TCS Daily

Competition's Foes Continue

By Bruce Fein - June 9, 2003 12:00 AM

Time is out of joint.

The Chairman of the Federal Communications Commission, Michael K. Powell, is seeking a second time to kill budding local phone competition after an initial defeat last February 20 by jumping their operating costs to benefit incumbent monopolists. The Chairman's unwearied Machiavellian maneuverings are more to be marveled at than imitated, and unbefitting an administration that deplores monopoly and celebrates free and fair competition.

Under the aegis of the 1996 Telecommunications Act, competitive local exchange carriers (CLECs) have attracted more than 11.6 million subscribers. They have begun to impose marketplace discipline on Baby Bell monopolists who continue to control approximately 90% of local phone lines. Those Baby Bell monopolies were not earned by skill, foresight, and industry. Instead, they were the gifts of government bequeathed through decrees that prohibited competitors until the 1996 Act.

That law inaugurated a regime of local phone competition. But it also recognized the enormous artificial advantages of the incumbent monopolists over newcomers because of economies of scale in building local networks without economic risk, i.e., local loops, switches, and transport lines. Each new subscriber reduced the average cost of service to the Baby Bells throughout the entire range of the relevant local markets.

To enable CLECS to enjoy those same gifted economies of scale and compete on a level playing field, the 1996 Act directed the F.C.C. to compel the Baby Bells to unbundle network elements (UNEs) for leasing at just and reasonable rates. That unbundling strategy to incubate competition has worked as was envisioned. The market shares of Baby Bells have begun to dwindle; and, rate discipline imposed by the newcomers has saved consumers and small businesses many billions of dollars. Indeed, Baby Bells are now offering unprecedented discount rates in attempting to recapture fleeing customers.

Despite the UNE success story, Chairman Powell attempted to kill the enterprise last February 20 on the counterfactual theory that less government regulation is invariably better. He did not consider that when government has created a monopoly by prohibiting competitors, instant deregulation yields monopolistic pricing and lethargy, not competitive performance. It spoke volumes that the Chairman declined to assert that subscribers would benefit from shipwrecking UNEs through lower rates or superior service. Consumer organizations and small business coalitions predictably opposed his anti-competitive gambit, which failed by a 3-2 vote.

The 1996 Act also directed the F.C.C. to prescribe methods for state commissions to employ in setting rates for UNEs that would expose both incumbents and newcomers to the risks and incentives of a competitive market. The Commission responded by promulgating a forward-looking economic cost of a network element known as "TELRIC."

To simplify, TELRIC aims to price UNEs at costs that would be incurred by putative local phone newcomers disciplined by a competitive marketplace, plus a reasonable profit. TELRIC assumes that a competitor would employ the most efficient telecommunications technology currently available; and, would utilize the lowest cost network configuration. The primary goal of TELRIC is to avoid saddling CLECs with paying for inefficient investments and operating decisions of the Baby Bell monopolists, which would thwart the flowering of competitive local phone markets by making UNE prices prohibitive. In Illinois, for instance, SBC has sought UNE pricing based on a staggering 75%-80% non-utilization of its current capacity, as opposed to industry averages ranging from 25%-50%. Under TELRIC, SBC's competitors are not required to pay for the inefficient use of its network.

TELRIC does not eliminate incentives for facilities-based entry by CLECs as opposed to entry by leasing because the methodology leaves UNE pricing above a perfect free market price for twofold reasons: 3-4 year lag times in arbitrating UNE rates mean the same lag in reducing UNE prices to account for new technological efficiencies; and, TELRIC calculates the cost of a UNE based on the existing location of a Baby Bell's wire center, even if, for example, local-loop elements would be less costly if wire centers were relocated for a more efficient fit with the current geography of terminal locations.

The United States Supreme Court sustained the legality of the TELRIC methodology in Verizon Communications, Inc. Federal Communications Commission (2002). Writing for the majority, Justice David Souter denied that TELRIC rates were either confiscatory or deterred facilities-based competition through below-cost UNE pricing. Since 1996, CLECs have invested more than $70 billion in new facilities. In other words, UNEs are a way station to free and fair competition, not a final destination.

On May 13, 2003, the California Association of Telecommunications Companies released a study of the 1996 Act's UNE competition strategy in the Golden State by Yale Bronstein of the University of California at Berkeley. Professor Bronstein found that a slash in UNE rates ordered by the state public utilities commission in May 2002 had saved consumers $189 million; that a drop in rates occasioned 1 million subscribers to switch service providers; and, that the lowered UNE rates still left room for a profit of between 9% and 42%. As the Professor noted, if the TELRIC methodology were yielding below cost UNE rates, the glaring failure of the Baby Bells to invade each other's local markets would be inexplicable.

All persuasive evidence shows that TELRIC is promoting, not thwarting competition for local phone service. Yet Chairman Powell is calling for a review of the winning TELRIC formula. His aim is to spike UNE rates upward to make CLEC competition with the Baby Bell monopolists unviable, thus turning the 1996 Act on its head and circumventing the Commission's February 20 order retaining UNEs for local phone service.

If the Commission is serious about local phone competition, it should not squander its time on reexamining TELRIC and needlessly augmenting market uncertainty. Instead, the Commission should be in federal court seeking to nullify an outrageous and unconstitutional Illinois statute enacted at the bidding of SBC that would sound the death knell for CLECs by rocketing UNE rates through the stratosphere in violation of federal policy.

Bruce Fein is a former general counsel of the F.C.C. and a TCS contributing editor.

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