The Government Should Not Subsidize Internet Access

By Mark I. Schwartz

　　Free-market capitalism is the engine that created the technological wonderland that we both marvel at and take for granted today. Market forces are rapidly expanding Internet access across society, but the economics behind the Internet's phenomenal growth remain poorly understood by many people. Some observers recommend that the government step in to bridge the “digital divide” between those who can afford Internet access and those who cannot. Government intervention will only distort markets and will ultimately hurt everyone.

　　Current proposals call for the government to intervene in two ways, and both of them are harmful. One would impose new taxes to subsidize Internet access. The other would impose new regulations that could, among other things, force Internet service providers (ISPs) to give away some access. Each time the government taxes or regulates citizens or companies, it alters the playing field, voiding countless potential exchanges and innovations that would otherwise have taken place. For example, if new regulations cut into the revenues of an ISP, the ISP will have a smaller budget to pursue innovations. The reduction in innovation will harm both the company and its customers.

　　The free market can correct the digital divide on its own. It is important to understand that by providing economic opportunity and empowering consumers, free-market economies are better at assisting the poor than those characterized by government intervention. Free markets are an integral part of our overall freedom. Government intervention can prove to be harmful to the economy and democratic society as a whole.

　　The Internet has only been in existence as a commercial medium since the 1990s. According to studies, personal computers with Internet access are expected to reach a penetration level of 50 percent of American households by around 2001. Other consumer technologies became accessible much more slowly. It took 28 years for radio to reach a penetration level of 50 percent in American homes; television took 17 years; telephones took 70 years; videocassette recorders (VCRs) took 35 years; and microwave ovens took 28 years. The fact that it may take another few years before Internet access is truly widespread in America is not sufficient reason for government intervention.

　　The key to making something universally available is affordability, the key to affordability is innovation, and the key to innovation is a free market in goods and services. The explosion of PC and Internet usage clearly demonstrates the power of the free market. According to the research firm PC Data, Inc., from 1995 to 1999 the average price of a PC dropped by almost 50 percent to just over $900. During the same period, the amount of instructions the average computer can process each second has more than doubled. In terms of power for each dollar spent, PC prices have declined to a small fraction of what they were just a few years ago. During this period Internet access has also seen price reductions and a move to monthly rather than hourly rates. Some ISPs are now even providing free service.

　　Internet access is accelerating the pattern we have already witnessed in the growth of consumer technologies such as televisions, CD players, and a host of others that have become commonplace in American society, all without government intervention. No one would now claim that there was a television divide or a microwave divide. Interestingly, today the price of the average computer is rapidly falling, and in the near future we can expect them to drop below the price of the average television set. Monthly Internet access is already in many cases less expensive than cable television service.

　　Other market developments are helping make universal access a reality. For instance, some companies are now giving away computers, Internet access, or both, in exchange for permission to monitor consumers' online interests. The objective is to offer this data to advertisers. This new business model is based on the belief that controlling a portion of the Internet user's screen is potentially far more lucrative than simply selling PC hardware or software for a profit. Data on Internet usage patterns are facilitating market research to a degree of detail previously unheard of. Advertisers can tailor their messages to consumers with a certain narrow band of preferences and tastes, including consumers in low-income communities.

　　PCs and Internet access are likely to become the next significant benefit in the American job market. A number of companies, such as Ford Motor Company and Delta Airlines, Inc., announced plans in 2000 to provide free home computers and Internet access to all of their employees in the belief that it will benefit the companies in the long run. Employers who fail to follow suit will likely have difficulty attracting and retaining good employees.

　　In short, market forces are rapidly bringing computer and Internet access into every home. This is occurring because companies recognize the economic benefits of wiring the American landscape.

　　Trusting the Marketplace to Provide Computers and Internet Access

　　A basic tenet of free-market capitalism, first described in British economist Adam Smith's 1776 work The Wealth of Nations, is that voluntary economic exchange takes place when both parties believe they will derive benefit. The system regulates itself. Prices that emerge from these voluntary transactions naturally coordinate the activity of millions of people, helping everyone get more of what they want. Smith's theory is holding true in high technology just as it has in countless other industries. Computer and Internet access are expanding and becoming cheaper because businesses can profit from extending access to nearly everyone, and because nearly everyone wants these technologies.

　　Internet ventures are thriving in the United States because bringing a business idea to market is easier here than anywhere else. The recent boom in Internet startups, financed by private venture capitalists and initial public offerings on stock exchanges, bear this out. As has been observed by Reuven Brenner, an economist at McGill University in Montréal , Canada , the dynamic growth of the U.S. economy is not replicated elsewhere because in most countries capital markets are highly regulated and controlled by a few banks. In a regulated marketplace, people who lack savings or inheritance rarely have the opportunity to get the financing needed to pursue their business ideas. As a result, people without financial resources do not get many opportunities to move from the ranks of the poor to the middle class and beyond.

　　The question of government involvement in Internet access also touches on another central aspect of democracy—protection of private property. British political philosopher John Locke recognized protection of private property as the state's primary purpose in his Two Treatises of Government (1690), and his reasoning inspired American revolutionary Thomas Jefferson and others to enshrine economic liberties, such as the protection of private property, in the U.S. Constitution. Their objective was to institute safeguards to restrain government from imposing taxes and regulations that encroach on property rights. When the government stays out, everyone benefits.

　　Economic and political freedoms are two sides of the same coin, and anything that reduces freedom in one area of our lives is likely to affect freedom in the rest of our lives. Like free speech, free-market capitalism is essential to the stability of a free society, and such a society requires a free marketplace of ideas. Speech that is considered radical today may one day become majority opinion, so momentary political majorities in the United States are not allowed to make permanent decisions on what speech is appropriate. Likewise, it is not appropriate for government today to decide what a particular market for goods or services should look like far into the future. Such regulation squelches the market's emerging innovations, reducing economic choices, and thereby, economic freedom. Furthermore, bureaucrats cannot keep up with the speed of change on the Internet and cannot anticipate where it is headed. Government interference will only disrupt the industry and decrease the potential for future growth.

　　To suggest that government should act to bridge the digital divide between the prosperous and the poor is to miss the point of free-market capitalism. American economist Milton Friedman once asked, “Can a free market in ideas long be maintained if a free market in goods and services is destroyed?” If we allow the government to intervene in the Internet, we will further reduce our economic freedom and, by necessity, our political freedom.

　　Government intervention will bring about harmful economic consequences. Most areas of regulatory intervention start with a narrowly defined problem. When regulation seems to succeed in resolving the original issue, regulators invariably expand the scope of intervention to rectify newly perceived problems. In addressing Internet concerns, government involvement will likely spread to issues such as guaranteeing upgrades to universal broadband access or attempting to alleviate privacy concerns. Eventually, an entire bureaucracy will be in place regulating the Internet, spending billions of dollars, micromanaging the industry, and effectively eliminating the industry's ability to respond to market signals. One example of bureaucratic sprawl is the Interstate Commerce Commission (ICC), which was created in 1887 to deal with a narrow band of complaints about the railroad industry. This bureaucracy soon came to regulate almost every area of the railroad system, and then expanded into the trucking industry in the 1920s and into air travel in the 1940s. As in many other cases, the country was left with a costly and intrusive bureaucracy.

　　Management through a centralized bureaucracy is the last thing that the Internet needs if it is to continue flourishing. In the words of Austrian-born economist Friedrich A. von Hayek, “Man does not and cannot know everything. When he acts as though he does, by directing markets, he engages in a fatal conceit, which can only lead to disaster.”

　　Taxation and regulation both impose enormous costs on the economy. A government must tax, borrow, or impose regulation to pursue a goal such as subsidizing Internet access. The costs of taxation are obvious. Regulation imposes costs that are less visible but no less certain. If the government were to pass a law requiring all ISPs to allocate a percentage of their revenue to guarantee access to low income communities, the associated cost to the ISPs and to their customers would be high and difficult to measure. At first glance, one might even conclude that the cost was nominal. This cost is probably one of the reasons that government officials find regulation preferable to taxation these days, and precisely why it should be avoided.

　　In the past, government regulation has slowed the availability of new technologies to consumers. Of the seven important consumer technologies cited, the only one that has consistently been under tight government regulation is the telephone, and the telephone was slowest in reaching most households. The 70 years it took the telephone to reach the 50 percent penetration level is two and a half times the average time period of the other six technologies, all of which are comparatively unregulated. Government regulation of the Internet may actually achieve the opposite of its goal and slow down the natural bridging of the digital divide.

　　Government intervention also impedes innovation. The experience of the automobile and railroad industries provides an illustration. These industries serve similar markets and provide similar services. Nevertheless, the passenger rail industry is backward, inefficient, and has displayed little innovation over the past several decades. Do trains in the United States look very different today than they did 20 years ago? By contrast the automobile industry is dynamic. New models and innovations such as satellite navigation, airbags, and antilock brakes appear nearly every year. The passenger rail industry is regulated and protected from competition, whereas the automobile industry is competitive and each company must continually improve its products.

　　The computer, the commercial Internet, and a nearly endless list of other technologies have taken root in the United States and flourished because of the free market. The free market makes them universally available because it encourages people and companies to find innovative ways of reducing production costs and expanding markets. A popular axiom in economics suggests that if you tax or regulate something, you will end up with less of it. The last thing that the United States needs is less innovation and less creation of wealth in the technology industry, especially since this also means that people will be less free as a result.

　　About the author: Mark I. Schwartz is an attorney in the Washington , D.C. office of Piper Marbury Rudnick & Wolfe LLP, where he practices venture capital and technology law. He has authored numerous articles relating to technology, markets, and government.