Intending to restrain incumbents' market power

Jan. 1, 2002

Incumbent telephone companies are walking the halls of Congress again, aiming to break free from the FCC's unbundling policy, but they are unwilling to limit their market share.


Read a few books about business strategy and you will come across the phrase "market share" enough times to make you think it is an important way to understand business behavior. One popular book, Sun Tzu and the Art of Business, proves the point. The book applies the military principles of the ancient Chinese general, Sun Tzu, who lived 2,000 years ago, to modern-day business. The book's author, Mark McNeilly, explains "how to gain market share without inciting competitive retaliation" and writes that every company's "goal is relative market dominance, which is necessary for long-term survival and prosperity." Many of McNeilly's instructive lessons about market-share use real-life competitive examples.

Now consider the FCC's precedent-setting decision authorizing Bell Atlantic to provide long-distance service in New York: "Congress specifically declined to adopt a market share or other similar test for BOC entry into long-distance, and we have no intention of establishing one here...the [Telecom] Act provides for long-distance entry even where there is no...competition...Bell Atlantic has satisfied its statutory obligations and made competitive entry [into its local market] possible in this market sector."

This is a world apart from AT&T's divestiture in 1984. Then, the government's explicit policy was to reduce the company's market share so competitors would have the knowledge there would be a market for their service, prompting them to invest in modern facilities and build their own networks. Long-distance deregulation establishes the principle that restraint on an incumbent's market share stimulates facilities-based competition. Unfortunately for AT&T, it now has "no relative market dominance," and its "long-term survival and prosperity" is questionable-not like the incumbents, who have gotten off easy. They do not have to give up market share but must have an "open market" by complying with the FCC's unbundling policy, where the incumbent shares its facilities with a competitor. This policy is the sole-surviving constraint on the market power of the incumbents, whose surrogates have renewed the war-of-words against the FCC.

Their campaign started with a much-heralded and bombastic study, Broadband or Bust! Networking Society to Accelerate Economic Growth by George Gilder and John Wohlstetter, senior fellows of the Discovery Institute. Broadband or Bust is an anti-government creed which says that "the existing FCC regime must be resisted, else added harm to broadband competition will result," that un bundling is a "rip-apart-the-incumbent's network" strategy, and that "the legislative design [of the Telecom Act] fashioned by Congress...was hijacked from the outset by the Clinton-era FCC." The fellows at the Discovery Institute add a twist to their anti-FCC rage. Not only does the FCC force a sharing of facilities, but it does so at a pitiful fraction of the real burden: "[P]hone companies are re quired to share their networks with rivals and provide facilities at ...roughly 40% of true cost."

The authors' descent into the fires of ideology and accusation and their propaganda-like portrayal of the agency as an insidious ogre do not address the central question: Did Congress intend to restrain the incumbents' market power? The "competitive checklist" in Section 271 of the Telecom Act makes clear that Congress did.

For example, if Congress did not intend to apply a market share constraint to the incumbents, as the FCC says in its Bell Atlantic New York order, and if Congress did not intend for the incumbents to share their facilities, as Gilder and Wohlstetter claim, then in what other manner did Congress intend to restrain the incumbents? It can't be state law because the Supreme Court has already said that the Telecom Act takes power from the states and places it in federal hands. Another argument: Congress intended for the incumbents to share their facilities but at a price set by the incumbents rather than the FCC. This is wrong, too.

The scenario creates a risk that incumbents could do a "price squeeze," raising the sharing price high enough to prevent competitors from making sufficient profit, which raises two contradictions: It is a situation that hypothesizes market entry without profit, and it implies that Congress set up the competitive checklist while also giving incumbents a way around it, which is not credible. Unfortunately, these issues were argued before the Supreme Court in October. If the Court rules that sharing is illegal or that the incumbents are free to price their facilities as they see fit, then incumbents are not constrained and Congressional intent is not fulfilled.

Why the fuss over sharing an incumbent's facilities with competitors when they are few and weak? According to off-the-record comments made by about 160 execs at the recent Economic Strategy Institute's Executive Roundtable, there is a lingering thought among equipment and chip makers that it is better to have an optical loop completely controlled by the incumbent than no optical loop at all. The result would be a telecom-optical-service monopoly. Marvin Sirbu, professor at Carnegie Mellon, said at the FCC's Public Forum on a New FCC for the 21st century: "I believe the first company to run fiber to the home will capture the market for all of the services and no investment banker will fund a second company to run another fiber," a situation in which facilities-based competition is impossible. In the absence of an "open market" policy, the first company would have to be strongly regulated to prevent it from raising the price of optical services while lowering the output of optical services-the traditional monopoly behavior.

Stephen N. Brown writes on public policy in telecommunications. He can be contacted by e-mail at [email protected] or telephone: (615) 399-1239.

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