Monday, November 17, 2008

Lessons for communications regulation from banking complexity

A New Scientist story on Why the financial system is like an ecosystem (Debora Mackenzie, 22 October 2008) traces how the science of complexity might prevent future breakdowns of the world’s financial system.

The lessons apply to communications regulation, too. Both finance and the ICT business (“Information & Computer Technology”) are complex systems. The recommendations in the article resonate with the conclusions I came to in my paper Internet Governance as Forestry. This post explores some of the resonances.

New Scientist observes:
“Existing economic policies are based on the theory that the economic world is made up of a series of simple, largely separate transaction-based markets. This misses the fact that all these transactions affect each other, complexity researchers say. Instead, they see the global financial system as a network of complex interrelationships, like an electrical power grid or an ecosystem such as a pond or swamp”
Consequently, the accumulation of small, slow changes can trigger a sudden crisis. Johan Rockström of the Stockholm Environment Institute is quoted as saying,
"Slow changes have been accumulating for years, such as levels of indebtedness. None on their own seemed big enough to trigger a response. But then you get a trigger - one investment bank falls - and the whole system can then flip into an alternative stable state, with different rules, such as mistrust."
This is reminiscent of my Big Picture principle, which can be summarized as “take a broad view of the problem and solution space; prefer generic to sector-, technology-, or industry-specific legislation.”

The question for communications regulation is whether phase changes such as those we’ve seen in finance and ecosystems have occurred, or could occur in the future. Other than the periodic consolidation and break-up of telecom monopolies, and the vertical integration of the cable and media businesses in the 80s, conclusive evidence of big phase transitions in communications is hard to find. Is there currently a slow accumulation of small changes which will lead to a big shift? There are two obvious candidates: the erosion of network neutrality, and growth of personal information bases (cf. behavioral advertising, Phorm, more).

The New Scientist article suggests that unremarked linkages, such as the increase in cross-border investments since 1995, allowed the collapse of the US real estate market to reverberate around the world. The most obvious linkage in communications is “convergence”, the use of the same underlying technology to provide a myriad of services. Common technology facilitates commercial consolidation in infrastructure equipment (e.g. Cisco routers), tools (e.g. Microsoft’s web browser), and services (e.g. Google advertising). Convergence ties together areas of regulation that used to be distinct. For example, TV programs are distributed through broadcasting, cable, podcasts, mobile phones; how should one ensure access to the disabled in this situation? There are also links from one network layer to another, as internet pipe providers use Phorm-like technologies to track which web sites their users visit.

Increased connectivity makes the financial system less diverse and more vulnerable to dramatics shifts. “The source of the current problems is ignoring interdependence," according to Yaneer Bar-Yam, head of the New England Complex Systems Institute in Cambridge, Massachusetts. Telecoms convergence creates a similar risk, with substantial horizontal concentration: Cisco has 60% market share in core routers, Internet Explorer holds 70% web browser share, and Google has 60% search share and 70% online advertising share. While modularity and thus substitutability of parts in the internet/web may limit this concentration, it needs to be carefully monitored, as captured by my Diversity principle: “Allow and support multiple solutions to policy problems; encourage competition and market entry.” Integration is a successful strategy (cf. Apple) that some find disconcerting (cf. Zittrain); it is likely to become more pervasive as the industry matures.

Diversity allows ecosystems to remain resilient as conditions change. In the quest to achieve these results, regulators have to be careful to avoid rigidity, a temptation because the financial system is so fluid. Here’s Bar-Yam again, from the New Scientist article: “Governments will have to be very careful, and set rules and limits for the system without actually telling people what to do.” To manage this risk in the comms context, I proposed the principles of Delegation (most problems should be solved by the market and society, not by government; government's role is to provide proper incentives and guidance, and to intervene to solve critical shortcomings) and Flexibility (determine ends, not means; describe and justify the outcomes sought, not the methods to be used to achieve them).

The article closes by quoting Bar-Yam: “At its core the science of complex systems is about collective behaviour.” He goes on to say that economic policy has so far failed to take into account the complexity and consequent unpredictability of such behavior, and calls for the use of testable models. This will be important in communications regulation, too. Simulations of the internet/web can help to improve policy makers’ intuition about unpredictable systems with many variables. Exploring the consequences of policy choices in simulation can identify which courses of action are most robust under a variety of possible outcomes. It’s the 21st Century version of letting states and regions experiment with regulation, which is eventually pre-empted by federal rules. Policy simulation will allow decision makers to “sweat in training rather than bleed in combat.” Since any solution embodies a set of assumptions and biases, constructing a wide range of simulations can expose hidden preconceptions. They can then eliminate policy choices that work in only a narrow set of circumstances, leading to more resilient final measures.

Update 28 Nov 2008:

I came across a very apposite comment on the value of simulation in the New Scientist editorial for the July 19, 2008 issue (No. 2665). The editorial is a critique of mainstream economics disinterest in agent-based models. It closes by saying:

“Although the present crisis was not caused by poor economic models, those models have extended its reach by nurturing the complacent view that markets are inherently stable. And while no one should expect better models alone to prevent future crises, they may give regulators better ways to assess market dynamics, detect early signs of trouble and police markets.”

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