In India, all mobile operators pay a portion of their revenues as a licence fee and another portion for use of radio frequencies, or “spectrum", required for carrying wireless signals. The department of telecommunications’ (DoT) earlier guidelines for 3G broadband services envisaged that this revenue share be 1% for 3G spectrum against up to 6% charged for 2G.

Illustration: Jayachandran / Mint

It was reported on Thursday that the ministry of finance advocates a common fee for 2G and 3G spectrum since it may be impossible to separate respective revenue streams, and shrewd operators might escape the higher 2G fees by passing off these revenues as 3G and hurt the national exchequer. This position — supported by the Telecom Regulatory Authority of India (Trai) — is blind to several more serious absurdities caused by basing government fees, especially those for spectrum, on operator revenues.

The ministry’s position undermines the most significant first step in the reform of India’s spectrum regime — when it was announced that the price of 3G spectrum would be determined through an open auction instead of relying on the hugely controversial rules that have allowed government bureaucrats to do so till now. In most important regulatory regimes, spectrum price reflects its market value. A nominal fee is levied to recover management costs.

A higher charge could be levied for underpriced 2G spectrum, which a firm recently sold at six times the price it paid to the government. But, to equate the charges for 3G — bought through an auction — to that of 2G — sold at bargain basement prices — is a travesty.

Combining 2G and 3G revenues would discourage deployment of more efficient technologies. One of the incentives for players to bid for and deploy 3G spectrum would be the lower revenue share. Not any longer. We can expect the bids for 3G to reflect this too. Did the ministry of finance consider this when computing the loss to the government of possible mischief by operators in allocating revenues to the 2G and 3G revenue streams later?

Efficient technologies such as 3G are not a luxury. Wireless communications is now the cheapest and fastest way to delivery telephony, Internet and other data services. The demand for spectrum will increase further, especially in India where half the country is still not connected and bureaucrats and politicians have eaten into spectrum reserves by issuing more mobile licences, in this fiercely competitive wireless market which is also the world’s most crowded.

Linking fees to operator revenue has led to many distortions. This is not simply the obvious punishment to efficient operators with possibly higher revenues. It encourages operators to underprice their services as long as it is in line with other commercial goals. So, free calls in an operator’s network or the so-called “lifetime free" incoming plans involve abundant use of spectrum but no additional fee to the government — since the operators “forgo" the additional revenues. But it allows operators to acquire and retain customers. And subscriber numbers determine stock market valuations as well as future access to spectrum according to India’s unorthodox spectrum rules.

Fees based on a share of operator revenues are, in effect, a second tax. The damage is exacerbated if the tax is a proxy for the price of a valuable and scarce resource such as spectrum, as is the case for 2G. This is akin to giving away public land free to private builders on condition that they share with the government a proportion of their future revenues from it. To top it, bureaucrats would set the exact proportion!

All commercial players must pay a market price for use of spectrum. A lower revenue share for 3G spectrum bought through an auction will be an incentive to move to efficient technologies. A lower annual fee might help reduce the opposition from existing mobile players to the auction of 2G spectrum — when they consider that benefits of administratively priced spectrum may not be such a bargain considering the huge amount paid in revenue shares by operators with turnovers of billions of dollars.

But what about the concerns of the ministry of finance and Trai about the difficulty in separating 2G and 3G revenue streams? Given the huge collateral damage of combining them, it has been suggested that 3G and 2G revenues be allocated according to the proportion of traffic carried on these networks. This is easy to do and audit. Even now the so-called VLRs, based on traffic monitoring, enable users of mobile services to be distinguished from those who have a SIM card but never switch on their handsets.

With operators now allowed dual technologies in the same licence, they could be expected to enable internal roaming between their GSM and CDMA networks to optimize their investments in infrastructure. Intriguingly, the government chose to ignore Trai recommendations to combine the revenue streams and subscriber base for purposes of licence fees and spectrum allocation. There will be little alternative to tracking 2G and 3G traffic.

Trends in traffic and revenues may not always overlap. But using a more efficient network to enjoy lower spectrum fees might be far more acceptable than the mischief that current rules threaten. Till we move to market-based prices for spectrum, the only way to avoid more damage might be to retain the revenue share advantage for the more efficient 3G.

Mahesh Uppal is director, Com First (India) Pvt. Ltd. He consults on regulatory issues. Comment at