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June 8, 2002
FCC spares cable from open access
One of the most important issues facing the technology industry is how broadband networks should (or should not) be regulated. The two primary camps are those that believe the phone and cable networks should be "open access"—that is forced to allow competitors to use their networks—and those that believe companies ought to be able to own and control their networks. This piece in Salon does an admirable job describing the issue and the various sides, though clearly has a bias for “open access.”
The fear, of course, is that if the phone and cable companies could prohibit competitors from using their networks, they will be entrenched monopolies that will raise prices, stop innovating, and regulate the content that goes over their networks. Currently there is an asymmetry because the RBOCs are forced to open their DSL networks to competitors while cable companies are not. Both sides, and the FCC, want an even playing field, but one side would lift the regulations on DSL and the other would impose them on cable.
Various bills have emerged to address these issues—such as from Fritz Hollings on the side of government intervention and from Tauzin/Dingell on the side of liberalizing government rules—but the real action may instead be at the FCC, where chairman Michael Powell has just ruled that cable companies should not be forced to open their networks and may move to lift the restrictions from DSL. Unfortunately, Powell gets little support from Bush who has been influenced by AT&T and has other priorities on his mind at the moment.
AT&T position is to be expected but telling: they oppose open access on their cable networks but support it for their RBOC competitors. Why? Though they say it is because it will “harm consumers” (a hypocritical argument since they argue the reverse for their own networks) the real reason of course is that lifting the restrictions on DSL would mean tougher competition for AT&T’s broadband service. Yet according to proponents of “open access” they have nothing to worry about—for as long as they aren’t forced to share their networks they will be a monopoly, immune from competition. But what about DSL? They too would be a monopoly, the argument goes, if it weren’t for the grace of the open access restrictions currently in place—whose abolition they stridently oppose. I suppose if satellite, fixed wireless, or any other sort of broadband access method got too successful the “open access” camp would be in favor of forcing them to share their networks as well. One has to ask: how many “monopolies” do you need in an industry before you have competition? I thought it was two, but maybe I’m missing something.
The open access camp argues to “open” cable networks on the grounds that DSL is no match for cable, but this makes their advocacy for holding back the DSL players with forced open access all the more bizarre. True, there are some places with only one option available for broadband services—but this is the minority. In most places where broadband is available there is choice—there is competition. It is also argued that lifting the forced open access restrictions on the RBOCs would kill the CLECs that compete with them over their network. Probably so—but the CLEC business model has been flawed from the beginning and it is serving no broader interest to have them on government-sponsored life support. Let other competition emerge instead.
Another argument for keeping DSL networks pried open is that the government helped the RBOC develop their networks in the first place. But how the networks were developed doesn’t change the wisdom of what is best for industry and consumers going forward and it hasn’t been the government investing in the upgrades for DSL. The open access argument is perverse in this context because it effectively says that because the government helped create a network monopoly it ought to remove incentives for industry to create new networks. Who would invest in a new network when the real possibility exists that you will be forced to share it with your competitors?
The major problem with the forced open access position is that is takes a static view of innovation and treats each network as a separate industry. But of course there really isn’t a DSL industry or a cable access industry—there is only a broadband industry, with competing approaches. Even though DSL and cable broadband access is not very widespread, the emphasis with open access regulation is on creating competition on those existing networks—managed competition—rather than creating a climate that encourages facilities-based innovation. The result will be that these, often inadequate, networks will perpetuate, whimpering along, and the incentive to innovate and develop new kinds of services will be severely hampered.
The regulations on networks have to be evaluated on how they affect incentives and the long-term impact on the growth and dynamism of the industry. The “open access” camp would have the major broadband arteries closely monitored and regulated to ensure that no player would be allowed to become too powerful. But of course this just removes the incentive to become powerful--to innovate, grow, develop new services and products and to be able to reap the rewards. We need to foster an environment that rewards innovation and allows broadband providers, new and old, to profit from (yes, I said profit! It’s not a dirty word) their services. We need to take the long view that looks to the broadband access models of the future and stops hampering the models of the present.
Chris: Congrats on your excellent discussion of the Romper Room economics inherent in the various “open access” regulatory proposals floating around the halls of Congress and regulatory agencies these days. The "let's share everything" regulatory philosophy that has driven public policymaking in this sector since the passage of the Telecommunications Act of 1996 continues to menace the marketplace. Though it goes by many different monikers (open access, interconnection, unbundling, line sharing, collocation), there is one defining characteristic of this regulatory crusade: a lot of people want something for nothing.
In this case of communications and Internet markets, numerous companies and their lobbying outfits continue to demand that regulators give them access to the networks, facilities, and technologies owned by the Bell Operating Companies ("Baby Bells") and that the price of that access be set below the actual costs of those services. In the past, when governments mandated that private property be commandeered and used for some higher common good, it was called socialism. In the modern telecom marketplace, it's known as competition. Go figure.
In a nutshell, here’s the problem with open - - or as I like to call it, forced - - access. Many public officials have mistakenly come to believe that they can create competition in this market by mandating that new telecom upstarts be given access to old Baby Bell facilities at a reduced rate so that they can then resell access on their own at a higher rate. But although policymakers were successful in engineering an increase in the number of firms in this sector, that increase has always been an illusory and fleeting form of "competition" to the incumbent players.
Let’s consider a hypothetical scenario: Lawmakers encourage a large number of firms to enter the market for cola beverages by mandating that Coke and Pepsi share their soda formulas and manufacturing facilities with rival firms at a regulated wholesale rate. New firms are given the right to purchase soda for 17 to 25 percent less that what it actually cost Coke and Pepsi to produce each can or bottle. Having received the products from Coke and Pepsi at such a steeply discounted rate, these new "rivals" then turn around and sell the beverages under their own brand name for a profit.
As a result, several dozen new "competitors" enter this market, in which there are presently only two primary providers. That'd be great, right? NO! This does not represent progress because it would not promote genuine competitive rivalry to Coke and Pepsi but would instead encourage a handful of opportunists to make money off an existing product without offering the public anything legitimately innovative or unique. Even worse, it might discourage Coke and Pepsi from creating new products, since they would likely fear additional government mandates forcing them to share their innovations with other companies. Finally, while the overall number of firms in the market would increase temporarily, the charade would end once investors realized there was no legitimate business model behind this parasitic regulatory scheme.
That scenario illustrates what's happening today in the American telecom marketplace. Firms are engaging in a blatant form of regulatory arbitrage by reselling access to existing lines that the government gave them access to at generously discounted wholesale rates, which are significantly less than the actual cost of providing those expensive networks. Under the Telecom Act, such infrastructure socialism was to be limited to the old voice-based copper lines that the Bells already had in the ground for many years while they were still protected monopolies. But the open-ended language and ill-defined terminology of the Telecom Act encouraged creative and quite expansive interpretations of "access" from the start.
The Federal Communications Commission took full advantage of the act's vague language and formulated a remarkably lengthy and controversial set of rules to encourage an increase in the number of players in the market without worrying about what would happen once rational markets exposed the regulatory house of cards embodied in this scheme. While a number of new firms did indeed enter the local telephone market in the late 1990s, by 2000 it was becoming increasingly clear that investors would not sustain companies that made infrastructure sharing the heart of their business model. So, even with all the gaming of the system undertaken by FCC and state regulators in an effort to prop up what telecom guru Peter Huber of the Manhattan Institute calls a Potemkin Village vision of telecom competition, markets and savvy investors saw through this fiasco and started penalizing firms that did not adopt more sensible business plans.
Regrettably, however, it has become increasingly obvious that all this gaming of the system has had a deleterious impact on innovation and investment. Incumbents have been somewhat reluctant to offer new services for fear of potential sharing requirements. And rivals have forgone new facilities-based investments of their own since the discounted price of access to existing Bell networks proved to be a deal too enticing to pass up.
At some point this needs to end. Forced access has become a public policy fiasco of the highest order. It was never intended to be a permanent part of the telecom landscape, but rather it was supposed to be a halfway house on the road to pure market deregulation. Now it has become an enshrined article of regulatory faith; a quasi-religious doctrine that proclaims that a numerical nose count of new entrants is more important than network investment and genuine facilities-based competition. Bell critics should stop spending so much time pleading for special favors and start putting their money where their mouth is by investing in networks of their own so that they can legitimately square off against the Bells. There's nothing stopping such companies from building their own lines except an ill-advised industrial policy that encourages them to hitch a free ride on the existing system instead of building their own.