The Next Stage in the Digital Economy: Nano-Transactions
and Nano-Regulation
From the Economics of Property Rights to the Economics
of Transactions
©Eli M. Noam
Columbia University
New Orleans
December 2000
This essay explores the future of the information environment. It will argue that we are taking an antiquated perspective to telecommunications; that we focus on property rights as the key to the future, instead of on the economics of transactions; and that have not developed a technological vision as a foundation for a policy vision. The essay will provide such a vision -- nano-transactions in information, the integration of information with money—their reasons, and their implications for digital business and policy.
Information
used to be a scarce good. It is now an abundant good. From this, many
consequences flow, technological, operational, business, and policy. For a long
time information was controlled by the state. It was produced by
state-affiliated institutions like monasteries and universities. It was stored
in state libraries. It was disseminated by state schools. Later, it was
distributed by state-run or regulated telecom and television networks. This
phase of information control lasted until recently. Its underlying
organizational logic was that information was scarce and hence valuable, and
had to be produced, distributed, and shared under some public control. A body
of theory provided the intellectual underpinnings, such as those of natural
monopoly, public goods, industrial policy, and economic development planning,
not to mention Marxist economics.
The
state control model broke down for various reasons, a major one being the
industrialization of information production that made the restricted state
system inefficient. The production of information in most fields of science has
been growing at an exponential rate of 6-8% per year. It has been said that 90%
of all scientists who ever lived today. For entertainment type production, the
growth has been even faster. In New York City, the growth of video programs
available over cable TV has grown at a compound annual rate of 11% (Noam,
1998).
With
information becoming plentiful, its production and distribution grew in volume
and complexity. Rival providers offered alternatives. Users required more
advanced services. The system became too complicated for any single
organization, whether a school system, a monopoly telecom provider, a
broadcaster, or a cable TV firm, to run and run well, and for government to
supervise. This called for a different treatment.
The
new model was one of openness, competition, and property rights. The basic idea was that anybody could enter
the information sector, markets would provide the control functions, and
property rights the incentives (Posner, 1998). Potentially, that is true. But
property rights are only the starting point, and not the only one, for
efficient markets. Other institutions are also required, among them exchange
mechanisms and payment that enable the transactions that make markets happen.
The
property rights approach worked best in the information sector when it dealt
with “old economy” physical assets, such as wire line networks competing with
each other. Its adherents, having slayed the state model and become the
reigning orthodoxy, could not envision a future beyond, once competition had
been established. It was the end of history.
But of course, it never is. In the digital economy, we are not at an end
of development; we are just at the beginning.
The
property rights approach had only spotty explanatory power when it came to the
new digital environment. Its thinking could not help with the most interesting
new developments in communications, except in a labored way. Network
externalities and communities do not fit into the property rights analysis,
just as economics in general had a difficult time with externalities. The whole
Internet must be a property rights advocate’s intellectual nightmare. Try to
answer the question who owns a packet (not just the information contained in
it) as it traverses the Internet. Given the trillions of such packets moving
about at any instance, that would seem to be a fairly fundamental
question. But what is the answer?
Whatever it may be, the system seems to work quite well without it.
The
reason why the property rights approach has hit its limitations is that just as
the state approach before, it, too, cannot deal with the new levels of
complexity that the digital environment is rapidly creating. The key to
thinking about the next stage of the information economy is not the sanctity of
property but the rapidity of transactions.
This
transaction approach to firms and the economy goes back to Oliver Williamson
(1995), with some credit to Ronald Coase (1960). Williamson explained firms’
size and structure by their desire to minimize transaction cost. Firms’
hierarchical control of internal transactions reduced their costs below those
of market coordination. This led to large firms. Today, for information, external transaction and internal
coordination costs are radically changing, and their relative magnitude should
greatly affect the size and structure of firms and industries.
The
key fact about information transactions is that they have increased in volume and
applications, and in consequence there is so much of information moving around
and being processed and stored and monitored and bought and sold, that it
becomes too burdensome to control directly.
Network firms and service providers – not to mention individuals -- are
increasingly unable to monitor and guide it effectively. Initially, they delegated some control to IT
machinery such as computer processors and software that is under their direct
control. But that is not enough. The environment in which information exists
and operates is becoming increasingly complex and decentralized.
Storage networks –
Users share and optimize storage resources by linking hard drives and other
storage devices. In network relations such as Napster, Gnutella, and Freenet,
kids link their hard drives to share music. Do not think of them as pirates’
cooperatives, but rather as resource sharing outside or regular economic
relations. And consider the fact that even if they wanted to be legal, there is
no convenient payment mechanism for them to do so.
Processing Networks – People
have similarly discovered that much of networks processing capacity is
underutilized, and are creating collaborative processing. The first such
applications were used to analyze data from outer space for signs of
intelligent life, to crack encryption, or to analyze the products of large
prime numbers. But the same principles of distant and decentralized processing
are inevitable for commercial applications. This role is taken by applications
service providers (ASPs) who offer encryption access to software programs,
forwarding, protocol conversions, etc. In some cases, the hardware or
transmission devices of one provider acts as a backup for the other.
Web Interaction – Websites are beginning to talk to each other
directly. Microsoft has been developing its net, which permits web interaction
without human intervention of clicking etc.
Processor and sensor interaction –
Transactions are moving from direct human control to those of delegated machinery.
It’s not quite Arthur Clark’s HAL, but the day is near when our automobiles
will be communicating directly with highways, our packages with shippers, our
suitcases with airlines, and our light bulbs with utilities.
Transmission Interaction – The
transmission networks connecting these devices utilize a wide variety of
transmission media, provided by numerous network firms. The information itself is a huge flow that
includes entertainment, transactions, and interaction. It flows over wires and
fibers, over the air, in space, wherever there is capacity at a good price,
avoiding the various and shifting technical and economic bottlenecks.
Information Trade – At
any moment there is a vast economic activity in buying and selling information
itself. Some information is sought by the user, who would be willing to pay for
it. Entertainment and financial information are examples. In other cases, the
information makes demands on the user’s attention, such as for advertising, and
needs to compensate users for their attention.
How
can such a system function in operational and economic terms? Not by human
control, except on the macro level; humans cannot handle such granularity of
decisions. Not by giant firms dealing with each other to account for trillions
of transactions. That is the past. Not by centralized machines. Not even by
networked machines talking to each other. Too much of transmission and
processing would be used up by each piece of information having to be
controlled from the distance, report back, receive instructions, account for
itself, etc.
50
years ago, Friedrich von Hayek, in The
Road to Serfdom (1944), the classic text of classic liberal economics,
argued for laissez faire markets because of the great complexity of the
economy. He saw the decentralized markets as huge information processing
machines, which could deal with the myriad of transactions of society in a way
that centralized decision-makers such as governments or monopolies could not.
The
same insight applies to information. Information processes are becoming too
complex and varied to be run in any other way as through decentralized decision
processes. At an earlier stage, this was accomplished by pushing the decision
mechanisms down the hierarchy, from the state level to that of various carriers
and service providers. But now, with the increasing complexity of the
environment, it becomes necessary to push them down again, down to the level of
the information itself. Information needs to be engaged in direct transactions
that involve it.
What does this mean, concretely, and how
could it be accomplished?
The
key here is to understand that information and its transmission networks are
moving from continuous streams of analog or digital signals, to discrete
continuous packets transmitted discontinuously by packet-switched
networks. These packets are
identifiable by information in the “header ". These so-called "overhead” bits surround the actual
information (the "payload") and permit the packet to be routed to an
address. The packets are labeled by sender, by location within a document, and
by hop limits. If a transmission path is congested (or destroyed: this
possibility was one factor for the Pentagon to sponsor packet-switched
communications), the packet finds alternative and possibly circuitous ways to
the destination (Baran, 1995).
This
principle of identifiable information being surrounded by operational data,
just like the contents of a letter that are surrounded by an envelope, is an
enormously powerful concept, and there is no reason why it should not be taken
much further than it is today. Though
its origin was the desire to optimize scarce transmission capacity, it can do
much beyond that, as the transmission becomes plentiful. Already, the next
version of the Internet protocol, IPv6, includes data for authentication and
integrity to prevent various forms of mischief such as “IP spoofing” and “host
masquerading.” It also provides for the
assignment of priority. The sender can choose fifteen levels of priority. But without an economic dimension to the
priority (Mackie-Mason and Varian, 1994), the system will predictably fail.
The
problem is that we have divorced information from payment. We are throwing
information into the big traffic and business system called the network, the
Internet, but naked, without money to pay along the way or ability to make
decisions beyond the routing. It’s like sending a kid into the New York subway
system without any money. Instead, we have been charging in very indirect ways,
whether for transmission or for storage or access. We charge for some physical
measure, such as transmission channel bandwidth or for storage capacity. But we
do not take the next step, which is to link the information flows directly to
transaction and payment mechanisms. The way that automobile drivers, for
example, move around across highways and bridges, and pay for passing various
gates. Or buy gasoline. Or park on the street.
Electronic Postage Stamp – The first
conceptual and technical step would be to add payment tokens to the packet,
just like postage stamps on letters. How would one do this for information? One
way would be by adding pre-paid tokens to the information. Tokens like access
codes. Without the access code token information would be blocked from
traveling over network segments, or be stored at servers, etc. These tokens
would be, in effect, electronic coins. They would be sold to the users by a
variety of institutions, and also redeemed by them for credit or money. The
users would add the tokens to the packets, and they would be stripped from the
packets by the various transmission and storage providers along the way. This
can be distinguished from earlier proposals along this line by the author for
the common and unlicensed use of spectrum (Noam 1995), and by Hardy and Tribble
(1995) for a counting device system (an “accumulator”), to count passing
packets, read this counter and settle by producing real money.
Multipurpose tokens with packet controllers – But
why stop at this first step described above, with electronic postage
stamps? Suppose we provide packets with
an electronic wallet of multiple tokens usable for multiple purposes and with
some intelligence and instructions on how these tokens can be used. If priority of service is required, for
example, payment might be authorized that could be higher than otherwise. Transmission networks, servers, storage
devices and processors require toll payment from packets using their facilities. If the price charged would be too high, for
example due to congestion, the information would refuse to pay and turn around
to look for a cheaper path or wait for a lower off peak price. Or they would
offer the transmission provider a lower price, and engage in negotiation. Once
a transaction is accomplished, tokens would be stripped off the packet and
transferred to the other party to the transaction. Once its mission is accomplished, the envelope would return to
the sender with any leftover tokens, or store them in other ways as
credits.
Thus,
packets would seek the economically most efficient operation subject to their
mission definition. They would almost
instantaneously optimize the utilization of existing facilities. And they would do so in a decentralized
fashion, without continuous control and guidance by their owners. In this scenario, information would travel
with its own money, and engage in nano-transactions. Or, just as much, money
would travel with its own information (that is, with its own software
instructions). We would integrate information with money. We will have “smart”
money and “rich” information.
Access to Information – But
why stop here, with operational transactions?
Suppose, for example, that one sends out a software agent, a
"bot", to search for certain data.
At present, the economic models to obtain information are those of (a)
subscription, (b) advertising, or community creation to facilitate (a) or (b).
Subscriptions, however, require an advance relationship, purchase decision, and
payment—all of which have met resistance. Advertising, on its part, makes sense
only when humans view it, not software packets (though one could imagine
promotions aimed at machines, too). Now, armed with its own wallet, the bot
software could pay directly for the information it collects, and for admission
to others’ databases. At the same time, it would also be possible for sites, or
for interested third parties, to pay for visits, in order to generate traffic. And in many cases, information would be
offered for free.
Selling Information - And
why stop here, either? So far, the
packets we described were on the buy-side.
They obtain various services from other parties and pay for them. But
suppose that they are on the sell-side. A music publisher sends out,
“push”-style, the latest tracks, at prices that could vary by time, date and
user. It pays tokens for transmission and collects tokens for the use of this
music. If the user then re-transmits the music to third parties, the packets would
be would be programmed to require additional tokens for their re-usage.
In
other cases, the recipients of unsolicited information could be paid for the
demand on their attention, based on how much of compensation would be needed to
satisfy them. You want to bother me, fine, as long as you pay me. Tiny slices
of time would be compensated in tiny amounts. This would also take care of many
privacy problems. If people want to intrude let them pay the admissions fee I
set. If people want information about my online shopping habits, fine, as long
they must compensate me at the price I set.
Such a
system creates an integrated and continuous economic system of
nano-transactions. It could be used for
access, for transmission, for storage, for processing, and for the information
itself. It could be used to gain priority in service. It could maintain flat rate pricing but would not need to. And it
would decentralize the numerous transactions that information and its users and
suppliers encounter.
The
usefulness of micro-transactions has been well understood and discussed
(Kytpoki, 2000). A variety of approaches for electronic cash have been
introduced, such as Cybercash with
its CyberCoin; Netbill; Digicash; Mondex; and others. All aimed at
large transactions, were kludgy to use, overprotective against misuse, and
suffered from an absence of a critical mass of users (Muller and Schmidt, 1997,
Riessner, 2000). A second generation of electronic money includes DEC/Compaq’s MilliCent, MicroMint by the noted cryptology pioneers Revest and Shamir, IBM’s
MiniPay, and HP’s system by Wenbo. (Chi, 1997)
These
micro-transaction systems, while steps in the right direction, operate on the
level of the entire transaction, and usually involve humans. In contrast,
nano-transactions operate on the packet level, and are conducted by the packets
themselves. (In practice, the line between the two might not always be bright.)
There
are some technical problems associated with this nano-transaction system, in
particular, the length of the packet and its security.
The
size of the packet overhead will have to grow if it is to include money tokens,
search bots, etc. It might be argued
that this would be inefficient because it would reduce the available payload.
It’s as if one adds 5 pilots to a plane, with less space left for passengers.
That’s true, unless one builds a bigger airplane. The packets will have to be
much larger than at present. And why not? The present packet size is based on
scarcity of transmission. Packet protocols aimed to squeeze as much information
as possible into transmission paths, the latter being scarce and dear, and this
could be best accomplished by keeping the packets short. This is not the
primary concern in the future. Transmission will not be in short supply; the
focus is not of maximizing transmission but in minimizing transaction costs.
(Another approach, that of ATM, aimed to standardize packets into short cells
of 53 bytes. That approach is being squeezed in the technology market place by
the less constraining Gigabit Ethernet.) The Internet’s new IPv6 specifications
can handle packets expanded to a Jumbo Payload option of 65,535 bytes (about 60
pages of text), though with more limited capabilities. There is no reason why
the packet size will not grow further, such as to a few minutes of video. True,
present switching and routing is based on brief storage of the packets, and are
designed for such short lengths. Engineers will handle this issue, as well as
the associated issues of latency, scalability, interoperability, and
robustness. As a result, switching costs are likely to rise, while transaction
and coordination costs will decline. Processing requirements will rise, but the
utilization of a given processing capacity will be more efficient.
Furthermore,
intermediate arrangements are likely. Not every packet would need to transact
on its own. There could be “pilot packets” which would set up the transactions
for subsequent and identified packets, much in the way that locomotive routes
and moves subsequent boxcars. In transmission, this would resemble present
“virtual circuits”, and it would carry this concept to non-transmission uses as
well.
Another
technical question is how to maintain the integrity of the overhead information
against tampering, stealing, copying, and counterfeiting. One would need
elements of encryption and authentication. That is already done in the IPv6
protocol. One needs to differentiate between several elements of a package. The
internal control instructions need to be encrypted and inaccessible to the
partner in a transaction. The information itself may or may not be encrypted,
just as with payload today. The money tokens would be encrypted to protect
against tampering, but would not need to be decrypted by parties to the transaction,
as long as they can pass them on, just as in the case of regular cash, which is
hard to forge but easy to transfer.
True,
any encryption can be defeated. But keep in mind that we are talking here about
nano transactions, and stealing fractions of pennies may not be worth the
trouble. Most likely, intermediate institutions for authentication would
emerge. They could also provide escrow services to assure that a service that
is being paid for is indeed performed. Technical fixes are possible, such as
token value being activated only after a certain period, to prevent
fly-by-night tampering. On top of that, one could envision the networks
patrolled by packets and software bots whose function it is to check on what’s
going on and ferret out industrial-style forgeries. It would be interesting to
analyze the legal and civil liberties implications. But that is a topic for
another day.
One
implication of nano-transactions and identifiable packets is that information can
be treated in a highly differentiated fashion. Counter to the claim of
information becoming a “commodity”—a staple of the left-- or that it is
technologically –“undifferentiated”— part of the techno-mantra that “a bit is a
bit”(Negroponte, 1995) -- it is actually quite the opposite. Each packet has an
address and sender and a recipient, and soon much more. Which means that
packets can be treated quite differently. Thus, partners in a transaction can
charge different prices to some senders, e.g. dot coms, who might be viewed as
less price elastic than dot orgs. Bill
Gates might be charged higher prices for watching Internet TV than I am. Or,
more likely, lower ones, since his credit worthiness was better.
Different
usages might be priced differently. For example, a video entertainment packet
would receive big volume, quality, and priority discounts relative to a
real-time voice call packet. This would help resolve the quandary of uniform
bit pricing, whether to make voice calls free, or charge for a movie at an
unattainable price (Mackie-Mason and Varian 1994). The point is, identification
makes possible price discrimination, which has positive as well as negative
aspects.
The
flexibility in pricing and transactions also means that the existing flat rate
pricing, or zero pricing, arrangements for certain services could be
maintained. Nothing requires a pay-by-the-packet, priority priding, etc. The
system can accommodate any form of transactions and pricing, but it does not
exclude any for reasons of technical impracticality. If a backbone provider
wants to charge some traffic passing its node on a zero (bill-and-keep), peer
basis, it can do so, while at the same time charging other traffic from
non-peers a different price. Other payment modalities are possible, for example
barter, in which storage gets traded for processing, or for music. (“I got it
for a song”). Money, of course, is a much finer instrument than barter.
Nano-regulation – The ability to
identify also has significant implications for the future policy and
regulation. Many of the advocates of competition sincerely believe that by
creating a competitive network structure, behavior and performance follow, and
regulation becomes unnecessary. But they have no vision of the future beyond.
Others, mostly the libertarian majority of Internet enthusiasts, believe
regulation impossible due to the ability of any 14-year-old cyber-punk to run
electronic circles around flat-footed government regulators.
For
better or worse, both these perspectives are quite wrong. The future is more
complex than it used to be. Identification of packets opens entirety new
avenues for government regulation on the level of nano-transactions. We can
call this nano-regulation. And the
presence of new tools, on top of new (as well as old) problems, will be
irresistible.
Legacy Regulation –
Notice that under a system of self-transacting packets, many wholesale
arrangements among carriers and other macro-providers become much less
important, and hence much less requiring regulatory intervention. For example,
interconnection charges, in which carriers or service providers pay other
carriers for their services, would be replaced by the actual information paying
for transit services. This is the same as today for highways. The New Jersey
Turnpike does not pay the New York Thruway for interconnection; cars moving
from one highway to the next do the paying. As long as there is price
competition among transmission carriers, the information will find the optimal
routing, and transit pricing will be economically efficient.
Similarly,
the concept of common carriage, under which carriers must equally serve all
customers, becomes meaningless when information transacts directly for
transmission.
But
just because some issues of the traditional regulatory agenda will disappear
does not mean that regulation as such will wither away. Let’s look at some of
the potential regulatory uses of the potential to identify packets:
Redistribution – Regulated price
discrimination in favor of certain uses or users, such as education of rural
users, and a corresponding disfavoring of certain uses and users, such as
games. Subsidy mechanisms, in which some users would receive a stack of tokens
for free or at reduced prices. Most likely, they could use these tokens only
for certain meritorious applications, such as education, rather than to obtain
information on sex, horse racing, or financial derivatives.
Preferential Treatment –
Differential treatment of packets provided by some types of firms, such as broadcasters,
relative to the treatment of packets from others. Thus, a version of today’s
“must carry” rules of TV signals over cable is quite possible in technical
terms.
Privacy – Privacy issues will emerge
insofar as packets, their senders and recipients can be identified. This could
lead to private and public snooping and interception In consequence, various
privacy and access protections are required, and wiretapping laws might need
modification.
Content regulation becomes possible – For
example, there could be a requirement those packets containing materials
harmful to minors would have to be labeled, so that blocking becomes possible,
by parents or by other institutions.
Trade – In some countries,
political labeling, depending on the sender, would be mandated.
Other
countries might require a labeling of the origin of the information, and use it
to favor domestically produced information, such as in the case of movies. Poor countries might find the system
draining their resources, and could set tariffs and protectionist measures.
Conversely, they could become the beneficiaries of price differentiation by
richer countries.
Arbitrage – The objects of such
regulatory actions will be to undermine it by loading packets of one category onto
packets of another category. In
consequence one essential regulation would be to require protocols that
identify such piggybacking.
Thus,
the notion that information and its transmission will be free and unregulated
is wishful thinking. Information will be identifiable, and therefore
targetable, and therefore regulable. The notion that “ you cannot regulate the
Internet” will turn out to be nonsense. To the contrary, one can regulate
packetized information and its conveyance much more effectively than
undifferentiated waves and bits. The question is legal, constitutional, and
political, not technical or practical. (Of course, there will be resourceful
people who keep a step ahead of enforcement capabilities; but that does not
negate the basic point).
MacroEconomics of Nano-Transactions –
Other important questions emerge. Who can coin those nano tokens? Isn’t it
creating money? Yes. The tokens would have to be redeemable in other value,
i.e. money. They could be backed up by governments, but more likely by a
variety of intermediate financial institutions, like banks, credit card
companies, and various brokers, some of whom could also be short-term lenders
to replenish tokens to a customer who runs short. Playing such a role would also be natural for present phone
companies as an extension of their phone bills. (The Click AT&T service,
introduced in 2000, already permits web transactions over 25 cents to be
charged in that way.) There would emerge private moneys, of global
acceptability and convertibility, like American Express today. Government would
not be out of the picture, not as issuer of money tokens but as regulator. But
it would have a more difficult time maintaining monetary policy by controlling
the money supply, when electronic coins, issued around the world, abound. A
related -- and unpopular -- question is where the power to tax these
transactions would reside, and how to go about the taxing. One way would be a surcharge on access
tokens. Another important question is the stability of the entire system, both
in its macro-economic and its transaction aspects. Could it be subject to over-compensation, oscillations and
gridlock congestion that would prevent equilibrium to be reached?
Conclusion
The
next level of convergence, that much-anticipated merging of various electronic
delivery systems will bring together information and money – which, after all,
is a form of information. (Next, we can anticipate the mind-blowing convergence
of information technology, money and microbiology.).
The
convergence of information and money and transactions will not occur tomorrow,
but soon thereafter. Nor will it replace more traditional arrangements. Hybrid
arrangements are quite likely, through various intermediary-wholesaling
institutions like the emerging bandwidth capacity brokers whose emergence the
author predicted a decade ago (Noam, 1991). Similarly, some transfer
arrangements could be on the wholesale level, by various resource providers
charging each other without involving their customer directly. But I have no
doubt that information will eventually travel with its own money, that money
and information will become integrated, that it will pay along the way for
transport, storage, and especially access. That in other cases it will be
compensated for access. And that the invisible hand will be furthered by
invisible packets. But getting there requires technology that is not quite here
yet. We need to create those tokens, account for them, protect them from
forgery, create transaction nodes, and add the inevitable legal and regulatory
layers.
One of
the many clichés around the Internet is that “ information wants to be free”.
Whatever that means, I do not think it’s true. What information really wants is
to have its own wallet and credit card, and to go out on its own. Information
does not want to be free. It wants to be emancipated.
W:Eli\Elipaper\Nano\nopnano13
Acknowledgements
Helpful comments for their comments:
Robert Atkinson, Kenneth Carter, John Kasdan, Yushiko Kurisaki, Michael Noll and
Hal Varian are gratefully acknowledged
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