RADIO SPECTRUM AND THE DISRUPTIVE CLARITY OF RONALD COASE1 Thomas W. Hazlett George Mason University David Porter Chapman University Vernon Smith Chapman University Nov. 23, 2009 Revised March 1, 2010 Revised March 7, 2010 In the Federal Communications Commission, Ronald Coase (1959) exposed deep foundations via normative argument buttressed by astute historical observation. The government controlled scarce frequencies, issuing sharply limited use rights. Spillovers were said to be otherwise endemic. Coase saw that Government limited conflicts by restricting uses; property owners perform an analogous function via the ―price system.‖ The government solution was inefficient unless the net benefits of the alternative property regime were lower. Coase augured that the price system would outperform the administrative allocation system. His spectrum auction proposal was mocked by communications policy experts, opposed by industry interests, and ridiculed by policy makers. Hence, it took until July 25, 1994 for FCC license sales to commence. Today, some 73 U.S. auctions have been held, 27,484 licenses sold, and $52.6 billion paid. The reform is a textbook example of economic policy success. We examine Coase‘s seminal 1959 paper on two levels. First, we note the importance of its analytical symmetry, comparing administrative to market mechanisms under the assumption of positive transaction costs. This fundamental insight has had enormous influence within the economics profession, yet is often lost in current analyses. This analytical insight had its beginning in his acclaimed early article on the firm (Coase 1937), and continued into his subsequent treatment of social cost (Coase 1960). Second, we investigate why spectrum policies have stopped well short of the property rights regime that Coase advocated, considering rent- seeking dynamics and the emergence of new theories challenging Coase‘s property framework. One conclusion is easily rendered: competitive bidding is now the default tool in wireless license awards. By rule of thumb, about $17 billion in U.S. welfare losses have been averted. Not bad for the first 50 years of this, or any, Article appearing in Volume II of the Journal of Law & Economics. 1 Paper for Markets, Firms, and Property Rights: A Celebration of the Research of Ronald Coase, Conference at the University of Chicago School of Law (Dec. 4-5, 2009). Hazlett, Porter and Smith: Radio Spectrum and the Disruptive Clarity of Coase page 2 I. INTRODUCTION Ronald Coase postulates that an economist who ―is able to postpone by a week a government program which wastes $100 million a year (what I consider a modest success) has, by his action, earned his salary for the whole of his life‖ (Coase 1975). By symmetry, this standard applies when research brings a good law sooner. On that basis, Ronald Coase‘s single paper, The Federal Communications Commission (―FCC‖) (Coase 1959), has created such a bountiful account balance as to safely capitalize the Economists‘ Bank of Karma for generations to come. The FCC paper was written in the spirit of Adam Smith‘s WEALTH OF NATIONS. In arguing a public policy position, Coase brought fundamentally new insights – disruptive clarities -- to system dynamics. His meticulous reasoning was delivered in two healthy portions. The first walked the reader through the argument for government planning as a solution to the so-called externality problem, ―externality‖ being a term not used by Coase in either the FCC paper or the 1960 ―Social Cost‖ paper to follow (Coase 1960).2 By focusing, rather, on how ―harmful effects‖ were rationally evaluated in economic markets, the generality of the spillover problem was revealed. Social costs (externalities) were not exceptional cases and central planning was not a zero-cost default.3 Governments and markets provide alternative forms of resource coordination; determining the socially efficient mix requires symmetric appraisals. To posit government taxes or controls as the costless default solution invokes the Nirvana Fallacy (Demsetz 1969). The second source of disruptive clarity consisted of Coase‘s deconstruction of the government‘s logic to assign property rights by fiat. Regulators and the U.S. Supreme Court had confused the resource allocation question – how airwaves were to be used – with the rights ownership question – who got to use them. Licenses were assigned by comparative hearings (―beauty contests‖) on the grounds that chaos would reign in the airwaves were the rights sold like other economic goods. Coase, observing licenses traded in secondary markets, saw the creation of resource use rights and the assignment of said rights as separable. 2 Coase explicitly avoided ―externality‖ in his attempt to show the generality of the resource allocation problem, breaking loose from the Pigouvian paradigm that characterized products with spillovers as uniquely leading to market failure. He thereby focused on alternative solutions to the resource problem, their costs, benefits and the government‘s facilitative role in defining flexible spectrum rights whose particular utilization could be valued and revalued in response to changing market and technological developments. Pigouvian static externality and its subsequent mathematical treatment consistently failed to motivate problem-solving processes that could answer the question of how and why government could implement regulations (or taxes) that would be efficient where markets failed. See Coase (1988); Dahlman (1980). 3 Coase was keen to note such asymmetries in the economics literature. The object of his critique in the 1959 FCC paper (Coase 1959) and then in his 1960, The Problem of Social Cost (Coase 1960), was A.C. Pigou‘s influential THE ECONOMICS OF WELFARE (Pigou 1920). Coase‘s The Marginal Controversy (Coase 1946), found a similar ‗zero cost for government policy‘ assumption embedded in the work of Harold Hotelling, Stability in Competition (Hotelling 1929). Hotelling led many economists, including Abba Lerner and Paul Samuelson, to postulate that declining average cost goods were efficiently produced under a regime extending subsidies to suppliers who could thereby recover fixed costs while pricing outputs at marginal cost. Coase noted that the approach implied that the required information for classifying products (and technologies used to produce them) was freely available to the government, and that such subsidies (and the taxes required to fund them) would not distort market feedback loops revealing which projects to fund. Hazlett, Porter and Smith: Radio Spectrum and the Disruptive Clarity of Coase page 3 Both lines of thought, institutional symmetry and the allocation-ownership dichotomy, would figure prominently in Coase‘s seminal 1960 analysis, generally considered the most frequently cited research paper in the history of economics (Hazlett and Coase 2009, p. 1). Here we ponder issues more specifically related to Coase‘s work on radio spectrum, organized by the two general strands delineated. In the first we evaluate spectrum policies under a positive transaction costs framework4 helping to clarify recent critiques of Coase‘s property rights policy proposal as either (a) difficult to implement, given the stochastic nature of radio signals, or (b) obsolete, by virtue of newer digital radio technologies that permit the use of smart wireless devices in ―spectrum commons.‖ Both attacks embed the Pigouvian asymmetry that the Coasean analysis exposed. In this paper, however, we focus largely on the widely adopted policy reform promoted in the Coase paper of 1959: wireless license auctions. When offered, the suggestion was treated with extreme hostility. Regulators, policy makers, industry officials, and academic experts were of the opinion that Coase was ignorant of the technical characteristics of radio spectrum and incorrect as to his allegedly radical economic analysis. Auctions would not only be bad policy, they would be impossible: airwaves were not susceptible to definition as property. Coase‘s responses were sound, yet we need not rehash them. Over 30 other countries have run the experiment. On July 25, 1994, e.g., the Federal Communications Commission commenced Auction No. 1, selling ten Narrowband Personal Communications Services (N-PCS) licenses used for paging services. Aggregate winning bids of $617 million were generated. While N-PCS failed to prove profitable,5 the government captured significant revenues and moved to hold additional auctions. In March 1995, 99 broadband personal communications services licenses (PCS) offering rights enabling competition with cellular operators were sold for $7 billion. Through 2008, 73 FCC auctions were held, 27,484 wireless licenses sold, and $52.6 billion collected from winning bidders.6 See Appendix 1. Auctions are now a well-established license assignment tool. ―[S]pectrum auctions in the US have been a great success,‖ (Scanlan 2001, p. 690) a viewpoint widely shared by economists (Milgrom 2004). Policy makers have been energetic in claiming credit for their implementation. Indeed, wireless auctions now constitute a textbook example of efficient regulatory reform. That Coase persevered in his analytical enterprise when his work was questioned by all about him, is a tribute to his character, the quality of his thought, and the substance of the economic model on which he built. Coase (1959) is far less famous a work than its elaboration in Coase (1960). That paper was published pursuant to an invitation for a correction from JLE editors, who claimed that it erred in its treatment of externalities. But the editors of this JOURNAL were wrong; the Federal Communications Commission paper did not commit a ―very interesting error‖ (Coase 1993, p. 250) but offered a lucid correction. We focus on two aspects of that analysis here: 4 See Coase Theorem discussion below. 5 Paging services had been profitable, but were about to be displaced by cellular services. (Murray 2001). 6 Statement by FCC Chairman Kevin J. Martin, News Release, Federal Communications Commission (March 18, 2009) and FCC website. For a summary of FCC reported auction results, see Appendix 1. Hazlett, Porter and Smith: Radio Spectrum and the Disruptive Clarity of Coase page 4 (1) Symmetric evaluation of resource appropriation rules. Coase thought clearly about the economics of damaging spillovers: they were byproducts of valuable activities and, as such, were productive inputs subject to the same cost-benefit calculus as other resources. This understanding led Coase to view legal rules not as palliatives for market failures, but as mechanisms to discover trade-offs and achieve optimal outcomes. As soon as this task is made clear, and the complex nature of the changing opportunities realized, it is apparent that a government-managed process is simply one alternative, while markets form the standard default in a modern economy. The role of economic analysis was not to assume away the problem by the deus ex machina of no-cost public regulation, but to compare institutional options, apples-to- apples. This common sense was uncommon, and it exposed the theoretical weakness of an economic paradigm that proved market failure while assuming perfect governments. (2) The public policy of auctioning radio frequency ownership rights. This signature policy payoff of Coase‘s 1959 paper begs the query: what other scholarly article has helped trigger such enormous real-world changes? Competitive bidding for wireless license awards, a reform uniformly traced to Coase (1959), began in New Zealand in 1989, in the U.S. in 1994, and is now employed in dozens of countries. License assignments have proceeded as suggested, eliminating costly delays and inefficiencies. Yet license auctions do not enable market allocation of radio spectrum, and may in fact exacerbate the artificial scarcity imposed by regulation. U.S. policy has, in recent years, been stymied by policy retrogression, under-allocating bandwidth for mobile networks and rejecting liberal licenses in favor of ―re-regulation.‖ Some of the problem can be traced to Coase‘s ―bundle of rights‖ property agnosticism (addressed previously by Thomas Merrill and Henry Smith 2001), which now calls for amendment. We modestly propose a Coase (1959) 2.0 Edition that incorporates fifty years of wireless market experience to extend the efficiencies of license auctions to spectrum markets. Coasean Disruption may be just getting started. II. TWO SYMMETRIES AND ONE EMPIRICALLY TESTABLE PRESUMPTION Coase (1959) brought clarity to resource economics by exposing two asymmetries in the existing analysis, and then tucking these insights into the comfortable paradigm of Adam Smith‘s ―invisible hand.‖ First, he revealed that cost ―externalities‖ were not special cases but standard economic inputs (or outputs). The social goal is not to eliminate (maximize) them but to maximize economic value.7 Second, the challenges encountered in doing so were not, uniquely, market failures. They were real-world problems confronted by government regulators or private owners. To assert that markets broke down when they failed to optimally deploy resources was unhelpful; it said nothing about the relative success of some alternative set of rules. Direct government regulation, tax/subsidy schemes, and private property rights – including the many variants of each – were to be empirically evaluated to determine the best methods for 7 It should be noted that Pigou (1920) did not seek to categorically suppress spillovers, but to incrementally tax or subsidize allocation choices so as to force decision makers to rationally account for them. But where Pigou saw certain types of markets as subject to special policy interventions due to ―externalities,‖ Coase brought clarity by showing how the allocation of ―harmful effects‖ (or ―beneficial effects‖) was just another resource use question. Hazlett, Porter and Smith: Radio Spectrum and the Disruptive Clarity of Coase page 5 maximizing net social output. Third, Coase was not agnostic about where the analysis would trend. Coase anticipated that full, fair, well-informed evaluations would find that decentralized resource owners generally outperformed state diktat. These insights profoundly influenced development of both theory and empirical research. Yet, we note that much of the essential wisdom has yet to permeate ongoing economic discussion, particularly in the policy realm in which the Coasean analysis began – radio spectrum allocation. We address each of these contributions in this light. a. Opportunity Costs of Reducing “Harmful Effects” The U.S. Supreme Court argued in 1943 that, because ―there is a fixed natural limitation upon the number of stations that can operate without interfering with one another,‖8 the government was virtually forced to tightly control spectrum use. Without such central administration, endemic interference between stations would produce chaos, what a later Court would dub ―a cacophony of competing voices.‖9 Coase confronted the Supreme Court‘s ―misunderstanding of the nature of the problem (Coase 1959, p. 14),‖ and made a remarkable discovery. First, the limited nature of frequencies simply suggested a scarcity constraint. Countless other scarce resources were efficiently allocated by ―the price system.‖10 Second, whatever spectrum use rights were assigned to wireless users could be assigned by auctions rather than fiat. This was an idea proposed initially by University of Chicago Law student Leo Herzel in 1951, who suggested this approach not after studying under Milton Friedman or Aaron Director, but having read Abba Lerner‘s THE ECONOMICS OF CONTROL (1944) (Coase 1993, see also Herzel 1951). He was a good student: selling rights to the highest bidder was a logical way for a socialist system to theoretically rationalize distribution. While then controversial, the proposition cannot be in dispute: today the FCC does precisely this.11 Coase‘s third argument went much further. The government mitigated conflicts between users by sharply limiting resource use – a regime that ―relies exclusively on regulation and in which private property and the pricing system play no part‖ (Coase 1959, p. 34) – but could potentially achieve the same objective far more efficiently. However it initially defined resource use rights, it could allow users to recontract. Rights holders would then generate gains from trade, reducing interference when neighboring frequency users paid them more than they gave up, either accepting higher levels of airwave congestion or using mitigation techniques of their own – improved technology, adjusted operations, or relocation. In this manner, users would act like property owners, searching for ways to increase the value of their assets. 8 National Broadcasting Co. v. United States, 219 U.S. 190 (1943), p. 213. 9 Red Lion v. FCC, 395 U.S. 367 (1969). 10 ―Land, labor and capital are all scarce, but this, of itself, does not call for government regulation.‖ (Coase 1959, p. 14). 11 The alert reader will note that the issue should not have been in dispute in 1959, either, as radio and television stations traded freely in the marketplace – licenses and all. But such transactions did not appear to settle the matter, as witnessed by the experts‘ consensus denouncing the suggestion as hopelessly naïve. Hazlett, Porter and Smith: Radio Spectrum and the Disruptive Clarity of Coase page 6 One of the purposes of the legal system is to establish that clear delimitation of rights on the basis of which the transfer and recombination of rights can take place through the market. In the case of radio, it should be possible for someone who is granted the use of a frequency to arrange to share it with someone else, with whatever adjustments to hours of operation, power, location and kind of transmitter, etc., as may be mutually agreed upon; or when the right initially acquired is the shared use of a frequency (and in certain cases the FCC has permitted only shared usage), it should not be made impossible for one user to buy out the rights of the other users so as to obtain an exclusive usage (Coase 1959, p. 25). This angle led Coase to see that the ―externalities‖ were resource use conflicts entirely analogous to the input costs that firms routinely incurred in producing valuable goods and services. When clearly owned, they were rationally allocated. What made them seem to be of a special character were circumstances making private ownership ill-defined.12 But those circumstances were not automatically eliminated by state ownership, government regulation, or a tax and subsidy scheme. Such approaches were just another way to deal with the same conflicts over alternative resource use. The confusion was apparent in radio spectrum, where private ownership was said to be impossible – but where regulators allegedly averted potential chaos by issuing rules excluding most resource uses so that they could award protected, unobstructed use rights to lucky licensees. Coase saw that such rights could be more efficiently and transparently distributed by auction. But that was a very limited reform, because ―the enforcement of such detailed regulations for the operation of stations as are now imposed by the Federal Communications Commission would severely limit the extent to which the way the frequency was used could be determined by the forces of the market‖ (Coase 1959, p. 25). If emission rights were broadened to constitute ownership of frequencies, then private owners could deploy new technologies, services, and business models, make deals across FCC-defined borders, adjust to changing circumstances, and remix combinations of factors – including spectral inputs -- to discover the optimal level of interference. In a dynamically changing world, such efficiencies would be continually updated. Such owners would not eliminate spillovers but be motivated to discover the efficient levels and types. Some owners would buy neighboring (or distant) rights to emit, others sell, all comparing costs to benefits in order to maximize the value of their slices. The result would be a complex balancing. This was starkly at odds with the prevailing view that ―harmful interference‖ was destructive and would be endemic without pervasive regulatory management of radio use. ―It is sometimes implied that the aim of regulation in the radio industry should be to minimize interference. But this would be wrong. The aim should be to maximize output‖ (Coase 1959, p. 27). Over time, spectrum ownership rights for certain types of licenses did expand, coming to resemble private ownership of the bandwidth allocated to the FCC license. For mobile wireless 12 Owners have, most essentially, the right to exclude others from appropriating their property. When lines cannot be drawn to delineate borders, the effort to define rights suffers. Hazlett, Porter and Smith: Radio Spectrum and the Disruptive Clarity of Coase page 7 services, in particular, spectrum authorities in the U.S. and elsewhere have granted liberal rights that delegate the choice of technologies, services, and business models largely to the licensee. This regulatory reform has generated enormous value in assisting the efficient organization of markets (Hazlett 2008). The problem is that it has been parsimoniously applied, allotting relatively little spectrum to liberal licenses, and continuing the use of the state property regime for allocations. This provokes new challenges for economic policy, as discussed below. b. Institutional Symmetry, and the Incredible Lightness of Stigler’s “Coase Theorem” What has come to be called the Coase Theorem, courtesy of George Stigler,13 obscures the Coasean analyses of 1959 and 1960 and leads to hazardous analytical detours.14 The Stiglerian version is that, with zero transaction costs, resources will be efficiently deployed no matter which party is endowed with ownership rights. This discussion, with these conditions, appears in Coase (1960) not as a ―theorem‖ but to critique the existing economic theory that assumed away information and transactions cost when actions were taken by the state. Coase, noting that the assumptions employed produced no market (or non-market) failure, then focused on situations with positive transaction costs as the real analytical challenge. Efficient liability rules would be found by comparing the more effective organizational rules when all costs were included. Misplaced reliance on the zero transaction cost assumption obscures Coase‘s central message. This diversion is of large consequence in that such a default position is easily toppled. The case for Pigouvian taxes or state property ownership is reconstituted via demonstration of ―transaction costs.‖ This does great violence to Coase‘s analysis on multiple levels. First, it implicitly takes ―transaction costs‖ as a fixed feature of markets, exogenous from the legal rules or regulations imposed by the state.15 This is clearly incorrect; the way property rights are defined has great bearing on how such rights can be productively used in the marketplace.16 Second, when rights are defined and distributed by the state in ways that hamper efficiency, the resulting ―tragedy‖ is properly a non-market failure. By refusing to undertake transactions that are, given their cost, not worth the benefits sought, private property owners make efficient choices (Demsetz 2003). What needs to be fixed is the legal structure. 13 ―This proposition, that when there are no transaction costs the assignments of legal rights have no effect on the allocation of resources among economic enterprises… I christened… the Coase Theorem.‖ (Stigler 1988, p. 77). 14 This conclusion has been rendered by Ronald Coase (1988) himself. 15 ―The exclusive use model should be applied primarily but not exclusively in bands where scarcity is relatively high and transaction costs associated with market-based negotiation of access rights are relatively low. The commons model should be applied primarily but not exclusively in bands where scarcity is relatively low and transaction costs are relatively high.‖ Federal Communications Commission, Spectrum Policy Task Force Report (Nov. 15, 2002), p. 5. We note the FCC‘s confused terminology, referring to the private property model as ―exclusive use,‖ when such bandwidth constitutes the most intensively shared frequency spaces in economic terms, and to unlicensed bands as ―commons,‖ when such frequencies are regulated by governance rules imposed by the FCC under administrative allocation. 16 For instance, a tragedy of the anti-commons ensues when rights are defined in fragmented, overlapping contours that are prohibitively costly to reassemble. See (Heller 2008). Hazlett, Porter and Smith: Radio Spectrum and the Disruptive Clarity of Coase page 8 Third, Coase (1959) is clear in its focus on symmetric comparison of the (positive) transactions costs faced by government in parceling out limited use rights for wireless applications, on the one hand, and an alternative system in which private entities owned the frequencies. Either set of decision makers (regulators v. owners) would have to make choices. Coase saw, for example, that the allocation of a given block of frequencies for television broadcasting, to the exclusion of other services, was not pre-determined by engineering rules.17 It was a choice made by regulators that reflected their belief that the value obtained from this use of bandwidth exceeded the value of the excluded opportunities. There were other ways to perform the same coordination. It was not sufficient to merely posit a market failure to establish a case for administrative allocation. One had to consider the operational effectiveness of one system against the alternatives. As sensible as the conclusion was, it was radical at the time. An academic (and FCC Chief Economist), Dallas Smythe, dismissed market allocation as theoretically imperfect and therefore irrelevant. Coase responded: Professor Smythe also argued that the use of market controls depends on ‗the economic assumption that there is substantially perfect competition in the electronics field.‘ This is a somewhat extreme view. An allocation scheme costs something to administer, will itself lead to a misallocation of resources, and may encourage some monopolistic tendencies – all of which might well make us willing to tolerate a considerable amount of imperfect competition before substituting an allocation scheme for market controls (Coase 1959, p. 16). Coase explained that there is no such thing as a free allocation system. The efficient social choice considered the disparate options, symmetrically. That is not a result of the zero transaction cost assumption, but its opposite. c. The Market Efficiency Default While Coase went ―looking for results,‖18 he was not agnostic. He analyzed radio spectrum in 1959 as Adam Smith had analyzed commodity markets in 1776. The ―invisible hand‖ had much to offer. A CBS broadcast executive expressed surprise when asked at a 1958 congressional hearing about the possibility that the ―avenues of the air‖ should be sold by the Government such that ―the taxpayer would be getting the proceeds‖ (Coase 1959, p. 17). Coase delights in quoting the broadcaster‘s response, ―[t]his is a new and novel concept,‖19 offering the retort: ―This ‗novel theory‘ (novel with Adam Smith) is, of course, that the allocation of 17 ―[I]t is not clear why we should have to rely on the Federal Communications Commission rather than the ordinary pricing mechanism to decide whether a particular frequency should be used by the police, or for a radiotelephone, or for a taxi service, or for an oil company for geophysical exploration, or by a motion-picture company to keep in touch with its film stars or for a broadcasting station. Indeed, the multiplicity of these varied uses would suggest that the advantages to be derived from relying on the pricing mechanism would be especially great in this case.‖ (Coase 1959, p. 16.). 18 Interview with Thomas W. Hazlett, REASON (Jan. 1997). 19 Ibid. Hazlett, Porter and Smith: Radio Spectrum and the Disruptive Clarity of Coase page 9 resources should be determined by the forces of the market rather than as a result of government decisions‖ (Coase 1959, p. 18). Coase argued that the regulatory agency was unlikely to exhibit comparative advantage in allocating bandwidth. Competitive markets would reveal opportunity costs and reward entrepreneurial efforts to identify potential benefits from innovation, improving social coordination. In this, Coase operated mainly from theory, not from his own detailed examination of alternative regulatory models. With the liberalization of certain important wireless licenses over the past half-century, however, the evidence is overwhelming: the normative recommendation was largely correct (Hazlett 2008; Hazlett & Leo 2011). III. THE INTELLECTUAL PIVOT FOR AUCTIONS When Ronald Coase began his investigation of public policy for radio spectrum, communications policy experts in the U.S. widely held that radio spectrum rights were optimally held by the state: markets would under-produce ―public interest‖ outputs. Grounded in the genesis of spectrum allocation for radio broadcasting, policy makers opposed market-driven rights allocations because they would ―emasculate ‗socially desirable‘ censorship.‖20 But many analysts went much further, asserting that spectrum could only be held by the government. Property rights could not be auctioned because they could not be defined. ―Rights to use the spectrum are not susceptible to legal enforcement as are private property rights‖ (Melody 1980, p.392). Airwave spillovers led to economic externalities, which would destroy market allocation – that was the theory-driven story. When Coase explained the actual problem as delimiting rights, which could be achieved using one set of rules or the other (public ownership v. private ownership), the response from academic and policy experts was emphatically negative. Invited to the FCC to testify about his novel approach to spectrum allocation in 1959, the first question posed was Commissioner Philip Cross‘ query: ―Tell us, Professor, is this all a big joke?‖ (Coase 1993). In 1962, the Rand Corporation commissioned Coase and two other economists to write a detailed proposal to implement the suggested policy regime. Rand then suppressed the 200-page report when the think tank was warned of its potentially explosive political implications.21 In 1965, a Federal Communications Commission official explained why the response to Coase was so uniformly hostile: ―After the initial shock of rationally considering the use of the pricing mechanism in frequency allocations, the virtually unanimous view of communications specialists would be that the multiplicity of users both national and international…, the interference characteristics of radio with signals at relatively low energy levels interfering at diverse points many hundreds of miles away… and the hundreds of thousands of licensees involved in addition to the many millions of consumers make the pricing mechanism unworkable for frequency allocation‖ (Goldin 1965, p. 168). When, in the mid- 1970s, Coase‘s call for auctions was (finally) taken up by an FCC member, it was promptly 20 As economist Jora Minasian stated the argument against auctions (Minasian 1975, p. 268). 21 The episode is explained in Coase (1998). The 1962 paper was finally released by Rand in 1995 – one year after FCC auctions commenced. (Coase, Meckling and Minasian 1995). Hazlett, Porter and Smith: Radio Spectrum and the Disruptive Clarity of Coase page 10 ridiculed by two fellow Commissioners who announced that its adoption garnered the same odds ―as those on the Easter Bunny in the Preakness.‖22 The intense opposition to competitive bidding was curious to Coase. The arguments were made that (1) radio emission rights could not be defined to be sold; (2) even if such rights could be traded, market assignments would under-supply public interest outputs like local news or educational programming. But the first premise was demonstrably untrue, as the licenses that were assigned by regulators were routinely re-assigned by the price system; secondary market transactions had been revealing the existence of substantial rents since the 1920s. And the second seemed to Coase to clash with common sense. The conditions placed on licensees could be imposed in a regime where licenses were distributed by auction, with rents (reduced by the expected costs of the embedded obligations) captured for the public. The objection to market assignments seemed simply to be in error. Here Coase missed the political dynamics. One advantage of an auction regime is that it improves transparency, forcing regulators to state terms and conditions. But policy makers and broadcasters are able to generate mutual gains – trading rents for regulatory influence over content -- by incomplete revelation of terms. Policy makers had good reasons to fear a loss of control over broadcasting were auctions to be implemented. Assigning rights to radio and television stations by competitive bidding rather than administrative fiat eliminated non-arms length transactions and thereby reduced the scope for ―regulation by raised eyebrow‖ – a term of art at the FCC.23 The license was commonly referenced as a quid pro quo, with rents awarded to licensees in exchange for ―public interest‖ outputs (see e.g., Hazlett and Spitzer 2000). In reality, the enumerated social benefits rarely materialized. By the FCC‘s own admission, the ―public interest‖ programming gambit was a failure, producing a ―vast wasteland,‖ as FCC Chairman Newton Minow famously described TV fare in 1961 (Minow 1964, p. 45-69). In 1976, Commissioner Glen O. Robinson likened broadcast regulation to ―a charade—a wrestling match full of fake grunts and groans but signifying nothing‘‘ (Geller 1994, p. 15). As economist Bruce Owen deduced from the empirical evidence, the FCC ―does not live up to its own theory of regulation‖ (Owen 1982, p. 36). Yet the lack of productive outputs did not mean that the regime was not a success in achieving certain politically popular ends. Evidence of that success was seen in the extreme hostility to auctions cited above, and in the fact that is was particularly concentrated among those who benefited the most from the exercise of power over assignments -- committees in Congress overseeing FCC operations. While budget and appropriations committees had long sought to obtain revenues from licenses, the respective commerce committees (overseeing telecommunications regulation) blocked reform. In Feb. 1987, Sen. Warren Rudman (R-NH), a member of the Senate Commerce Committee, sprayed cold water on the Federal 22 Broadcast Renewal Applicant, 66 F.C.C.2d 419, 434 n.2 (1977) (Commissioners Hooks and Fogarty, separate statement). See Robinson (1978, p. 243). 23 The term, coined by Nixon-appointed FCC Chair Dean Burch, has been defined by federal courts this way: ―Thus, licensee political or artistic expression is particularly vulnerable to the 'raised eyebrow' of the FCC; faced with the threat of economic injury, the licensee will choose in many cases to avoid controversial speech in order to forestall that injury. Examples of this process are legion.‖ Illinois Citizens Committee for Broadcasting v. FCC, 169 U.S. App. D.C. 166, 515 F.2d 397 (1974)