Select Committee on Culture, Media and Sport Appendices to the Minutes of Evidence



APPENDIX 9


Memorandum submitted by Mr Tom Steinberg

SUMMARY

  1.  The following points are made in this submission:

    —  Convergence is dependent upon a flourishing broadband market.

    —  The state of the UK broadband market is of great concern.

    —  Neither current policy, nor proposed policy in the White Paper sufficiently address serious structural flaws in the nature of competition in the UK broadband market.

    —  That open networks provide a practical and feasible method for invigorating the broadband market thus greatly speeding up convergence.

THE BROADBAND PROBLEM

  1.  Almost all convergence problems dealt with in the White Paper are a consequence of the rise of broadband technologies. The creation of Internet broadcasting and two-way communications services present many of the new challenges addressed in the White Paper. However, the White Paper does not reflect the widespread industry view that broadband roll-out in the UK has been and will continue to be seriously problematic. The primary purpose of this submission is to warn that without action, the White Paper could create the world's first truly converged regulator, only to find the UK trailing unrecoverably behind the rest of the world in terms of actual convergence.

  2.  Extreme delays in getting ADSL rolled out have left Britain lagging notably behind other countries in terms of both availability and the speed of services offered. In March last year OFTEL reported that the UK was "last" in terms of progress with ADSL roll-out compared to a variety of major OECD nations[3]. A home in France or the US is six times as likely to be broadband enabled as one in the UK, and in Germany it is three times as likely[4]. A recent OFTEL study shows that average broadband costs are the highest in Europe[5].The UK also suffers in terms of the breadth of bandwidth offered. Parts of America are already benefiting from the DSL technology two generations ahead of ADSL, working at up to 7Mbit/s, whilst in Sweden and Denmark services are available from private sector firms, which are 20 times faster than those available in the UK, for less than half the price[6]. Indeed, the UK's failure has been so acute that the very question of whether we even have broadband at all has been raised. The White Paper's own annex defines "broadband" as 2mbit transfers per second[7], yet there is no such service for residential customers available anywhere in Britain at the time of writing[8]. The costs even for businesses of such a service are over £2,000 per year for ADSL, and over £10,000 for synchronous access via a leased line, and it must be noted that these services are not available in the majority of the UK. Giant ISP America Online report that even after unbundling of the local loop, broadband in the UK will be "amongst the most expensive in Europe"[9].

  3.  It is a serious concern that discrepancies in performance and price between Britain and elsewhere should be so great. Without a healthy broadband infrastructure citizens and companies in the UK will suffer. Businesses will be paying over the odds for a sub-standard business tool: a fact which will give other countries a competitive advantage over Britain. Consumers will watch as the rest of the world surges ahead in terms of the quality of home services provided. Socially cohesive tools such as cheap video conferencing will remain out of reach of most of the population. Thousands of associated technologies, such as those which will form the basis of wired homes will be denied because the one technology they are all reliant on, broadband Internet access, is not available.

  4.  Signs of recovery are few and far between. According to the BBC, "Telewest, NTL, Global Crossing, Worldcom and KPNQwest are all scrapping their DSL plans"[10]. Major complaints have been voiced by Microsoft, AOL and the Institute of Directors. As this enquiry submission nears completion, Freeserve and AOL are threatening to take BT to court over alleged anti-competitive practices in the introduction of broadband. BT rolled out ADSL nearly two years late, constantly making noises about a lack of public interest, and now faces a back-log of allegedly over 100,000 orders. All the while it is offering a service which works at only a quarter the speed of what the Government itself calls "broadband". Cable modem operators benefit from the limited extent of the competition they face and also offer similarly clocked services.

  5.  The Government should be extremely concerned about the problems outlined above. Primarily they should be concerned because the broadband situation in the UK threatens to undermine the first and most important of the three key government objectives concerning communications:

  6.  "We will make the UK home to the most dynamic and competitive communications and media market in the world".

  7.  It may seem easy to dismiss all the above as mild hysteria about teething troubles. It could be argued that the roll-out of broadband in the UK has been tardy, but that this was simply a case of bad management which could have happened anywhere. Sadly, this is not the case. There are systematic reasons to think that broadband in the UK will remain inferior unless reforms are enacted. Both the problems and possible solutions are detailed in the second section of this submission.

THE COMPETITION PROBLEM

  8.  The issues listed in the previous section are causally related to the structure of competition in UK telecoms. In brief

    —  There is too little competition in the supply of bandwidth to homes and businesses.

    —  Local Loop Unbundling will not provide the optimal long-term solution for serving customers, although it is helping in the short term.

    —  Shareholder interests within BT are currently shaped in a manner which is economically sub-optimal for the UK.

Present Competition

  9.  At the moment, it is not in practice possible to receive domestic or SME broadband services from more than two operators in any one street. Indeed, until 1 January 2001 it was illegal to have more than one cable operator, BT aside, in a single franchise area. This legislation, now repealed, created a situation in which a duopoly was the expected form of competition. It has taken many years for the lack of vigorous competition to really start causing problems in the UK communications market, but as the above section confirms, there are now indisputable problems.

The Government Reaction

  10.  The Government understood that problems were arising from the lack of proper competition, and OFTEL introduced Local Loop Unbundling (LLU) as a solution. LLU has attempted to rectify this problem by forcing BT to open its exchanges to the use of other companies, at rental rates determined by OFTEL. This allows companies access to the "last mile" of cable which actually runs into houses and businesses, creating a diversity of domestic service operators which would have been unimaginable beforehand.

LLU's Systematic Weakness

  11.  LLU has a single fatal conceptual flaw. The problem is that BT has a greater incentive to increase shareholder value through minimising new investment and avoiding competition than it does through improving its own services. This means that when BT is given an order to open up a part of its network it quite rightly will try to maximise shareholder value by delaying competitors access to its systems for as long as possible, and that it will try to bleed its existing assets for the maximum time before investing in new technology. In practice this has meant indefinite ADSL delays, delays in starting the investment in the first place, delays in identifying and opening exchanges, delays in producing figures and costs for OFTEL, even simple delays in installing equipment for customers.

  12.  For a case study about the perverse incentive that BT has not to invest, examine ISDN. Most companies in a competitive market have an incentive to invest to develop products that will allow the company to survive. In the UK broadband market, BT faced an opposite incentive. High business pricing of the ageing ISDN technology created a huge incentive for BT to hold back ADSL as long as possible. Revenues from a single metered ISDN line, online all day in a small business are over £6,000 per year. ADSL, even at British pricing levels, offered small businesses a superior alternative at about one quarter the cost. BT consequently delivered ADSL as late as it could without being formally censured. In order to exploit every last penny of ISDN revenue. Why did BT not invest sooner to beat the competition? The answer is that it knew that over the vast majority of the country there were no competing products from cable companies that were better or cheaper than ISDN. Why invest to avoid competition that isn't there?

The Carrot and the Stick

  13.  BT can only be given an incentive to do anything by two means. It can be regulated (the stick) or it can be forced to increase shareholder value (the carrot). Regulation cannot provide the same level of incentive as increasing profitability and shareholder value can. This is because in a large company like BT, the fate and remuneration of the staff are closely related to the profitability and share value of the company. Most BT employees, for example, are shareholders in BT, and all employees' wages are ultimately determined by the profitability of the company as a whole.

  14.  Regulation forces employees of a company to work against their own financial interests. OFTEL has discovered at enormous cost to the British people that trying to force BT to work against its shareholder interests is almost impossible. BT has a permanent advantage over the regulators, which is that every bit of information about BT that is needed to make regulation comes from BT itself. OFTEL's "trench warfare" of trying to obtain information to facilitate LLU over the last summer makes perfect sense when seen in the light of employees' and shareholder's interests[11].

Re-framing Shareholder Interests

  15.  Asking any company to act against its own interests is always likely to produce hesitation and obstruction. In the case of BT the problems for regulators that it can legitimately produce are vast, thanks to the complexity of administering a communications network. The Government should therefore commit itself to basing its broadband policy on a market in which shareholder interests are complementary rather than contradictory to the aim of making the UK the most IT enabled nation in the world. The alignment of shareholder and consumer interests is best achieved through the idea of the open network.

  16.  An open network is one in which the best shareholder interest is for the network infrastructure to be thrown open to as many service providers as possible. The analogy of an open network is real estate. Like a property owner, the owners of an open network provide basic infrastructure which other companies then use for their own businesses. In the case of an open network the property is a network, possibly of dark fibre, and the tenants are any company that would like to use the network to offer bandwidth, deliver services, or both. Returns on investment are lower than for vertically integrated telecoms, but considerably more secure, attracting a different type of more risk-averse capital investor, a type of investor that there are considerably more of following the dotcom slump.

  17.  There are two possible ways in which such a market containing open network services could come about:

    —  BT's network, which is already in the process of being spun off into its own company, could be made fully independent from BT service providers and beholden to its own new set of shareholders.

    —  At least one new network (local or national) could be laid which would be operated by a company which had no shareholder interests in operating services over it.

  18.  The former proposition seems the more feasible. For a start BT's network already exists, avoiding the necessity of duplicate infrastructure investment. Second, in order to break itself up, BT must receive permission from OFTEL. This puts OFTEL in a powerful position to make demands from BT, one of which could be the division of shareholder interests into clearly separated ownership.

  19.  Nevertheless, the second proposition does have its own advantages. No consent is required by BT for a new network to be set up, although BT is bound to lobby against a creation likely to offer far faster and cheaper bandwidth services than BT currently provides. Nevertheless, the problem of large-scale duplicate investment in infrastructure should be seen as the barrier to entry that it often is. It should not be forgotten that four mobile telecoms networks have set up their own highly expensive infrastructures when to an outside observer one might have seemed enough.

  20.  The best possible solution as far as consumers are concerned would be to have the greatest possible number of rival open access networks, as this would encourage competition between network providers as well as between service providers operating over those networks. However, there is no doubt that infrastructure costs would probably lead to the creation of just a small number of networks, with high levels of network competition only found in particularly dense areas.

CONCLUSION

  21.  The UK is in danger of having all the regulatory structures in place for a converged communications market with little actual convergence to go with it. It is therefore urgent that ways of dealing with the misalignment of shareholder and consumer interests are looked at by the Government. An open network in which true competition between service providers could take place, against the background of a willing and enabling infrastructure provider would hugely improve the UK's chances of being able to call itself a leading wired nation.

  22.  There is one last reason to think seriously about the communications market once LLU is finally finished. It is the danger that without a bold move to deal with shareholder conflicts, each network upgrade to a new generation of communications technology will be just as slow and tortuous as the move from ISDN to ADSL was. This could mean that every generation of new technology will see the UK slipping further and further behind countries in which there is strong competition, or even worse, behind countries which never even privatised their telecoms industries in the first place.

February 2001


3   http://www.oftel.gov.uk/competition/ds10400.htm. Back

4   http://www.zdnet.co.uk/news/2000/41/ns-18536.html Back

5   http://www.oftel.gov.uk/research/2001/dslb0101.htm. Back

6   http://www.bredbandsbolaget.se/eng/node85.asp. Back

7   http://www.communicationsWhitePaper.gov.uk/by chapter/anxd/index.htm. Back

8   This awkward fact has been smoothed over during the drafting of the White Paper; it uses the non-standard phrase "High bandwidth" to describe current, government endorsed schemes such as BT's ADSL service which run at less than 2mbit. Back

9   http://www.zdnet.co.uk/news/2000/44/ns-18956.html. Back

10   http://news.bbc.co.uk/hi/english/sci/tech/newsid 1067000/1067473.stm Back

11   David Edmunds, head of OFTEL described relations with BT as "trench warfare". http://www.theregister.co.uk/content/archive/14754.html. Back


 
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