Epstein on Telecomm Regulation

Double Trouble for American Telecoms
Richard A. Epstein
FT.com
June 18, 2007

Like it or not, extensive government regulation of high-technology industries is here to stay. That is especially true of network industries, which are not amenable to competitive solutions. Someone has to decide what form of regulation best combats the risk of monopoly exploitation of a dominant network position. The two competing forms of regulation are direct administrative scrutiny and competition (or antitrust) law.

Much can be said for and against both types of regulation. The administrative process is costly and cumbersome. The aggressive imposition of low rates and harsh terms can easily retard technological innovation or drive the regulated firm to the edge of bankruptcy. Competition law for its part offers imaginative lawyers a hunting licence to attack the innocent practices of dominant firms, with huge fines the norm in the US and Europe.

There is only one thing worse than having to fight either administrative regulation or judicial enforcement of competition law: fighting on both fronts simultaneously. Yet that fate is common today, especially in the US. Regulation proponents defend dual enforcement on the grounds that the one form of regulation can pick up any slack left by the other. Many defenders of regulation like the idea of duplication so much that they support both national and state enforcement inthe US, and European Union and national enforcement in Europe.

This approach rests, however, on a giant fallacy. Using multiple systems of enforcement may counter the risk of government underenforcement of the competition norm. But it does nothing to deal with the greater peril of overenforcement of competition policy. Think of it this way: dual enforcement always costs more money than single enforcement, so what do we get for the extra cost? The risk of underenforcement is always countered by the prospect of new entry: today's impregnable monopoly becomes tomorrow's contestable market, as has happened with the "last mile monopoly" of local exchange carriers in telecommunications markets. But new entry does precisely nothing to counter the predictable risks of overregulation, which has the unfortunate side-effect of frightening off new firms waiting on the sidelines. Given the tendency for regulators to expand their sphere of influence, we should strive for a single unified regulatory approach for each market.

The evolution of regulation in the US telecommunications market highlights the dangers of duplicative regulation. In the 1970s AT&T, the huge monolith, was subject to direct regulation by the Federal Communication Commission, whose policies were often less than ideal. In 1982 Judge Harold Greene ordered a massive break-up of Bell system into seven regional Bell companies, each with its own local monopoly, on top of which would sit a remnant of the old AT&T as one of (multiple) competitive long-distance carriers. Judge Greene could not set the various rates and interconnection fees, which meant that the FCC retained concurrent jurisdiction over the entire industry. The industry saw constant legal battles that required every new innovation to pass through the watchful eyes of two sets of regulators. Among its other consequences, that slowed down the rate of cell phone innovation in the US.

The Telecommunications Act of 1996 ended Judge Greene's regulatory preserve by consolidating direct regulatory authority in the FCC. But, as usual, a savings clause explicitly allowed for antitrust enforcement as well. The results were sadly predictable. Regulated firms are required to undertake countless pricing and service decisions that in principle have antitrust consequences. It was only a matter of time before some regulatory decisions generated antitrust suits that reached the US Supreme Court.

In Trinko v Bell Atlantic, the FCC levied a $10m fine when it found that Bell Atlantic had delayed interconnection service with the old AT&T, which was then seeking to enter the New York market as a competitive local exchange carrier. That was followed by a private antitrust class action brought on behalf of all AT&T customers who claimed that the slower service required them to pay higher fees. This past month, in Twombly v Bell Atlantic, the plaintiffs had alleged that all of the Regional Bell Operating Companies had conspired to divide markets by agreeing not to enter each other's primary territory as a competitive exchange carrier.

The issue in Twombly was whether the plaintiffs had alleged enough "facts" to warrant extensive discovery. The Supreme Court held by a seven-to-two vote that it did not, arguing that each RBOC had many independent reasons not to go head to head with incumbents on their home turf. The Supreme Court threw out the suit on the grounds that the 1996 Act did not contemplate this type of antitrust action. However, they left it unclear what suits could survive.

So the sceptic might ask, what is the big deal if both cases failed? But not so fast. The AT&T break-up was not a success, for it failed to foresee the vast changes in technology that made obsolete the distinction between local and international calls. The post-1996 antitrust litigation created immense uncertainty, for there is still no clear rule that blocks private antitrust actions in this heavily regulated industry. So our moral is twofold. One good system of regulation beats two good systems of regulation. And one bad system of regulation beats two bad systems of regulation. All for one, and one for all!

Richard Epstein is a law professor at the University of Chicago and a senior fellow at the Hoover Institution. He signed an amicus curiae brief on behalf of Bell Atlantic in the Twombly case.

Copyright 2007 The Financial Times Ltd