The FCC’s toll-free number auction, an experiment in market solutions

BY DANIEL LYONS

Earlier this week, the Federal Communications Commission (FCC) launched a novel experiment to improve the telecommunications network. To meet growing demand, the agency has opened a new area code, 833, for toll-free numbers. But unlike previous area code openings, the FCC will auction off 17,000 popular numbers in this new area code. By relying on market forces, the agency can more efficiently allocate these scarce and valuable resources by assigning them to their highest and best use, as revealed by the bidding process.

Broke: Command and control number assignment

The traditional approach to allocating toll-free numbers is surprisingly complex. The Commission has historically made numbers available on a first-come, first-served basis to 350 Responsible Organizations (“RespOrgs”), which have access to the master database of available numbers. Consumers interested in a toll-free number must enlist the services of a RespOrg, which secures an available number for the customer and administers records on the customer’s behalf pursuant to tariffs filed with the Commission. This creates incentives for strategic behavior by RespOrgs such as warehousing or hoarding available numbers, which ties up these resources unproductively and leads to quicker exhaustion of the limited supply of numbers in each area code. Historically the Commission has tried to control this strategic behavior via regulation, which can be costly and is not guaranteed to be effective. Moreover, assignment via a first-in-time rule can lead to inefficient allocation of toll-free numbers, as they flow to customers with the fastest trigger fingers, rather than those who value the number the most.

Woke: Toll-free assignment auction

To address this inefficiency, the FCC voted last year to allocate the most popular numbers in the new area code via auction. The structure is a single-round Vickrey auction. Qualified bidders submit a sealed bid for each available toll-free number they are interested in. The highest bid wins the number, but the bidder is only required to pay the value of the second-highest bid. The single-round structure reduces the agency’s administrative costs compared to the multi-round structure used for more valuable spectrum auctions. And as the Commission notes, the Vickrey design discourages strategic bidding by encouraging a participant to bid its true estimate of a number’s value, knowing it will only have to pay the value placed on it by the runner-up.

The obvious advantage of this approach is efficiency. Because buyers reveal their preferences via the price mechanism, the auction helps assure that toll-free numbers flow to their highest and best use. And although the bidding is still handled by RespOrgs that acquire numbers on behalf of customers, there is less incentive for strategic behavior because buyers must “put their money where their mouth is.” Warehousing and hoarding are attractive under the command-and-control model in part because numbers are allocated for free. By offering this inventory for a cost, the Commission can assure RespOrgs will only acquire numbers that are likely to attract an interested user. And of course the auction also raises some revenue (though how much is anyone’s guess).

Bespoke: Secondary market transactions

The 833 auction order contains another innovation that might have an even greater long-term impact than the auction mechanism. To fully realize the effectiveness of the auction, the agency has permitted a secondary market for toll-free numbers. Traditionally, the FCC has prohibited the selling of such numbers; customers that are no longer interested in using a number are required to surrender it back to the FCC. But the FCC has lifted this prohibition for numbers purchased at auction.

As the Commission has noted, the development of a secondary market in toll-free numbers furthers the overall goal of putting these resources to their highest and best use. While auctions use prices to reveal the value of a particular phone number at the point of initial assignment, secondary markets reveal its ongoing value over time. The phone number becomes an asset to the subscriber; if at some point an interested buyer values the number more than its current user, secondary markets allow the number to be reallocated. In this way, secondary markets enhance the efficient and productive use of this scarce resource. The secondary market is also a valuable component of an efficient auction mechanism, as it allows auction participants to reassign property rights in response to information learned at the auction.

Conclusion

This week’s auction may seem like a small innovation. But it represents another milestone on the FCC’s long road toward reform. Like the higher-profile spectrum auctions that the agency has launched over the past two-plus decades, the toll-free auction represents an effort to root out the vestigial inefficiencies in an outdated command-and-control regulatory system. Hopefully, the agency’s experiments with the 833 auction and secondary markets will spread to the rest of the toll-free system, unleashing the forces of competition to free one of the last pieces of the telecommunications system still held hostage by the old regime.

Learn more: The toll-free auction: Breathing new life into legacy systems | Can markets give us more radio spectrum?

Daniel Lyons is a visiting fellow at the American Enterprise Institute. 

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