ago, Ronald Reagan's FCC got rid of the Fairness Doctrine that required broadcasters to "balance" their coverage of public issues. In the digital age, we don't need anything resembling a Fairness Doctrine for the Internet.

· Property Rights: In order to encourage investment and innovation, a reformed communications policy needs to demonstrate more sensitivity to property rights than does the current regime. Property rights – protected by the Constitution's Fifth Amendment – are implicated in many ways by FCC regulation, from the proposed net neutrality regulations which would, as a practical matter, require capacity set-asides and infrastructure build-outs for carrying traffic that ISPs might prefer not to carry, to the potential for confiscatory rate regulation in the guise of enforcing non-discrimination carriage mandates. And the various existing and proposed program "access" requirements applicable to cable operators, adopted, again, in the name of enforcing non-discrimination, surely implicate the property rights of those who invest in building and operating the platforms that, in effect, are turned into semi-public utilities.

Just witness the bizarre bazaar that is the Comcast-NBCU merger proceeding, as program "competitors" seek to use the leverage of the Commission acting under the indeterminate "public interest" standard to extract conditions that require the merged entity to treat all post-merger Comcast and non-Comcast programming in a perfectly equal fashion. And witness further the claims that multichannel video providers, who presumably bargain and pay market prices to create or acquire programs that they believe will be attractive to their subscribers, also should be required to make the programming they own available to everyone on the Internet on "fair" and "reasonable" terms – to be decided by the FCC. Some of this type of government-mandated access and rate-setting arguably was justified in the more monopolistic, bygone era – but not in today's rapidly changing, much more competitive digital environment. The efforts to carry on with, or even expand, the old "fairness" and "non-discrimination" and "reasonable access" rules shows a lack of respect for the property rights of the owners of content and of the platforms in which service providers invested to distribute such content.

As stated above, this is not intended to be an exhaustive or definitive exposition of the proposition that communications law and policy should be reformed in ways that conform more closely with important constitutional values, such as protection of free speech and property rights, and separation of powers principles. Rather, it is simply a part of our ongoing project at the Free State Foundation to pay close attention to the Constitution as we continue our work looking towards meaningful – yes, even "radical" in the sense that the transition from the analog to digital age is radical – reform of our nation's communications policies.

I sense that there is change afoot, fueled in no small measure by the rise of the Tea Parties and their attention to constitutional principles, which, after Tuesday's election, may make the prospects for meaningful communications policy reform more promising.

And here at FSF we'll keep working at it.

Monday, October 25, 2010

Maryland's Pension Liability Problems Require Reforms in 2011 Session

Maryland's Sustainability Commission has finally convened. Tasked by the Maryland Legislature to analyze the state's pension and retirement benefit liabilities situation and to make recommendations on how to sustain the state's pension and retirement benefits systems, the Commission now has two October meetings under its belt. And as the most recent Commission meeting presentations (available online) make clear, Maryland has a serious pension liability problem that is getting worse and which can't be ignored or solved by overly-optimistic investment returns.

A presentation to the Commission by the Department of Legislative Services' Office of Policy Analysis points out that Maryland pension liabilities are continuing to grow. Salary increases (including cost-of-living adjustments), a 2006 retroactive benefit enhancement that added $1.9 billion to the state's actuarial accrued liabilities, and rising life expectancies are all factors contributing to Maryland's approximately $31 billion dollar pension and retirement benefit liability deficit. Also a contributing factor is the state pension fund's annual asset investment losses of 5.4% and 20% in 2008 and 2009, respectively — significantly off from the system's optimistic asset investment return target of 7.75%. As the Office of Policy Analysis presentation concludes, it is already "too late" address the funding gap for fiscal year 2012. Rather, "[s]olutions designed to reduce current funding gap must address accrued liabilities."

Some of those solutions for addressing Maryland's growing pension and retirement benefit funding shortfalls have been discussed here in recent posts, including a transition for future employees from a defined benefit plan (where the benefit on retirement is determined by a set formula rather than investment returns) to a defined contribution plan (where the ultimate pension benefit is determined by investment returns).

Now, as a report at the Washington Examiner highlighted, a Commission meeting presentation by the Maryland Department of Budget & Management indicates that recently passed federal health care legislation and accompanying regulations will complicate, and perhaps restrict, pension reform efforts in Maryland. But whatever challenges new federal health care regulation poses, the Commission should not let those challenges derail the interim report it has been directed to issue to the Governor and Legislature in time for the 2011 Maryland legislative session. Although the Commission's Chairman was reported as expressing skepticism at its kickoff meeting over whether the Commission could meet its interim report deadline, an interim report doesn't need to define definitive solutions; it only needs to include initial steps for specific and actionable solutions that the Legislature has already put off for too long.

To paraphrase the conclusions of the Office of Policy Analysis: the problem is getting worse, and it's too late simply to deal with future fiscal year funding gaps. Maryland must begin taking action to address its accrued liabilities. And such action should be a top priority for the 2011 Maryland legislative session.

Thursday, October 14, 2010

Maryland Pension Problems Need To Be Addressed, Not Avoided

An excellent editorial in Wednesday’s Washington Post hit all the right notes regarding Maryland's steep public pension funding deficits. Once upon a time—that is, in 2002—Maryland's state pension was fully funded. But as the editorial points out, Maryland's financial shortfall in funding former state employee pension liabilities now exceeds $18 billion, with unfunded health-care obligations piling on another $15 billion.

With that dire $31 billion deficit in mind, the editorial provides highlights of how Maryland made a financial mess for itself when it comes to public pension funding:
  • beginning in 2003, state lawmakers reduced annual payments into the pension fund
  • in the latter half of the 2000s, state lawmakers increased spending on programs without attempting to meet increasing pension obligations
  • in 2006, state lawmakers by increasing pension payouts to retired teachers and state workers retroactively to 1998, adding $1.8 billion to state pension liabilities over 25 years
    state pension equity investments underperformed without state lawmakers making pension fund adjustments
  • the economic downturn beginning in 2008 that included steep declines in stock values without any corresponding fixes by state lawmakers to state payments further steepened the pension fund's financial imbalance
And so Maryland faces a $31 billion public pension funding shortfall. Now what?

The editorial goes on with some straight talk for state lawmakers and the commission recently tasked with studying Maryland's pension funding problem (see the blog post "Maryland's Slow-Moving Sustainability Commission"). The recommended remedial steps for Maryland include:
  • moving future employees away from a defined benefit pension system (where the benefit on retirement is determined by a set formula rather than investment returns) onto a defined contribution pension system (where the ultimate pension benefit is determined by investment returns)
  • phasing in over the next decade a that full payments be made for public pensions
  • transferring a portion of retired teachers' pensions to local governments that incur long-term debts for the state through negotiated agreements between local school boards and teachers unions
One can also add that nothing should stop Maryland lawmakers from considering those steps—particularly modest increases on annual state payments to public pension funds—even before the Sustainability Commission issues its reports. If it's too much to ask lawmakers to solve Maryland's public pension problems, can't they at least be expected to hold the line on public pension liabilities and keep the situation from growing worse?

The editorial acknowledges that “[a]ny or all of these steps will be difficult and require leadership." But that is precisely what leaders are elected to provide. And the steps will only more difficult if Maryland lawmakers continue to avoid the state's pile of pension debts.

Monday, October 11, 2010

"The Liberal I Aspire To Be"

In our post-modern political lexicon, what it means to be a classical liberal in the Enlightenment sense of the term has been lost, or, worse yet, deliberately perverted. So it is almost a hopeless task to try to explain why views that were considered classically "liberal" at the time of our nation's Founding -- before Progressive Era and New Deal ideas uprooted previous constitutional understandings concerning the relationship of the individual to the state -- are now called "conservative". This is too bad.

But here is what new Nobel Prize winner Mario Vargas Llosa said at the American Enterprise Institute in 2005:

“Thus, the liberal I aspire to be considers freedom a core value. Thanks to this freedom, humanity has been able to journey from the primitive cave to the stars and the information revolution, to progress from forms of collectivist and despotic association to representative democracy. The foundations of liberty are private property and the rule of law; this system guarantees the fewest possible forms of injustice, produces the greatest material and cultural progress, most effectively stems violence and provides the greatest respect for human rights. According to this concept of liberalism, freedom is a single, unified concept. Political and economic liberties are as inseparable as the two sides of a medal.”

If only all of today’s self-described “liberals” subscribed to this eloquent statement of what classical liberalism means, I, with Vargas Llosa, would aspire to be one too. And we would be in the good company of Adam Smith, John Locke, Montesquieu, Thomas Jefferson, and James Madison.

Congratulations to Mario Vargas Llosa for his Nobel Prize, and thanks to the Heritage Foundation’s Insider for highlighting the quote.

Thursday, October 07, 2010

Scott Cleland on Google TV


Scott Cleland has another excellent piece on Google – this time on Google TV and Google’s significant video presence on the web. Indeed, armed with lots of facts and figures, as usual, you might conclude with Scott that Google is the dominant Internet video distributor.

Here is the link to Scott’s piece, which is well worth reading:

Monday, October 04, 2010

Broadband Legislation and Net Neutrality Regulation: Where We Stand and What Ought to Come Next

Now that Congress has recessed until at least after the November elections, it is a good time to assess where things stand now, and what ought to come next, with regard to the proposals for government-imposed net neutrality regulations.

Since shortly after the D.C. Circuit's Comcast decision last April, which strongly casts doubt on the Federal Communications Commission's authority to regulate Internet service providers, I have said that, if the FCC is to take any action at all to impose net neutrality mandates, it should do so only if Congress explicitly grants it such authority. And I have suggested that any such legislation granting the FCC authority to regulate the practices of Internet providers should be narrowly circumscribed. In mid-June, I suggested model language, which you can find here, to accomplish this purpose.

Under my proposal, the FCC would be given authority "to prohibit broadband Internet service providers from engaging in acts or practices that are determined to constitute an abuse of substantial, non-transitory market power and which cause harm to consumers." And the agency's rulemaking authority would be narrowly circumscribed; its authority over broadband providers would be exercised primarily through adjudication of individual complaints alleging abusive practices.

Importantly, I have urged since the day after the Comcast decision that, while Congress deliberates on broadband policy in the post-Comcast environment, the Commission should suspend consideration of all proposals to impose net neutrality mandates by administrative fiat. This certainly includes consideration of Chairman Julius Genachowski's "Third Way" proposal which would classify broadband Internet providers as common carriers under Title II of the Communications Act. Title II is the regulatory regime that applied to Ma Bell and other dominant telephone companies last century when narrowband providers operated in a monopolistic environment.

Last week, a draft bill written by House Energy and Commerce Chairman Henry Waxman surfaced. In a statement issued shortly thereafter, I said that the draft bill contained "positive elements" and that "[o]verall, the draft bill provides a basis for Congress moving forward to consider adoption of broadband legislation that gives direction to the Commission." And, I emphasized, "[i]n the meantime, it certainly doesn't make sense for the FCC to act on its own."

I identified as positive elements the bill's requirement that the FCC enforce net neutrality requirements through adjudication of individual complaints and not rulemaking; its recognition of the importance of allowing Internet providers to engage in reasonable network management practices; its prohibition on the FCC's continuing its rulemaking to classify Internet providers as common carriers under Title II; and the bill's December 2012 expiration date.

In contrast to these positive elements, I expressed concerns about the bill's provision prohibiting wireline broadband Internet providers from "unjustly or unreasonably discriminat[ing] in transmitting" traffic. I said that if the discrimination provision were interpreted "too rigidly by the FCC, this legacy common carrier-type restriction can inhibit development of new, differentiated services in response to evolving consumer demand." Therefore, I urged that "any discrimination prohibition should explicitly require a showing of consumer harm as a prerequisite to any agency remedial action."

In the few days remaining before the congressional recess, without the prospect of any hearings or time for further deliberation, no Republican signed on to Chairman Waxman's draft, and he did not actually introduce it as a bill. Instead, he issued a statement outlining the provisions of his draft, and his statement concluded in this way: "I do not close the door on moving legislation this Congress….If our efforts to find bipartisan consensus fail, the FCC should move forward under Title II. The bottom line is that we must protect the open Internet. If Congress can’t act, the FCC must."

So, this is where things stand now in the long-running net neutrality saga (some might say soap opera). The question is: What ought to come next?

Here's my view.

Although I do not believe Chairman Waxman's draft bill should be enacted into law without modifications, I do think, as I said, that it contains positive elements and provides a basis for continuing legislative efforts. The circulation of the draft should have the effect of clarifying, perhaps in ways both intended and unintended, certain fundamental principles that should guide the way forward.

First, the draft bill should cement the bipartisan consensus that has been growing steadily since the April Comcast decision that the FCC should not adopt net neutrality mandates in the absence of legislation granting the agency the authority to do so. No one is arguing that there is any present market failure or existing pattern of abusive practices causing consumer harm that requires immediate remedial action. Chairman Genachowski speaks of the need to "preserve the freedom and openness of the Internet." Even Free Press, the most ardent, vociferous net neutrality advocate, says the government needs to act "to ensure that the Internet remains open for everyone." In other words, the claim of net neutrality advocates is not that it is urgent for new laws or regulations to be adopted to remedy a market failure that has led to a closed Internet; rather they want to take action to, in their words, ensure that the Internet remains open in the future.

In this circumstance, and having in mind the law of unintended consequences and the principles of cost-benefit analysis, a persuasive case can be made that neither the FCC nor Congress ought to take any action regarding net neutrality unless and until a marketplace failure manifests itself or consumer harms become evident.

But assuming the three member Democrat majority at the FCC continues to threaten, albeit ill-advisedly, to impose net neutrality mandates, it makes sense for Congress to continue its efforts to fashion appropriate legislation. Because as long as there is the prospect that Congress may legislate in this area, it ought to be unthinkable for the agency to charge ahead with the ill-conceived Title II classification proposal that would convert Internet providers into common carriers.

Finally, an important point on developing legislation. Consistent with the model language I suggested in June, the troublesome provision on discrimination in the Waxman draft bill should be replaced with one that requires proof that the Internet provider alleged to have committed a discriminatory practice possesses substantial market power and that the alleged abusive practice causes consumer harm. This heightened standard will require the FCC, before imposing any regulatory sanction on an Internet provider, to engage in a rigorous economic analysis that explicitly takes into account marketplace competition and general consumer welfare. Despite any conclusions to the contrary that the major Internet providers may have reached, I fear that, absent such a rigorous standard, the FCC will be left with overly broad discretion to regulate Internet providers in ways that may stifle innovation and investment.


Well, there you have my views on the way forward. And, from my perch running a free market-oriented think tank, I certainly hope they are persuasive. Be that as it may, I don't get to write the communications laws; just try to persuade. But the Hill folks who do have an awful lot of sway over writing the communications laws will be the featured speakers at the Free State Foundation lunch seminar on October 12. All the event details are here. I am sure we will have a spirited discussion concerning what broadband legislation should look like, including plenty of audience participation.

If you wish to attend the seminar and haven't already registered, you can RSVP Susan Reichbart at: