August 6, 2001
Tumbling Into the Telechasm
By George Gilder. Mr. Gilder, editor of the Gilder
Technology Report, is author of "Telecosm: How Infinite Bandwidth
Will Change Our World" (Free Press, 2000). He may own stock in the
companies mentioned in this article.
When Bill Clinton assumed office nine years ago, I predicted he would
enjoy one of the greatest economic booms in the history of the world.
Impelled by the spread of the Internet, the onset of fiber optics, and a
tenfold increase in venture capital -- unleashed by the lower tax rates and
deregulation of the Reagan administration -- the Clinton economy had it
made. Moreover, until the election year of 2000, Mr. Clinton actually
pushed the economy along with beneficent trade policy, an astonishing
opposition to Internet taxes and restrictions, and a 30% capital-gains tax
cut that yielded hugely more revenues than projected by demand-side
models.
Devastating Crunch
The Bush economy, unfortunately, not only possesses no such immunity to
bad policy, but also is gravely vulnerable to policy mistakes accumulating
by the end of the Clinton term. A high-tech depression is under way,
driven by a long siege of deflationary monetary policy and obtuse
regulation that has shriveled hundreds of debt-laden telecom companies
and brought Internet expansion to a halt.
The entire telecom sector -- what I term the
telecosm -- is engaged in a heroic capital-intensive
buildout of a communications infrastructure
thousands of times more cost-effective than
today's. Promising to make interactive video as
pervasive as voice telephony today, such
infrastructure projects create demands for funds
that outreach the resources of venture capital. Just
as some $200 billion of junk bonds from Drexel
Burnham and others sustained the previous hybrid
build-out of optics, cable and cellular, similar debt
issues are crucial to the new infrastructure of
all-optical networking. But there ends the similarity
with the previous build-out, which emerged during a time of real
supply-side tax cuts, OPEC tax collapse, deregulation, and general
monetary stability, and was vindicated by soaring cash flows and equity
valuations. By contrast, the far more promising new infrastructure is
withering in the face of monetary, tax and regulatory blunders.
For debt-burdened companies, nothing is so oppressive as deflation -- a
dearth of money -- which inflicts soaring real interest burdens, sinking asset
values, and collapsing growth. The leaders of the telecosm have to pay off
debt in appreciating dollars while cash flow and collateral declines, and
banks deny the kinds of rollovers that saved the likes of MCI in the 1980s.
Real interest rates are now drifting upward faster than the Federal Reserve
can reduce them. Monetary economists prattle about too many dollars
while the dollar soars against deflated currencies, such as the yen, with its
interest rate near zero. From industrial staples such as steel (down 42% in
four years) to the monetary tocsin of gold (down 40% in four years),
commodity prices lie in a deep trough.
Meanwhile, the Bush "tax cut" degenerates into a ten-year gantlet of
meaningless shifts and shuffles, the OPEC tax hike persists in its wanton
gouge, and regulations strangle the broadband Internet.
Essential to the Internet economy is the expectation of a steady increase in
the speed and capacity of connections. Nearly every dot-com was betting
on it. The glitches and delays of dial-up modems abort 70% of all intended
Internet transactions and bar the business plans of thousands of dot-coms
and Internet service providers, not to mention vendors of streaming video,
distance learning, video telecommunications and Internet malls.
The only reason for the so-called "fiber optics glut" is the near deliberate
starvation of connections to homes and small businesses. It is a classic
socialist famine, where the warehouses are full but the people are starving
for lack of market distribution systems. Part of this is because of a few
poor business decisions in the industry, but most of it comes down to
intrusive regulatory policy in an era of deflation.
Typical of bad regulation is a Federal Communications Commission policy
called Total Element Long Run Incremental Costs, or Telric, summed up
simply as a price cap on what telephone companies can charge for links to
homes and businesses. Designed in the late 1990s to prevent "monopoly
rents," the cap is based on an estimate of costs that would apply in a fully
competitive environment when bandwidth is a commodity.
But in dynamic technology markets such as Internet broadband,
monopolies are inevitable, virtuous and fleeting. Every innovation creates a
monopoly at the outset, and monopoly rents pay for financial risks and
costs entailed in bringing innovation to market. Like any price-control
scheme, Telric choked off supply, taking the profits out of the
multibillion-dollar venture of deploying new broadband pipes.
Compounding Telric were "open access" and "unbundling" rules that
require companies installing advanced Internet gear to share pipes with
others. The goal was to stop monopolies, but what regulators did was to
bar Internet investment by privatizing the risks and socializing the rewards.
No entrepreneurs will invest in risky, technically exacting new infrastructure
when they must share it with rivals. At first restricted to telcos, the
open-access rules have since been extended to cable, where they balked
Michael Armstrong's bold AT&T plan to compete with the Bell companies
using cable TV plant.
The absence of broadband local loops also withers the optical Internet.
The $44.8 billion write-off and $8 billion loss announced last week by JDS
Uniphase signals the devastation of the most promising communications
technology in the history of the planet. Treating JDS Uniphase as a budding
monopoly, the Federal Trade Commission permitted its merger with SDL
only on condition that it sell its Rushlikon pump laser facility to Nortel.
Some monopoly. Uniphase last week devalued its SDL pump laser
acquisition by some $35 billion. The write-off -- the largest in business
history -- was partly because of the collapse of last-mile traffic growth. But
it was also because an efflorescence of new laser and amplifier
technologies -- from such companies as NP Photonics and Princeton
Optronics -- are already making conventional pump lasers obsolete.
Regulators can't keep up.
Before the FTC attack on Uniphase, regulators casually destroyed the
Internet strategy of WorldCom. Under Bernie Ebbers, Worldcom planned
an attack on the real telopolies around the globe through the use of Internet
for both data and voice. Suffering from mazes of conflicting connections,
with each data packet making some 17 hops between routers before
reaching its destination, today's Internet competes only fitfully with the
telecom establishment. But by purchasing and upgrading the Internet
facilities of MCI and Sprint, WorldCom planned to transform its portions
of the Internet into a coherent broadband system.
Instead, upholding the fantastical view that WorldCom was becoming an
Internet monopolist, U.S. regulators defended the existing monopolists
against the WorldCom challenge, forcing the sale of MCI's Internet facility
to Cable & Wireless in Britain and barring the acquisition of the Sprint
network. By upholding a false notion of competition -- one in which no one
can win or make any money -- the FTC largely wrecked WorldCom, the
most aggressive monopoly buster on the planet.
Internet Sclerosis
As difficult as it may be for Republicans to acknowledge, they have
become part of the Internet sclerosis. Led in Congress by regulation lovers
such as Sen. Ted Stevens of Alaska, pressed by Republican governors
such as Nevada's David Levitt to impose Internet taxes, and beset by
conservatives who blame the Internet for pornography (rather than
prosecuting pornographers), the party is imperiling the crucial expansion of
the Internet economy.
Meanwhile, the president is preening for pollsters and junk science greens
while hundreds of telecommunications companies tumble into the
telechasm, choking on debt easily sustainable under favorable tax and
regulatory conditions, but now rendered devastating by a global deflation. |
