Network Industries

A Research Overview

Matthias Finger

• Publisher: Routledge
• Year: 2019
• Print ISBN: 9781138326934
• eBook ISBN: 9780429831058
• Topic: Business
• Subtopic: Business General
• Index: Business

The unique challenges associated with understanding network industries requires insights from a range of disciplinary perspectives, namely economics, engineering, law, and political science. This book analyzes the de- and re-regulation of the network industries and the regulatory challenges these industries will face in the future.

Network industries are characterised by economics that entail limiting effects on competition and market creation, and the book highlights the drivers behind their liberalization as well as the inherent need for regulation as liberalization unfolds. By way of an historical approach, the author offers insights into the distinctive approaches between Europe and North America in the past whilst also presenting the pervasive role digitalization increasingly comes to play.

A concise overview of the state of thinking about the network industries, this book will be vital reading for researchers, advanced students and practitioners.

1
Why are network industries interesting?

This chapter presents and explains why network industries constitute a relevant and interesting topic, both for academics and practitioners. For most of us, network industries became interesting in the context of their liberalization, as before that they were considered to be sleepy, state-owned monopolies. But network industries were, of course, interesting far before their liberalization, which remains unfinished and partial and has recently been overtaken by other public policy objectives, as we will see. Thus, the history of network industries can be divided into roughly three phases, namely the periods before, during, and beyond liberalization.

Before liberalization: state-owned enterprises

Why were network industries interesting before their liberalization? To make it simple, mainly because the main societal functions of the different industries were defined at that time, and most of these functions continue to be valid today. What has changed with liberalization is the way these functions are performed, or more precisely how these various network industries are organized and governed so that these functions can (or in some cases can no longer) be performed. But let us proceed historically.

Private origins

Before industrialization took hold in Europe during the second half of the 19th century, no network industries existed, only fragmented operations pertaining to communications, transport, energy, and water. The first such operations were probably courier services, which later became postal services. They were organized as concessions by those in power yet operated by private entrepreneurs linked cities and city states in medieval Europe. Railways emerged in a similar way during the second half of the 19th century, when private companies, granted permission by public authorities, built lines between cities where sufficient traffic could be generated to make a profit. Telecommunications, electricity, and water services emerged predominantly in cities around the same time period; that is, parallel to the early urbanization in Europe, the United States, and the European colonies. These services were not connected among themselves and only catered to paying customers, as most of the services were operated by private companies yet generally granted permission by local and sometimes national authorities.

Network integration: from private to public monopolies

As we have come to learn since, network industries are characterized by strong (economic) network effects: the more customers are connected to the network, the better it is for everybody, and a monopoly infrastructure is generally more efficient than fragmented and even competing “networks.” This is particularly true in a period of infrastructure development, when corresponding investments (such as into rail, electricity, telecommunications, and water networks) are needed, as was the case during the rapid industrial development of the late 19th and the early 20th centuries and up to the 1970s. But such infrastructure monopolies do not necessarily need to be public, as one can see in the case of John Pierpont Morgan, the American financier, who understood early on how one could reap monopoly profits by investing into connecting scattered infrastructures, be it in telecommunications, railways, or electricity (Strouse, 1999). Yet the United States was and remains an exception worldwide, not least because of the country’s federalist nature. In most other countries, and especially in Europe and the European colonies, the integration and the monopolization of the different network industries in public hands became a tool of nation building.

Indeed, there is more to public ownership than network effects, as the different network industries – in particular postal services, telecommunications (integrated with postal services into what became called “PTT” in all countries worldwide except the United States), railways, and electricity – were actively used by government as a means for national development, cohesion, control, and nation building more generally. And such nation building provided an additional justification – besides network effects leading to monopolization – for the nationalization of the different network industries during the late 19th and early 20th centuries in most industrialized countries. Thus, most network industries became public monopolies in the form of state-owned enterprises (SOEs).

Post and telecommunications (PTTs) were typically national public monopolies. As for railways and electricity, the status depended on the nature of the state: in the centralized countries, as is the case in the majority of the countries of the world, railways, roads, and later air transport, as well as electricity and later gas, became national public monopolies. In the federalist countries, rail and electricity turned into regional public monopolies. Publicly granted private ownership survived in some local network industries, such as water or public transport, yet only in some countries, such as, interestingly, in France. France, as we will see later, gave birth to the so-called “French model,” also known as the PPP model (public-private partnership), a form of public control over privately operated local monopolies.

The SOE as the model provider of public (network) services

Thus was born the typical SOE as monopolistic provider of infrastructure services, most typically at the national but in the federalist countries also at the federal level. In the Latin-language-based European countries (France, Southern Europe), SOEs became known as public services providers if they were not flatly called “public services.” At the local level and in the Anglo-Saxon context, these SOEs were called utilities or public utilities. In the German context (including Austria and Switzerland), several such utilities merged into so-called “Stadtwerke” (or urban utilities). What characterizes all these public enterprises is the fact that they provide infrastructure services – communications, transport, energy, and water – by way of a public monopoly on a given territory, typically the nation-state. While they can and do generate revenues, their mission is not merely commercial, as they simultaneously have to provide public services functions, such as national development; security, national, and social cohesion; employment; and many other political functions.

In short, while the economic rationale for the monopolization of the network industries lies in their network effects, the political rationale has stemmed from the process of nation building since the late 19th century and from active support for national economic and social development during a great part of the 20th century. The development of the SOEs was halted only when globalization started to show its consequences in the late 1980s.

The liberalization period (1980s–)

Liberalization of the network industries started in the late 1980s at a global scale. Whether it has ended or not is a matter of debate. However, what caused liberalization to begin with is clear, namely a combination of factors, all somewhat related to globalization. Besides the drivers of network industry liberalization, I will discuss, in this section, the two main approaches to liberalization: the United States (US)/World Bank (WB) and the European Union (EU) approaches. At the end of this section, I will come back to the SOEs, which are particularly challenged by liberalization, challenges that makes the study of the network industries especially interesting.

The causes and drivers of liberalization

Liberalization has been triggered by at least three different forces – ideas (or ideologies), technology, and particular actors – all of which are also drivers of globalization. At an ideological level, neoliberalism has certainly been the most forceful driver. Neoliberalism comes in the form of an economic theory; that is, the belief that free and global markets not only lead to economic growth but simultaneously to social development and ultimately to world peace. In its most simplistic form, neoliberalism states that the freer the markets – that is, the less regulatory interventions – the better for economic growth, social development, and public welfare. Neoliberalism has been offered a significant boost by the demise of the Soviet empire and the fall of the Berlin Wall in 1989, all of which combined significantly accelerated world trade and economic globalization.

At a technological level, the early developments of information and communication technologies (ICTs) during the 1970s also significantly contributed to the economic globalization of the late 1980s. Indeed, the ICTs, together with the emerging global Internet, significantly accelerated the global exchange of information as well as global financial transactions. This in turn favored financial globalization and foreign direct investments (FDIs). Furthermore, progress in transport technologies, combined with FDI and the Internet, led to the globalization of “just-in-time” production (and consumption).

At an institutional level, neoliberal globalization was actively pushed by concrete actors. At the global level, this was mostly the WB and the International Monetary Fund (IMF), which in turn reflected the US government’s and the transnational corporations’ (TNCs’) global geopolitical and financial ambitions. At the European level, a particular form of neoliberal approach was pushed by the EU’s and more specifically the European Commission’s (EC’s) ambition to create a single European market.

The World Bank approach to liberalization: privatization

I simplistically equate privatization with the “World Bank approach” to liberalization simply because the World Bank pushed privatization most prominently throughout the 1980s. Yet privatization was also promoted by many other actors, notably the IMF, Margaret Thatcher, and the New Zealand and Chilean governments. All were strongly inspired by neoliberal economic thinking. But beyond ideology, privatization also responds to the need to attract private investment into infrastructure or simply to the need by some governments to pay off their previously accumulated debt.

The argument in favor of privatization claims that privately owned and managed companies will be more efficient and more innovative than government-owned and -managed ones. This statement is not necessarily wrong, though it is quite simplistic, as it ignores the broader industry context. In the context of the network industries, the SOEs were mostly monopolies, and privatization simply led to replacing public monopolies with private ones, which, by the way, is the reason why the governments could attract private investors. Consequently, privatization and the WB approach generally did not lead to competition, lower prices, and innovation; in the end, the private monopolies had to be regulated, and competition still had to be created. This is where the EU approach comes in.

The EU approach to liberalization: de- and re-regulation

I equate de- and re-regulation with the “EU approach” to liberalization simply because the EU – and more precisely the EC – created it during the 1990s and has been perfecting it ever since. Today, this EU approach has become the model of network industry liberalization. It has become de facto the only intellectually sound approach to the liberalization of the network industries, yet it exists at various levels of perfection in different parts of the world. Most of this book will therefore be about the EU approach.

In its origin in the early 1990s, this EU approach responded to an EU problem, if not the EU problem: namely Europe’s lack of political integration. Creating an internal market by way of de- and re-regulating the network industries (and some other) industries was considered to be the most appropriate means to create a more politically integrated Europe. Majone has, in my view, rightly called this approach “Regulatory Europe,” as it basically reflects the EU’s aspiration to become something like a nation-state (Majone, 2005). Yet, since the EU does not own anything (as nation-states typically do), its only means toward political integration is (state-backed and state-enforced) regulation.

The main argument and cornerstone of the EU approach to liberalization is “unbundling,” another somewhat more sophisticated idea of neoliberal economics. Unbundling states that infrastructures should and actually can be neatly separated into two parts: what is and needs to stay monopolistic (and become regulated) and what can and should be exposed to competition (and could remain almost unregulated). This approach was declined in various more- or less-pure forms in the different, separate network industries, reflecting both the resistance to liberalization by the state-owned monopolies as well as the different network industries’ technological specifici-ties. Never, though, does the EU use nor advocate privatization, the main objective being a level playing field among economic actors, be they publicly or privately owned. Nevertheless, all SOEs were profoundly affected by this approach, as well as, of course, by privatization.

Implications to SOEs

These effects pertain simultaneously to the services SOEs used to provide, to their strategies, and to their relationship with their owners; that is, the governments who (used to) consider them as public policy tools. SOEs – privatized or not – had and still have to adapt to this new, more competitive environment.

A significant amount of literature addresses the behavior of large firms under regulation, showing, in particular, that these firms try to shape such regulation to their advantage, notably by way of so-called “non-market strategies” or, in plain language, “lobbying.” Such considerations, of course, also apply to SOEs, which, indeed, try to lobby for their respective monopolies when exposed to competition. But in the case of the SOEs, things are more complicated, as the same SOEs also display a somewhat schizophrenic behavior, namely when it comes to advocating for deregulation abroad (so that they can enter deregulated markets) while advocating for strong regulation domestically (so as to profit from their monopoly positions as long as possible). Also, SOEs, if they are not privatized, are typically more strongly regulated than their competitors, something also called “asymmetric regulation,” owing in particular to the fact that they are still the ones having to provide public services, something private competitors will not do. Consequently, SOEs try not only to expand internationally (where they are treated as competitors and thus more lightly regulated) but also to diversify into less or even non-regulated businesses.

In other words, network industries are not only interesting because of the industry dynamics resulting from liberalization but also because the traditional SOEs are undergoing profound changes and because their transformation processes turn out to be interesting in themselves, caught as they are between markets and government. Also, most of the SOEs, at least the ones in the network industries, are not (yet) privatized and thus continue to perform public service functions, which barely differ from the functions they performed when they were created to begin with. Indeed, they often still play a significant role in national and social development and cohesion. However, in the network industries that are fully liberalized with private operators – which so far is only the case for airlines and telecommunication operators in most countries – governments have to find other ways to provide such public service functions, which is, as we will see, another source of network industry regulation.

Liberalization, no matter how it was originally triggered (privatization or deregulation) and no matter how it is being regulated, has created significant dynamics in all the network industries and as such has affected the behavior of all the involved actors, be it SOEs (also called incumbents), new entrants, or governments in their roles as policy makers, owners, and regulators. And such dynamics pertain not only to competition and markets but increasingly also to technological developments and innovations. Yet liberalization – especially the EU approach of de- and re-regulation – was not prepared for such technological dynamics, focused as it was, and still is, on creating, maintaining, and perfecting (internal) markets. Nevertheless, the past ten years have given rise to numerous technological changes in the various network industries, as well as cross-sectoral technological innovations, namely when it comes to digitalization. And this raises the question of whether we are not witnessing a new, post-liberalization period, characterized by a much more profound transformation of the networks or even the creation of new, digital networks. And all this makes the network industries even more interesting.

After and beyond liberalization (2010–)

Originally network industries – both their liberalization and their regulation – was mainly interesting for economists. The regulation of the different network industries is still mostly about economics. Consequently, the major part of this book will be devoted to the economic approach to network industries’ de- and re-regulation: competition has to be created and made workable. And this is the task of the so-called independent regulatory authorities (IRAs). In their job, they should be inspired by regulatory economic theory (see Chapter 2).

But because regulation is a legal activity, the network industries are also interesting for lawyers, be they competition-specific or sector-specific lawyers. In addition, network industry liberalization has raised fundamental questions about public service and public policy more generally, which makes them also interesting for political economists and political scientists. The challenges to the original SOEs also raised questions about public governance and made network industries, or at least these transforming SOEs, inter...

Table of contents

• Cover
• Half Title
• Series Page
• Title
• Copyright
• Contents
• Introduction
• 1 Why are network industries interesting?
• 2 Why do network industries need regulation?
• 3 The politics of regulation
• 4 Regulatory authorities
• 5 Regulating monopolies
• 6 “Regulation by contract” – the French model
• 7 Post and telecom
• 8 Transport
• 9 Energy
• 10 Water
• 11 New digital infrastructures
• 12 Conclusion
• References
• Glossary
• Index