The Rules of the Road or Roadblocks on the Information Highway? Regulation and Innovation in Telecommunications

Regulatory policy in telecommunications must balance short-term efficiency (low prices) against the firms’ incentives to innovate, which have longer reaching impacts on economic welfare. Historically, policy tended to sacrifice dynamic efficiency for the sake of competitive prices and static efficiency. In the last few decades, economists and other researchers have begun to document the large welfare costs of ignoring dynamic efficiency. We analyze the impact regulation has on innovation in a simple theoretical framework. We then turn to the empirical evidence that regulation dampens firms’ incentive to innovate in the telecommunications industry in general and the market for broadband Internet access in particular. Both product and process (cost reducing) innovation are discussed. The chapter forms a compendium of available research on the intersection of telecommunications regulation and innovation. The lesson for policy makers provided by the consensus of the literature is that lighter regulation spurs process and product innovation. We conclude with a discussion of future regulatory trends