Progress and regress on interLATA competition.

• Author: Mandy, David M.
• Position: Long distance telecommunications

1. INTRODUCTION

   Over sixty-six billion dollars were spent in 1997 on interstate and international long-distance telecommunications services.(1) MacAvoy and Taylor argue that, despite price decreases, this telecommunications market is characterized by prices that exceed competitive levels because the price decreases have not kept pace with decreases in costs.(2) Some counter that this conclusion results from incorrect measurement of prices, but Taylor and Zona reexamine the question from many perspectives and still conclude "that it is very unlikely that the interstate long-distance market is effectively competitive."(3) Due to the sheer size of the market, even a potential failure of competition must be taken seriously. Departures from competitive outcomes can have enormous welfare consequences.(4) This was one motivation behind passage of the Telecommunications Act of 1996 (Act),(5) which, among other things, removed the legal prohibition that prevented Bell Operating Companies (BOCs) from providing certain interLATA (long-distance) services.(6) The theory is that, under the right conditions, the BOCs could inject vigorous new competition into interLATA markets and could also compete to provide new services for which there is pent-up demand, such as one-stop shopping for telecommunications services.(7)

   Section 271 of the Act outlines the process that BOCs use to obtain relief from their line-of-business restriction on interLATA services.(8) BOCs must apply on a state-by-state basis to the Federal Communications Commission (FCC) for permission to offer interLATA services, and the FCC must render its decision within ninety days.(9) The FCC may not grant permission unless it finds that four broad conditions are met.(10) First, the BOC must either provide access and interconnection to its network pursuant to agreements with competing providers of local exchange services or have received no requests for access and interconnection.(11) The former is called a "Track A" application, while the latter is known as "Track B."(12) Second, the BOC must satisfy a competitive checklist, either through its interconnection agreements or through a statement of generally available terms for access and interconnection (SGAT).(13) Third, the BOC must provide its interLATA services through a separate affiliate that meets certain structural requirements and nondiscrimination safeguards.(14) Fourth, BOC provision of interLATA service must be "consistent with the public interest, convenience, and necessity."(15)

   At this writing, the FCC has rejected five applications, approved one, and is currently reviewing one.(16) Southwestern Bell was first to apply, requesting permission to offer interLATA service in Oklahoma.(17) After deciding that Southwestern Bell met neither the Track A nor Track B requirements, the FCC denied this application.(18) Ameritech Michigan followed and was the first application to pass the first condition.(19) Although the FCC declared that Ameritech satisfied Track A, the FCC decided that several checklist items were not met and that Ameritech's long-distance affiliate did not satisfy the structural requirements and denied the application.(20) BellSouth submitted applications in South Carolina and Louisiana.(21) In regard to the South Carolina application, the FCC decided that BellSouth did not meet the Track B requirements, did not seriously apply under Track A, and did not satisfy some checklist items.(22) The FCC did not rule on whether BellSouth met Track A or Track B in Louisiana. Instead, the FCC relied exclusively on its decision that the checklist problems from South Carolina were also present in Louisiana.(23) BellSouth reapplied in Louisiana exclusively under Track A.(24) Despite much disagreement, the FCC declined to rule on whether BellSouth met the Track A requirements and denied the application due to ongoing checklist problems and some problems with the structural and nondiscrimination compliance of BellSouth's long-distance affiliate.(25) Bell Atlantic submitted an application in New York, which the FCC approved, and SBC submitted an application in Texas, which is currently under review.(26)

   The FCC and courts address the issues concerning section 271 application requirements in the six existing Orders,(27) decisions by the courts, as well as in other statements by the FCC. This Article considers the FCC's positions on most of these issues and evaluates whether these positions make economic sense and are consistent with the Act. To provide a foundation for considering these issues, Part II reviews the basic economics of BOCs' entry into interLATA markets. Part III presents the most contentious issues, while Part IV addresses related issues. A few differences between the current and former FCC commissioners surface in this evaluation. Part V summarizes the FCC's sound positions and advice for future BOCs' applications.

   This Article does not evaluate the entire section 271 process. Many parties--including industry, regulators, academics, and legislators--bear some responsibility for the fact that nearly four years passed from the time the Act became law before any BOC gained relief from its line-of-business restriction. The actions of these parties notwithstanding, the present purpose is a much more modest review of only the basic economics and decisions issued by the FCC. On this, the Author reaches two broad conclusions. First, the federal regulators have performed admirably with regard to checklist compliance (except for the emphasis on TELRIC pricing and the "pick and choose:" rule) and structural/nondiscrimination safeguards. Second, the FCC's performance on Track A/B compliance and public interest issues is less impressive. The pages that follow provide the rationale for these conclusions.

2. ECONOMICS OF BOCs' ENTRY INTO INTERLATA MARKETS

   Essentially, the economic rationale for allowing BOCs' entry into interLATA markets is that free and open competition brings about the lowest possible prices and a mix of services that is as closely aligned with consumers' preferences as possible.(28) The 1982 consent decree imposed the line-of-business restriction only on BOCs after the court found that as long as local exchange service providers were allowed to sell long-distance service, competition in long-distance service could not be free and open.(29) This view was a product of the former integrated Bell System's alleged anticompetitive tactics toward its emerging rivals.(30) These tactics generally involved the use of the local network to accomplish a Bell System policy.(31) Although there are many variants for the economic analysis, this Article places these tactics into two broad categories: tie-in sales and raising rivals' costs. Today, the economic arguments against BOCs entry into interLATA markets can still ultimately be attributed either to one of these two tactics or to the pursuit of the further policy goal of giving BOCs' incentives to reduce barriers to entry into the local exchange business.

   A. Tie-in Sales

   A tie-in sale is a seller-imposed restriction requiring a purchaser interested in purchasing one product from the seller to buy both of the seller's products.(32) In its simplest form, a tie-in sale is imposed by a monopoly seller of one product when it dictates to largely homogeneous purchasers that the monopoly-supplied product--the "tying" good--can only be bought if the purchaser also buys from the monopoly supplier a second, more competitively-supplied, product--the "tied" good.(33) In this way, the monopolist is thought to "extend the monopoly" to the more competitive market, thereby enabling the monopolist to charge a higher price for the tied good.(34) For example, concern might arise that a BOC would only sell its monopoly-provided local exchange service if a consumer agreed to buy, at a premium, the more competitively-supplied long-distance service from the BOC.(35)

   While this story was intuitively appealing and initially adopted by the courts as an explanation for anticompetitive conduct, closer scrutiny reveals that this situation may provide no motive for the monopoly supplier to tie its sales. Any attempt to charge a premium for the tied good is viewed by consumers as an add-on to the price of the tying good because consumers can always purchase just the tied good from the competitive suppliers.(36) Hence, the combination of this add-on and the price charged for the monopoly-supplied good cannot exceed the amount consumers are willing to pay for the monopoly-supplied good.(37) If it does, consumers will simply forego the monopoly-supplied good and buy the other good from a competitive supplier.(38) Thus, if consumers are largely homogeneous, the monopolist cannot extract any more profit by tying than it can by simply charging the most consumers are willing to pay for the monopoly-supplied product and imposing no tying restrictions.(39)

   The failure of this simple story to explain tying behavior has led to the study of what will actually lead to a tie-in sale. Not all of the objectives identified in the literature apply to potential BOCs' behavior. Indeed, the most basic tying story, that a BOC would refuse to sell local exchange service unless a consumer buys ]long-distance from the BOC, is largely irrelevant because existing regulations prohibit this behavior. To further the proper categorization and analysis of the allegations of tying in the FCC's section 271 Orders, this Article ]Lists the main objectives. The six main objectives are as follows.(40) The first objective is to achieve efficiency through scope economies either in production or purchasing.(41) This is welfare-enhancing and occurs width such frequency that it is usually not even recognized as a tie-in sale.(42) Any assembled product can be viewed this way, such as a car or the fact that shoes are always sold with laces. Either product could be sold in its constituent parts, but it would be...