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Fortnightly Magazine - March 15 1996

load capacity over a right-of-way and making larger engines and rail cars possible. By 1910, steel rails accounted for almost

$500 million in savings (em 80 percent of railroad net income that year.

Increased steel demand generated significant supplier scaling and innovation effects, collapsing steel prices. For example, 1880 iron prices were $48.25 per ton, while steel sold for $67.50 per ton. Just 3 years later, steel prices had fallen below iron. Not surprisingly, rapid diffusion followed. By decade's end, 80 percent of U.S. rail capacity was steel, compared to 30 percent at the start. Public access exploded. Lower costs meant lower prices. Freight prices dropped faster than costs, falling from $2 per ton-mile (1850) to $0.165 per ton-mile (1870) to $0.075 per ton-mile (1910).

The railroad franchise delivered on its promises, and then some. As a wealth creator, railroad land grants were among the more effective policies of the 19th century. Land grants shifted risk from a financially weak government to better-financed private sources.

Lotteries and Auctions: Encouraging Innovation

Let us now consider the present, with its aging franchises and emerging competitive markets driven by technological innovation. The franchise era is ending for many technologies.

"Competition" among franchises is really oligopolistic, insulated by perfect entry barriers. Hence, winning a cellular lottery was better than winning at Powerball. Over 30 million cellular phones are in use today, and cellular grew at a 46-percent annual rate through mid-1995 (em compared with Gross Domestic Product-level growth rates for telephone access lines. Twelve-month revenues through mid-1994 were $8.7 billion. Capital investment rates continue to post annual records (em $2.8 billion in the first six months of 1995, and $21.7 billion since 1983. A success story, with more to come.

Market subsidies and franchises are not needed to "prime" this kind of investment. And, so, burned once on the cellular lottery, the feds have turned to auctions to commercialize demilitarized spectrum above 1 gigahertz (em with spectacular success. New wireless technology will be introduced in spectrum blocks won through multiround competitive auction for personal communications services (PCS), satellite constellations, wireless video, and other wireless services. Spectrum auctions raised close to $7 billion in license fees alone in recent years.

Mindful of the political/public service elements, the Federal Communications Commission (FCC) auctions address the "hot button" issues. Acting as a market manager, the FCC ensures a solvent service provider, set-asides for pioneers and entrepreneurs, cash up front, and timetables for rapid capacity buildout to near full coverage ("use it or lose it"). Other restrictions protect against undue concentration of market power, and provide for minimum bids.

Two auctions are currently underway: Multipoint and/or Multichannel Distribution Service (MMDS or MDS), and Frequency Block C for the PCS. In the MDS auction, up to 493 licenses will be issued for wireless video services competing with CATV, broadcast, and DBS services. In the PCS auctions, the same number of entrepreneur licenses will be auctioned to compete, replace, or supplement wireline services. PCS also competes with paging and cellular.

The business theory behind the auction recognizes current market constraints (em clear