MIT Workshop on Internet Economics

[Larry Vaden]

A Model for Efficient Aggregation of Resources for Economic Public Goods on
the Internet

Martyne M. Hallgren and Alan K. McAdams

Presented at MIT Workshop on Internet Economics March 1995

for the complete paper, see
<http://www.press.umich.edu/jep/works/HallgModel.html>.

Clarification of Model/ Summary

We started this discussion by stating that in a complex economy, public
goods exist side by side with private goods, and that externalities are
pervasive. No "one-size-fits-all" approach to allocation of goods of such
complexity makes sense. Efficient allocation of a good must be driven by
the characteristics of the good. When the characteristics of two goods are
different, then to be efficient, the approaches to their allocation must be
different. 

We have presented extensive discussion of two Internet "goods," GateDaemon
and service on uncongested networks, each of which is non-excludable and
non-depletable. By definition, they are "public goods;" and the marginal
cost of supplying these goods is zero. Appropriate allocation for public
goods, following the basic economic principle of price equal to marginal
cost, is a price to the consumer of "zero." In turn, this implies the need
for asymmetric pricing: a way must be found to provide resources to the
producer of the good sufficient to keep him or her producing the good.
Economic taxes (whether from public or private sources) are used to achieve
the latter. 

If a public good experiences sufficient performance degradation, its
characteristics are transformed into those of an economic private goods
externality. It has become depletable, but remains non-excludable. There
are three possible approaches to resolving the private goods externality.
One option is do nothing; the good can continue to degrade until it is no
longer usable and is finally shut down. The second option is to reinvest in
the good, using the resources (taxes) acquired through asymmetric pricing
to fund the reinvestment. The third option is to impose some form of
institutional constraint and transform the good into an impeded public good
that is now excludable, but no longer depletable. Under the conditions of
option three, the user pays a price for access to the good that is equal to
the cost to society of removing the depletability (the congestion). That
price is arrived at through a market mechanism with a market-clearing price
that is symmetrical: what the user pays is what the institutional authority
receives. This feature explains why the private sector so readily adopts
this economic form (for movie theaters, CATV, commercially provided
software, and myriad other activities). 

Asymmetric pricing for unimpeded public goods is most effective when the
agent that must deal with the asymmetry has the power to impose taxes (as
"Ma Bell" did in its monopoly days). If the agent does not have this power,
then in part, it must "beg" or it must create an incentive
program--consortium benefits--and invest considerable effort to generate
the funds, even to the point of creating a good with mixed characteristics
of both private and public goods. 

The GateD Consortium is a successful implementation of asymmetric pricing
through a strategic alliance of organizations that value GateD. More
important than proving that (somewhat modified) asymmetric pricing can
work, GateD, as it has been implemented, has proven to be invaluable to the
growth of the Internet and the Internet economy through its spillover
benefits, especially those of enhanced interoperability of the Internet. 

Since the decisions on the appropriate allocation mechanism for public
goods, or for private goods externalities are at the heart of the debate
over the commercialization of the Internet, it is extremely important to
note why there is a "best" option in each case: that of asymmetric pricing
for the public good; and for the latter, that of returning the
characteristics of the good to those of a public good. In each case we have
advanced the multiple reasons above. If the growth of the economy--and the
growth of the "Internet" business--is a desirable goal, then it is to
everyone's advantage to recognize that the appropriate allocation decisions
will avoid the negatives and achieve the positives we have identified. 

Conclusions

The competitive market is not the only approach to resource allocation
currently being employed, even in the U.S. economy. It should not be
considered a panacea--especially in the presence of instances in which
there is an approach that is obviously superior for all. The Internet
economy has blossomed because a market pricing strategy was not imposed on
its development. 

There are clear guidelines for appropriate resource allocation approaches
in the presence of public goods and in the presence of private goods
externalities. There are powerful reasons for following them. 

The GateD Consortium and Project is a foundation and a model. It is a prime
example of where a little cooperation can result in great benefits for all.
It is consistent with a current incentive structure--the "University
Model"--that has proven its worth, literally over centuries, in relation to
economic public goods. It demonstrates that through the consortium
mechanism, the university and not-for-profit sectors of our society can
implement today rational, efficient, resource allocation approaches on
their own for the Internet. 

We do not need to wait for, or rely on, government to do this for us. But
we do need to exercise some internal leadership. What institution(s) will
step up?