February 24, 2004

February 24, 2004 | WebMemo on Internet And Technology

Bundles of Trouble: The FCC's Telephone Competition Rules

Almost exactly one year after the FCC adopted new regulations governing competition in telephone service, telecom regulation is once again under debate. Rules that require telephone companies to lease parts of their networks to competitors were intended to increase consumer choice but instead have hindered investment and actually reduced real competition. Within the next few weeks, a federal appeals court may rule on challenges to last year's FCC decision. The betting is that the rules will be struck down, leaving the FCC the task of writing new ones. With or without a court order, the FCC - or Congress - should act to scale back these telecommunications regulations.



The regulations in question stem from the 1996 Telecommunication Act, which requires that telephone companies provide competitors with access to parts of their network. Exactly which parts were left to the FCC to decide. Under the chairmanship of Clinton-appointee Reed Hundt, a comprehensive list of so-called "unbundled network elements" or "UNEs" was drawn up - including switches, transport lines, and "local loop" lines to individual homes and businesses - allowing competitors to lease virtually any or all of an incumbent telephone company's facilities at rates set by regulators.


Within a year, however, a federal appeals court found that the FCC had gone too far, pointing out that, under the statute, the regulated elements must be "necessary" to competitors and, without them, competition would be "impaired." The rules went back to the FCC, which marginally revised them. They were then challenged in court a second time, and again, the appeals court rejected them - this time providing firm instructions to the FCC to reduce their scope. Thus, last year, the FCC once again considered the rules. On a 3-2 vote - with the chairman of the FCC dissenting - the Commission adopted amended rules.


The new rules - which were not actually published until six months later - reduced unbundling requirements for facilities used for advanced, broadband services. But it didn't substantially change the rules for standard "voice" telephone services. Instead, it asked state regulators to decide how and if they should be changed. The states are now in the beginning stages of proceedings on these issues; few are expected to grant relief, which, in any case, would take years to implement.


Confusingly, supporters of these rules argue that they comprise a pro-market approach to telecommunications, since they foster competition in an otherwise monopolistic industry. They also argue that conservatives should support the FCC's delegation of decision-making to the states, since it is consistent with notions of federalism. They are wrong on both counts:

  1. Rather than fostering real competition, the rules undercut it. The UNE rules encourage a second-best sort of competition: competition is only among firms sharing the same infrastructure at artificially low rates ordered by regulators. The benefits to consumers are limited. Not only are competitors not truly independent, but the market is dependent on, and pervasively controlled by, the rules set by government. We can do better. True competition among firms using their own facilities is possible, and in fact exists. One need look no farther than wireless phones or Internet telephony services to see this at work.
    The UNE rules discourage such real competition by encouraging potential rivals to focus on renting facilities, rather than building their own. As harmful, they discourage incumbent telephone companies from investing in their networks, since any benefits would be shared with their rivals.
  2. Federalism does not require a patchwork, state-by-state, approach to rulemaking. Telecommunications service is a key part of interstate commerce. Its impact goes beyond state lines, and decisions made in any one state tend to have effects outside its borders. This does not mean that states should not have a leading role in many areas of telecommunications. The line between state and federal authority is not an easy one to draw. In this case, given the interstate importance of competition and investment in telecom networks, federal decision-making is justified and appropriate.

Time for Reconsideration

The upcoming court decision may determine, to a large degree, the next step in this long-running telecommunications drama. The court may require specific deregulatory steps by the FCC. Even if it does not, the FCC should review its UNE rules, and substantially reduce their scope. At a maximum, network access to competitors should be required only for those elements where the marketplace has demonstrable natural monopoly characteristics. Going further, given the growth of wireless and Internet telephony, even those minimal requirements should be re-examined.


James L. Gattuso is Research Fellow in Regulatory Policy in the  Thomas A. Roe Institute for Economic Policy Studies at The Heritage Foundation.

About the Author

James L. Gattuso Senior Research Fellow in Regulatory Policy
Thomas A. Roe Institute for Economic Policy Studies

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