Radio Should Pay – or (Maybe) Receive – Market-Based Royalties

Music distribution models continue to be in flux, with new streaming services struggling to turn a profit. Recent media stories have reported: SiriusXM’s investment in Pandora and the exit of many in its upper management; Spotify’s growing losses; and, most recently, Apple’s proposal for a reduction in the royalties that it pays to the labels. Congress may add to the flux with its consideration of the Fair Play Fair Pay Act, which would require that radio stations pay royalties to the labels as well.

Listeners currently have a variety of choices of how to consume their music. These choices differ by the method of transmission, whether they are advertising- or subscription-based, and how precisely the listener can tailor the contents to his or her preferences. All the music distribution channels result in record companies (and, through them, artists) being compensated for their work, with one major exception – old-fashioned terrestrial radio. Congress is attempting to remedy this with the Fair Play Fair Pay Act, but, unfortunately, in a way that misses an opportunity to move the entire music-licensing regime in a market-oriented direction.

The current framework for determining royalties categorizes services into four different types. “Non-interactive” services such as SiriusXM and Pandora, where the listener cannot choose the specific songs to hear, automatically qualify for a “compulsory” license with royalty rates determined by a regulatory body called the Copyright Royalty Board. The two services pay different royalty rates, however, because satellite radio and non-subscription streaming services are subject to different legal standards. “Interactive” services such as Spotify, where the listener can choose which songs to hear, must also obtain a license, but they negotiate royalty rates directly with the rights owners. The fact that these services negotiate directly with rights-holders suggests that other distributors could also do so.

The fourth category is terrestrial radio stations, to which most Americans still listen at least some of the time. Radio stations – by statute – pay no royalties to record companies, on the theory that the radio stations provide a promotional service. People listen to music on the radio and then go purchase the music they like, thereby compensating record companies and artists. Nowadays, rather than buying individual songs or albums, it is becoming more likely that listeners will subscribe to a streaming service like Spotify, which also pays royalties to the record companies and artists.

Whether or not this logic is correct, it does not necessarily imply that the royalty rate radio stations should pay is zero. It could imply a positive royalty rate, but lower than other services not deemed to provide promotional value. It could imply a negative rate, where the record companies pay radio stations to play their albums. Indeed, this happens in other industries – e.g., the “slotting fees” paid to supermarkets to carry or prominently display a manufacturer’s items. In the music business, record companies (or their representatives) have sometimes paid radio stations to play their records. Markets, rather than regulators, should determine whether radio stations should pay record labels, record labels should pay radio stations or whether no money changes hands.

The Fair Play Fair Pay Act attempts to do away with the statutory zero rate paid by terrestrial radio stations, a desirable reform. Indeed, if radio stations start to pay positive royalties, it might even put downward pressure on the royalties paid by other distribution services, helping them to eventually earn a profit. However, rather than allowing market forces to determine the royalty for radio play, the bill proposes to incorporate radio into the current regulatory system with CRB-determined royalties.

A better approach would be to simply extend a record company’s licensing rights to include terrestrial radio. Radio stations would have to obtain licenses for the works they play, but the licenses would be negotiated in the same way that interactive services such as Spotify do now. Such a move could be a precursor to eliminating the compulsory license for other categories.

Indeed, elements of competition are beginning to emerge. Increasingly, distributors that are covered by a statutory license, such as Pandora and iHeartMedia, are choosing to negotiate directly with record labels. The existence of such contracts that arguably reflect competitive prices raises the question of whether a CRB proceeding to determine rates is needed or desirable. Economic studies have shown that rate regulation of an otherwise competitive industry rarely, if ever, improves economic welfare. Thus, the challenge is to make further strides toward a system in which royalties are negotiated directly with rights-holders rather than determined by regulation.

The regulatory processes of the CRB have almost certainly not yielded the efficient results that competition could achieve. Rather than incorporating radio into the current regulatory structure, Congress should use the Fair Play Fair Pay Act to encourage the trend toward market-based rates.

Thomas M. Lenard is a senior fellow and president emeritus at the Technology Policy Institute. Lawrence J. White is professor of economics at the Stern School of Business at New York University.

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