Auctions for Universal Service Paul Milgrom March 1

Auctions for Universal Service? Paul Milgrom March 1, 2007 3/1/2007 PFF Universal Service Conference 1

Why Universal Service? n n Congressional mandate: “Access to advanced telecommunications and information services should be provided to all regions of the Nation. ” Why? Social fabric: isolated individuals, families and communities can become disenfranchised and estranged. ¨ Network externalities: people on the network benefit others ¨ Reduced cost of emergency monitoring and service delivery ¨ n Issues Who will supply services? ¨ With what obligations and what size subsidy? ¨ Will subsidy be lump sum or per subscriber? ¨ Will there be competition “in the market” or just “for the market”? ¨ 3/1/2007 PFF Universal Service Conference 2

Why Auctions? n General argument for market processes ¨ nobody knows all the relevant costs of service, so a decentralized market process has advantages. ¨ regulators are less efficient in setting service areas ¨ regulators may pay unnecessarily high subsidies n Auctions can be non-discriminatory: ¨ set n to treat all parties equally. Auctions are flexible and can promote a wide mix of objectives. 3/1/2007 PFF Universal Service Conference 3

My Omitted Topics n n What services must be offered? Over what period? Lump sum or per subscriber? Policy toward incumbent’s existing infrastructure? Competition to be promoted? Is it feasible and economical to promote competition by multiple eligible telecommunications carriers (ETCs) carriers in serving remote households and communities? ¨ Competition promotes better service quality and so reduces the need to regulate quality. ¨ n Today: I assume that one ETC will be subsidized to serve each “area” and will have an obligation to offer service to all within that area. 3/1/2007 PFF Universal Service Conference 4

Simple Auction Rules Can be Effective 3/1/2007 PFF Universal Service Conference 5

The Minimum Cost Problem Minimum cost service requires n ¨ ¨ Determining which ETCs will provide service. Allocating service areas among ETCs. Bidders costs differ in both level and form. n ¨ ¨ ¨ n 3/1/2007 Incumbent may extend existing lines and use existing centers. Others would install new equipment. Costs of service vary depending on very many factors: geography, weather, technology, infrastructure, etc. Complementarities arise from various sources, especially shared fixed costs for groups of smaller geographic areas. PFF Universal Service Conference 6

Cost and Bid Conceptualization b 11 b 12 … n b 21 … b 33 n Cost of service for an area consists of an incremental cost plus a fixed system cost for the area. Bids must specify Fixed subsidy required for each smaller block (bij), plus ¨ Additional subsidy (K) to serve the region. ¨ n 3/1/2007 Auction selects total cost minimizing bid combination. PFF Universal Service Conference 7

Competing at Margins? a 11 a 12 … n a 21 a 22 … a 51<b 51; a 52<b 52 ¨ a 31 a 32 … a 41 a 42 a 43 a 44 … n a 51 a 52 b 53 b 54 … b 61 b 62 b 63 b 64 … 3/1/2007 Given the winners, allocation is determined by incremental bids: … n Winners are determined also by the fixed charge. Outcome analysis In full information equilibrium, outcome is efficient. ¨ bij bids lie below competitors’ costs and above own cost. ¨ Fixed bids include margin for profit. ¨ PFF Universal Service Conference 8

Evaluation and Extensions 3/1/2007 PFF Universal Service Conference 9

Advantages/Disadvantages n n “Package auction” format no exposure problem. Bids are few and simple: one for each small area plus a fixed cost. Computations are easy to do and check. If cost model is nearly correct, limited bids imply minimal distortions. 3/1/2007 n n n …but… If the cost model is incorrect, then final allocation could suffer. Example: areas won may not be contiguous. This can be mitigated by careful bidding ¨ deals among bidders after the auction. ¨ PFF Universal Service Conference 10

Extensions (but Complexity!) n n Could use more general package bids to accommodate more cost structures. Specify subsidies on a per subscriber basis to encourage competition, better service. ¨ But who is eligible to receive subsidies? ¨ Coverage / cherry-picking problems n If per subscriber subsidies are feasible, can perhaps allow multiple winners and competition for subscribers. 3/1/2007 PFF Universal Service Conference 11