A test for regulatory lag and the role played by periodic contract renewals in mitigating such lag in local cable franchise relationships

Summary and Conclusions

This study reports two primary findings. First, the typical cable franchise relationship appears to be characterized by substantial regulatory lag. While long-term franchise contracts may involve a significant amount of day-to-day interpretation and modification, the interpretation and modification are not sufficient to ensure that the contractual terms of trade are consistently at market. In terms of pricing, channel capacity, community programming channels, and franchise fees, the terms of trade confronted by cities prior to franchise renewal are significantly less favorable than the terms of trade found in post-renewal contracts.

Second, periodic franchise renewals appear to be a relatively effective means of mitigating regulatory lag and adjusting the contractual terms of trade to market. The terms of trade obtained by cities conferring renewal contracts are roughly, although not entirely, equivalent to the terms obtained by similarly situated cities concurrently issuing initial franchise awards.

The conclusions to be drawn from these findings are twofold. First, the existence of regulatory lag in cable franchise relationships may be desirable. From a dynamic efficiency perspective, that is, regulatory lag may provide the regulated firm with an appropriate incentive to undertake risks, reduce costs, and/or improve productivity (Vogelsang 1988). In addition, because most of the capital assets associated with a cable system have economic lives of 10 to 15 years (Webb 1983), it may be inefficient to continually attempt to adjust the terms of trade in a franchise relationship to market (Schmalensee 1979).

Second, while continuous regulatory oversight may have undesirable economic consequences, periodic contract renewals show promise as an effective means to ensure that regulatory authorities continue to promote the interests of a public utility's consumers. If designed perhaps to correspond to the points in time at which the public utility needs to rebuild or upgrade its plant, contract renewals may serve to push regulators to periodically examine whether the terms of trade offered by the public utility are at market. Without such encouragment, public utility commissioners may be content to sit back and do nothing (Joskow 1974, 298–299) so long as “none of the actors in the regulatory process are complaining.”