The Economics of Information Infrastructure

The development of the information infrastructure, of which the Internet is one element, poses many technological and economic problems. To make the infrastructure a reality, technologies in varying and competing industries such as telephone, cable, private commercial information services, EDI, and various wireless communications will have to be interoperable. At the same time, simple equipment, such as cable modems, which enable Internet users to connect via cable, and digital switches, are taking more time and effort to develop than expected. Communications protocols and other product standards, such as video and audio compression, languages for web documents and applets, and digital currency have to be worked out among increasingly numerous and diverse participants. The dominance of the TCP/IP protocol as the communications standard was a happy consequence of its popularity among Internet users.

The Internet's popularity made it the heavyweight in comparison with private online services, which first attempted to compete with the Internet and failed. As a result, the Internet has become synonymous with information infrastructure. But, as business interest intensifies, its future might not be as smooth as its past. Numerous economic issues also pose threats to the future of information infrastructure. Flat-rate pricing for online services raised the specter of congestion and inefficiency. Local telephone companies and Internet service providers are fighting a battle over access charges. Governments are contemplating various forms of taxes and tariffs for Internet services and transactions. Economists who are primarily interested in network economics are analyzing these issues because such issues arise naturally in telecommunications networks. While the information infrastructure is evolving from its dependence on wired telecommunications networks to a more diverse mixture of infrastructure including cable and wireless networks, the economics of Internet infrastructure remains focused on traditional problems of a wired telephone network, in which the economies of scale and regulatory efficiencies are of primary concern.

The telephone industry is not only being deregulated but also faces competition from no telephone infrastructure, which can carryall types of digital traffic. Future commercial potential and profitability determine investment decisions, and competition will be the driving force in achieving economic efficiency. The focus of economic analysis should also make a transition from regulatory economics to one of multiple infrastructure competition and related problems in resource allocation. For example, the decision to exempt Internet service providers from paying access charges, despite their use of facilities owned by telephone companies, has a profound impact on the level of investment in the telephone network—or so it is claimed by telephone companies that will not invest if their fixed costs in cable and exchange equipment cannot be recovered. Such investment behavior is consistent with that of natural monopolists, and is the reason regulatory agencies allow a certain rate of return for these monopolists. However, in a competitive market environment, a telephone company will charge for its service based on marginal cost, not average cost, and access charges calculated to recoup fixed costs will be excess profits that cannot be expected.

Whether access charges on ISPs are justified is an empirical question. The point here is that the information infrastructure needs to be analyzed not in the context of regulated natural monopolies—for example focusing on ways to recover fixed or stranded costs through market competition—but rather in terms of the market where various types of networks are converging to compete. Congestion-free pricing and competition may find new uses for stranded investments. The economics of information infrastructure goes beyond a simple extension of telecommunications economics. What its focus and emphasis should be is left as a future area of research.