Reflections from Paseo de Coro
Poor service and slow Internet in the country is one of the most common complaints of people who depend on the World Wide Web for their daily communication as well as to access and disseminate information vital to meeting their work objectives. If the telecom industry were to remain a single firm government entity, it would not be a surprise knowing how most government people work in any of its enterprises. But we now live in a different world where business is more open to anyone interested with very little government intervention. So why this complaint?
To give light but not necessarily the answer to this question, I now turn to Vahagn Jerbashian’s study on The Telecommunications Industry and Economic Growth: How the Market Structure Matters (1-27-11).
As a background, let it be said as the paper pointed out that a vast empirical literature suggests that the telecommunications industry (telecom) makes a significant contribution to economic growth with the infrastructure investments cited to be the most highlighted driver of that contribution. According to Jerbashian, “these investments can lead to economic growth in various ways.
Most intuitively, these investments, while expanding the telecom networks, can increase the availability of telecom products (e.g., wireless and landline services) and motivate higher demand. In addition, according to the conjectures of network economics literature, these investments, while motivating higher demand, can amplify the network externalities. This can increase, for instance, the efficiency of firms in the economy and lead to economic growth.”
The findings of the study suggests channels through which the telecommunication industry contributes to economic growth. On a balanced growth path these channels include the productivity improvement in telecom and the generated externalities, the study said. It added that when there are no barriers to entry both the direct and indirect network externalities add to growth. Otherwise, only direct network externalities matter.
In light of productivity improvements in telecom, in this paper the direct network externalities stem from the effective number of telecom users. Jerbashian says that there are exogenous barriers to entry the study suggests that the GDP growth rate and social welfare increase with the number of telecom firm and with the toughness of competition.
In contrast, when the barriers to entry are endogenously generated, the GDP growth rate does not depend on the toughness of competition and the number of telecom firms. The same holds on a balanced growth path in the case when there are no barriers to entry, he added.
Accordingly to Jerbashian, however, these decentralized equilibrium outcomes are far from the social optimum according to the model and he cited the following four reasons to observe this divergence.
First, there are relative price distortions, thus resource misallocations, in the decentralized equilibrium due to the imperfect competition in the telecom market and because the competitive forces do not internalize the direct network externalities.
Second, the telecom firms under-invest in productivity improvement since that erodes their profit margins.
Third, the rate of return on productivity improvement declines with entry in the decentralized equilibrium, which is not the case in the social optimum.
Fourth, there is permanent entry in the social optimum, which may not be the case in the decentralized equilibrium.
These four aspects imply that the socially optimal GDP growth rate is always higher than the decentralized equilibrium one and that there is an under-investment in productivity improvement in the decentralized equilibrium.
To increase social welfare the study suggests policies which subsidize the production of telecom goods or, equivalently, subsidize the demand for telecom goods; subsidize the investments for productivity improvements in telecom; and allow entry and, if needed, subsidize it. These policies would be similar to the US Telecommunications Act of 1996. However, they would avoid increasing the substitutability between telecom goods and, in addition to the targets of that policy, they would subsidize the investments in productivity improvement and the entry, if needed. If policies leading to permanent entry cannot be implemented, subsidizing investments still can lead to higher social welfare.
Such recommendation were based on the findings of the study but when the subject of subsidy comes out not a few of us will raise hell. Why should the whole Filipino people, through their taxes, bleed some more to make this highly monopolistic and seemingly highly profitable industry from all the looks more profitable?
But then, who knows better?
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