Jailbreaking and the distorted economics of phone subsidies

Raging against subsidies– farm, oil, coal– is back with a vengeance. To the list of economic distortions caused by funny accounting, add one more example of collateral damage: freedom to jail-break our devices . At the heart of the successful CTIA campaign against renewing the DMCA exemption for jail-breaking devices are the opposing interests of the consumer and those of the mobile carrier.

To get a better picture of this conflict, one needs to appreciate the pecking order in the mobile ecosystem. When a consumer uses an application on their phone that connects to the Internet, there are many players involved making this possible. Some of them are highly visible with brand recognition, others are unsung heroes. There is the handset manufacturer producing the hardware (say Samsung for Galaxy S3) who sources parts from multiple suppliers (ARM processor, baseband radio from Qualcomm, wireless chipset from Broadcom, NFC controller from NXP etc.), the vendor producing the operating system (Google for Android, Apple for iOS), finally the third-party developer who authored the application and last but not least, the wireless carrier or “mobile network operator” providing the pipes for voice and data traffic.

Among these different actors, there is no question that carriers are calling the shots– at least in the US. It is relatively easy to see this by both following the money trail. On average users change phones every 18 months, which might mean about $600 for the handset manufacturer, from which the various component suppliers get bits and scraps. By contrast with the average US cell phone spending hovering north of $100, the carrier will collect $1800 from the same subscriber over that time span. Worse the profits margins for hardware are razor-thin. Carriers on the other hand are monetizing upfront investments in spectrum and infrastructure, with low marginal cost. They can command high prices on low-cost services such as text messaging or ring tones.(As for the per-user revenue accruing to the OS manufacturer or third-party app developers, it would not even register on this scale.) Finally the carriers maintain strong control over the distribution channel. Traditionally most subscribers purchased their phone directly from a retail location affiliated with the carrier. Even when the phone was sold through a third-party such as BestBuy, it often came bundled with a wireless plan. It was the iPhone that managed to pry open this model, by offering devices at sleek Apple Stores, initially still tethered to AT&T but later directly selling unlocked phones at full price, a model also followed by Google for Google Experience Devices.

There are two closely related uses of jail-breaking: First is getting additional privileges on a device, to perform certain operations that are normally not permitted by the operating system. For example on certain Android devices, this includes enabling tethering or running Google Wallet. Second motivation is taking the phone over to a different mobile carrier than the one it was initially bought under, for example by swapping SIM cards. Often this requires the escalated privileges because the software is “locked” down to only accept the original carrier.

In both cases, there is a direct conflict between the user intent and the carrier. The first case can be subtle, as when carriers label certain applications such as Skype as “undesirable,” because they strain network capacity (according to the oft-advanced claim for VoIP) or otherwise work against the carrier profitability. The second case is a more clear-cut instance of creating customer lock-in. Preventing the device from working with a different network raises the costs to the customer of switching: at a minimum they need to spring for a replacement phone– assuming they can even get the same hardware. As the original exclusivity of iPhone to AT&T demonstrates, if the user is wedded to owning a particular model they may not even have the option to purchase it from a competing carrier at any price.

On the one hand, it is easy to get indignant about this. The consumer paid for the device, the argument goes, so they should have the freedom to do anything they please, including novel modifications not envisioned by the manufacturer. Arbitrary restrictions harken back to the conflict between general purpose computers and specialized appliances described eloquently by Jonathan Zittrain in The future of the Internet and how to stop it.

The problem is, the consumer did not pay for the device, at least not initially. Carriers have a legitimate point: in most cases the phone is sold at below cost, with the expectation that monthly charges for service will eventually cover it. This is the basic distortion created by subsidizing the phone with recurring subscription. The mobile network operator does have a legitimate claim on deciding the fate of the device, at least from the start when it is effectively “loaned” to the subscribers with the intention that it will be paid off over time.

More troubling, this bargain is never spelled out transparently, and subscribers are rarely offered a meaningful chance to negotiate. Long after the mandatory 12 or 24 month period of the contract runs out (and one assumes, the hardware is already paid off and then some) the user does not earn the privilege to unlock their device. Often there is not even an option to pay full price at the outset, in exchange for greater freedom– which would count as a fair deal. While gray-market unlocked phones were always available, it is only in recent history that this avenue of distribution has been legitimized. The result is the current mess: restrictions against user freedom and heavy-handed attempts to enforce these fundamentally unenforceable restrictions with legislation mismatched to the task. DMCA is putatively concerned with copyright. Regardless of one’s opinion on its suitability for that job, there is little room for debate that it was never intended as a tool for protecting carrier revenue streams from disruption.

One hopeful sign is the growth of alternative distribution channels, emphasizing the hardware over the carrier. This is something that HTC, Samsung, LG etc. would welcome, as an opportunity for devices to finally compete on their own merits– both in features and price– instead of carrier affiliation or extent of subsidies hiding the true costs from consumers.


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