Spectrum Auction and Investment in Telecom Industry: A Suggested Policy

Abstract

Recently, Indian telecommunication industry has passed through an auction process of 3G spectrum, which has enabled the government to collect hefty license fees. The successful bidders are expected to borrow this bid amount from the commercial banks and repay from the revenue to be generated from the new services. This paper looks at this issue theoretically. The telecommunication firms operate on the basis of acquisition of airwave space, which is licensed by the government. The usual policy practice is to distribute the available spectrum by an ascending auction. As per the economic theory, auction has two merits. Firstly, auction ensures that spectrum goes to the most efficient firm, which is by definition the firm that makes the maximum profit among all. This firm by virtue of their maximum profit bids the highest amount in the auction and gets the spectrum. Secondly, spectrum auction ensures revenue maximization of the government. This result of efficiency optimization however holds under the assumption of perfect information and no uncertainty. Uncertainty and irrationality like over-optimism can lead to problems like ‘winners‘ curse' or ‘broke winners’ under auction. Still auction is market-based and less controversial than discretionary distribution. However, this paper argues that high amount of auction bid can result in several deficiencies in the telecom industry. An issue of debate is whether high auction bid will result in higher price for the services. Under the assumption of infinite time horizon, high license fee is a sunk cost and therefore does not raise price. But this paper shows that a high license fee can raise the lending bank�s interest charge for which not only price rises but the infrastructural investment in the telecom industry suffers. After the acquisition of spectrum through auction the industry needs infrastructural investments to roll out the quality services. Inadequate investment in infrastructural activities like procurement of quality equipments, erection of tower, etc., may result in lower quantum of services with degraded qualities. This is in fact a reality in India where not only rural telecom infrastructure is vastly inadequate, the urban telecom infrastructure is also under severe stress. In this paper, using the tool of game theory we show how capacity and quantity choice game of firms ends up in high auction bid and sub-optimal investment on infrastructure. Then how can the social planners simultaneously achieve the twin objective of growth and revenue maximization? The paper shows that these objectives are realized if a part of the license fee is spent for the subsidization of infrastructural investment in the telecom industry.