Five Inconvenient Facts about the Migration to 5G Wireless

            An unprecedented disinformation campaign purposefully distorts what consumers and governments understand about the upcoming fifth generation of wireless broadband technology.  A variety of company executives and their sponsored advocates want us to believe that the United States already has lost the race to 5G global market supremacy and that it can regain it only with the assistance of a compliant government and a gullible public.  Stakeholders have identified many new calamities, such as greater vulnerability to foreign government sponsored espionage carried out by equipment manufacturers, as grounds for supporting the merger of two of only four national wireless carriers and preventing U.S. telecommunications companies from buying equipment manufactured by specific, blacklisted Chinese companies.

            How do these prescriptions promote competition and help consumers?  Plain and simple, they do not, but that does not stop well-funded campaigns from convincing us that less competition is better.  Set out below, I offer five obvious, but obscured truths.
1)         Further concentration of the wireless marketplace will do nothing to maintain, or reclaim global 5G supremacy.

            It requires a remarkable suspension of disbelief to think that allowing Sprint and TMobile to merge remedies a variety of ills, rather than further depletes conditions favoring competition in an already extremely concentrated marketplace.  Advocates for the merger want us to believe that it is our patriotic duty to support the combination, because it will enhance the collective fortunes of wireless carriers and customers, help the U.S. regain 5G market leadership from the Chinese and achieve greater competition, innovation and employment than what two separate companies could achieve.

            Nothing has prevented Sprint and TMobile from acquiring funds needed for 5G investments.  Ironically, considering the rampant fear of foreign ventures doing business in the U.S. telecommunications marketplace, both companies have primary ownership by powerful foreign ventures: Softbank (Sprint) and Deutsch Telekom (TMobile).  Interest rates have rarely reached such low levels and both companies have matched AT&T and Verizon in terms of preparing for the future migration from 4G to 5G infrastructure. 

            A merger would combine the two mavericks in the marketplace responsible for just about every consumer-friendly pricing and service innovation over the last decade from “anytime” minutes, to bring your own device, to attractive bundling of “free” and “unmetered” content.  A merged venture would reduce the number of wireless towers, total radio spectrum used to provide service and incentives for enhancing the value proposition of next generation wireless technology.
2)         Carriers Cannot Expedite 5G with Labels.

            Branding handsets and service as “5G evolving” contributes to the hype without expediting the ready for service date.  An emphasis on puffery and marketing distracts the carriers and their subscribers from an emphasis on the hard work needed to make 5G a reality.  There are no short cuts in spectrum planning, network design, equipment installation and coordination between carriers and local authorities.  Even before the rollout of definitive 5G standards and equipment, FCC Chairman Ajit Pai wants to limit local regulators by establishing a “shot clock” deadline on permitting and site authorizations no matter how complicated and locality specific
3)         Ignoring or Underemphasizing International Coordination will Backfire.

            Next generation network planning typically requires years of negotiation between and among national governments.  For wireless services, the nations of the world attempt to reach consensus on which frequencies to allocate and what operational procedures and standards to recommend.  This process requires patience, study, consensus building and compromise, characteristics sadly out of vogue in the current environment newly fixated with real or perceived threats to national security, fair trade and intellectual property rights.  These important matters increase the need to coordinate with nations, rather than offer enhanced, first to market opportunities for nations acting unilaterally and independent of traditional inter-governmental forums.

           
4)         Invoking Patriotism, Trade and National Security Concerns Will Harm U.S. Ventures.

            Advisors to Sprint and TMobile probably are congratulating themselves on having come up with a creative, national security rationale for unprecedented and ill-advised merger approval and outlawing market entry by foreign equipment manufacturers.  Their short term objectives ignore the great likelihood of long term harm to efficiency, innovation, employment, nimbleness and speed in market entry.  Concentrating a market reduces competitive incentives by making it easier for dominant ventures to establish an industry-wide consensus on service rates and terms. Antitrust experts use the term “conscious parallelism” to identify the all too frequent decision by competitors not to devote sleepless afternoons competing rather than implicitly accepting a high margin path of least resistance.
 5)         Politicizing Next Generation Wireless Harms Everyone.           

            Planning for a major new generation of wireless technology did not always have a political element, divided along party lines.  The process is tedious and incremental, perhaps not well too slow to accommodate the pace of changes in technologies and markets.  However, its primary goal seeks to optimize technology for the greatest good.  Historically, when nations favored domestic standards and companies, markets fragmented and profit margins declined.

Incompatible transmission standards, like that currently in use by wireless carriers, have increased consumer cost and frustration, because an AT&T handset will not work on the Verizon network.  Incompatible standards and spectrum assignments typically harm consumers and competition by increasing the likelihood incompatible equipment and networks.

            I cannot understand how two political parties can apply the same evaluative criterion and reach total opposite outcomes.  By law, the FCC and Justice Department must consider whether the TMobile-Sprint merger would “substantially lessen” competition.  Measuring markets and assessing market impacts should not cleave along a political fulcrum, yet it does with predictably adverse consequences.  One cannot see any harm in a business initiative that concentrates a market, while the other one cannot anticipate how a merger might enhance competition, or at least cause no harm.
If politics, national industrial policy and false patriotism become dominant factors in spectrum planning and next generation network, consumers will suffer as will ventures who have become distracted and unfocused on how to make 5G enhance the wireless value proposition. 

Lies, Damn Lies, Statistics and Mistruths in the Set Top Box Debate

            As expected, incumbent cable companies and their select group of new allies, such as Roku, (see http://www.wsj.com/articles/how-the-fccs-set-top-box-rule-hurts-consumers-1461279906) have launched a major disinformation campaign pushing back at the FCC’s initiative to promote set top box competition.  In a nutshell, the rebuttal has offered several remarkably bogus rationales for maintaining the status quo: it’s a Google-generated ploy to access video content without charge just as Google has done with Internet content; regulation is bad; the cable industry has an exemplary record of deploying cutting edge set top boxes; and there’s no problem requiring government intervention in light of the fast paced introduction of new video content access options.

            It comes across as particularly rich to read how Roku now supports the cable industry after years of struggle with it.  Might Roku’s new found support result from the exclusive deal the company cut with Comcast to provide a low cost alternative to monthly set top box rentals?  Isn’t it amazing that despite years of claims that there could never be any single, low cost alternative to the cable industry-supplied set top box, lo and behold the engineers have achieved the undoable!

            Here’s another inconvenient truth: consumers used to access cable without the need for set top boxes; then they couldn’t.  The cable industry dithered for decades on making television sets compatible for both downstream content delivery and upstream navigation commands.  Apparently it was technologically IMPOSSIBLE for true “two way” access via television sets and alternatives to the cable industry rented set top box, until now.

            The cable industry also disputes the revenue levels they have managed to squeeze out from subscribers.  It rejects FCC and other estimates of an average yearly cost of about $230, largely because of voodoo accounting that differentiates what consumers see on their monthly bills.

            The cable industry also congratulates itself on the set top box innovation on display.  Bear in mind that most consumers have used the same box for years.  Ask yourself: how many times has the cable company offered to replace your existing box for new one?  Conveniently Comcast has a new box available, but I’ve had the same box for over 15 years.

            The set top box debate is rife with disinformation and outright lies.  The vilification of Google mystifies me.  If you take the cable industry position, hook, line and sinker, Google amazingly will be able to capture all video content with no payment to copyright holders.  Worse yet, the company will be able to delete and replace advertising.  Google also will rob the cable industry of any incentive to create content and the cable industry will evaporate as Google expands its vacuum cleaner, market capture.

            Newsflash: Google has to comply with copyright, FCC and other requirements.  By law Google cannot meddle with video content it processes.  Google’s market entry has raised the likelihood that consumers will have access to a competitive set top box market as well as the long denied opportunity to access video content from a wire without a box, an option that used to exist before the cable industry came to its business senses.

AT&T-DirecTV and the Benefit of Multiple Requests

            AT&T appears likely to secure all required governmental approvals of its $48.5 billion acquisition of DirecTV.  AT&T has made multiple requests for acquisition authority of late and the odds of multiple “mother may Is” seems to work here.  The company couldn’t get the needed authority to buy out TMobile and the wireless consumers are far better off in having a maverick innovator among the 4 carriers that pretty much control the nation’s wireless infrastructure.  Most analysts think a merger of AT&T and DirecTV won’t matter much.

            AT&T can make plausible arguments that the merged venture will not harm competition, or consumers even as it provides desirable diversification opportunities for both companies.  The FCC and Justice Department will have to emphasize this prospect rather than dwell of the snarky and unnecessary threats by CEO Randall Stephenson that AT&T won’t invest in next generation network infrastructure because of burdensome network neutrality obligations and general notions of regulatory uncertainty.  See Washington Post, AT&T is putting its fiber deployment on ice over net neutrality — for now (Nov. 12, 2014)

available at: https://www.washingtonpost.com/blogs/the-switch/wp/2014/11/12/att-is-putting-its-fiber-deployment-on-ice-over-net-neutrality-for-now/.

            So AT&T has ample retained earnings and borrowing options to shell out $48.5 to buy out a content competitor, but the marketplace is too risky to invest in plant?  Apparently it makes financial sense to buy market share and diversify content distribution technologies rather than extend the geographical market coverage of AT&T’s hybrid fiber optic/copper U-verse network.

            AT&T is neither a maverick, nor an innovator.  Its interest in DirecTV may evidence backward, or status-quo thinking.  In the worst case, AT&T will have bought a venture whose one service will decline in value and market share over the next few years. If cord cutting and shaving picks up momentum in the wired cable television environment, won’t subscriber churn increase for the satellite alternative to cable?  Or will exclusive rights to some NFL football games pay for the deal?

            Does it make sense to double down on an incumbent medium, rather than emphasize new media opportunities?  The managers at AT&T appear keen on hedging their bets by embracing old media even as technological and market convergence point elsewhere.

What’s Certain About the Regulatory Uncertainty Debate

            Incumbent carriers, such as AT&T, Comcast and Verizon, have made countless “curtains for the Free World” assertions in the Network Neutrality debate.  They claim that if the FCC reclassifies as common carriage aspects of Internet access, it will create “regulatory uncertainty” and “disincentive investment.” 

            Not one of the countless sponsored researchers funded by incumbents has provided a shred of empirical evidence to support these assertions.  In fact, senior management officials at these carriers readily acknowledge that capital expenditures are based on marketplace conditions.

            These managers act like children in the back seat of a car driven by a parent.  Assuming the parent cannot hear them, kids say very candid things.  So do senior telecommunications managers when discussing capital expenditure with buy-side Wall Street analysts.  AT&T CEO Randall Stephenson has “warned that he could hold off on many of his company's capital investment plans -- including fast new fiber lines -- if uncertainty persists over how the US government will regulate the Internet.” See http://www.cnet.com/news/at-t-ceo-net-neutrality-uncertainty-puts-a-pause-in-investing/.

            Mr. Stephenson and other senior managers would not dare understate future capex in statements to the financial community, or to the Securities and Exchange Commission.

            In my mission to find and tell the truth, here are some inconvenient facts:

Congress Created Regulatory Uncertainty

            Regulatory uncertainty results when Congress fails to legislate despite changed circumstances, or when its laws lack clarity.  Congress last created telecommunications in 1996, before the Internet changed everything.  In that kinder and less partisan time, the legislature achieved consensus, albeit one rife with compromises that translated—over time—into statutory ambiguity.

            The FCC has acted in light of the vacuum generated by congressional inaction.  On two separate occasions, the FCC has failed to convince a reviewing court that its statutory interpretation is reasonable and that the judiciary should defer to its expertise in making sense out of an outdated and ambiguous statutory mandate.

Incumbents Use Regulatory Uncertainty as a Lobbying Tool

            Incumbents sustain regulatory uncertainty based on an assumption that the FCC will raise their cost of doing business and somehow limit their ability to maximize profit.  Yes these carriers will need plenty of staff and expensive lawyers to litigate and perpetuate uncertainty, but where are the constraints on profits?  Broadband access generates triple-digit returns.  Comcast can generate over $1 billion a year in cable modem and set top box rentals, largely because the FCC can’t seem to apply the longstanding Carterfone policy that obligates even private carriers to permit consumers to attach their own devices.

            Regulatory uncertainty is a red herring, because incumbents surely know that if the FCC oversteps, a reviewing court will overturn the rules.  The FCC may fail to convince a reviewing court that circumstances support reclassification of Internet access as common carriage, but the predicate for regulatory uncertainty lies with Congress that created it by not doing its job and by incumbents exploiting it for an uncertain monetary gain.

Competitive Necessity Drives Capex

            AT&T and other incumbent cannot carry out their threat to reduce or stop investing in infrastructure.  The decision to raise, lower or maintain capex results from a strategic assessment of competition.  Competitive necessity forces wireless carrier incumbents to acquire more spectrum, whether to use it, or to warehouse it to prevent market entry.  The lack of competitive necessity makes it possible for wire carriers, like Verizon, to cherry pick and red line the geographical areas where it chooses to offer fiber optic broadband service.

This Debate Increasingly Looks Like a “Tempest in a Teapot”

            The network neutrality debate has triggered the worse sort of exaggeration and hype. Incumbents have not and cannot prove any measurable short and long run harm to their bottom line, but their vigorous and effective claims trigger false positives, i.e., the assumption of harms such as capex disincentives.

            Recent market entrants deem common carriage rules, subject to forbearance of most regulations, as minimally necessary to safeguard competition and innovation.  Maybe, but the real possibility exists that they have identified false negatives, i.e., harms to competition and consumers. 

            Today, tomorrow and for the foreseeable future the remedy to network neutrality concerns likes in having a far more robustly competitive broadband ecosystem, something incumbents strive everyday to thwart.

Telecom Policy Lessons From Recent Aviation Mergers

         During this sabbatical year, I have had more opportunities for air travel. While I still marvel at the opportunity to be somewhere on the other side of the globe in a day, I cannot believe how even doubly diminished expectations are not achieved.

            Acquiring companies United, Delta and American swore how buying out a competitor would promote competition and help airlines become more financially stable so they could compete better.  Right, so they can spend up to $35,000 per business class seat and concentrate on the high margin customer even as they install cheaper, smaller and more numerous seats in economy.

            Rather than become more robust competitors it has become easier for the airlines to siphon consumer surplus by raising rates.  The survivors have less incentives to concentrate on consumer service, what with all the new opportunities to extract higher revenues, particularly from ancillary services like charging $300 for a change in an itinerary.

            Even former mavericks have come to realize that they have more to gain by joining the consensus than by offering a better value proposition.  Both Southwestern and Jet Blue have implemented some of the new fees the other carriers charge and neither typically offer the lowest fare anymore.  The smaller group of airlines can engage in consciously parallel pricing—some might call it price fixing—and get away with it, because no one wants to buck the trend of ever rising prices.

            If these mergers were supposed to make the airlines better competitors, why aren’t prices dropping, particularly in light of a 30-40% drop in fuel prices?  Most international flights from the U.S. have sizeable fuel surcharges, a term creating the impression that this billing item might drop, or evaporate if fuel prices decline.  This has not happened.  Why part with as much as $615 per trip if no other carrier reduces the surcharge?

            Fundamental economics suggests that if incumbent gouge and get too greedy, they create ever larger incentives for market entry.  Okay, where is the market entry?  It cannot happen when incumbents control all available takeoff and landing slots.  Even with low interest rates, what bank would loan millions to a startup airline boldly willing to jump high barriers to market entry?

 

            Of course the incumbents have every incentive to exploit their survivorship and to incur the lobbying and campaign investments necessary to sustain the status quo and their upper hand in the marketplace.  Congress is not about to force a reallocation of landing slots to market entrants any more than they would enact a law earmarking radio spectrum for competitive bidding only by non-incumbents. 

 

            It has become easier from incumbent airlines to pursue a strategy of reducing the value proposition of flight and to unbundle elements so that the sum of the line charges well exceeds the former single fare.  While much of this affects the economy class traveler United Airlines CEO Jeff Smisek even bragged how replacing whole cashews with pieces in business class would save the airline money without any fallout.  This miserly airline does not offer a free glass of wine in coach, even though US Airways does having previously tried to charge for water.

            Tweaks to frequent flier programs and a variety of line items, like that one sees on their cable television and wireless bills, make incumbents not much different than so-called low cost carriers.  These carriers do not look and act much different than carriers like Ryanair or Spirit. 

            So the thought has crossed my mind many times of late whether Comcast and AT&T have anything to offer other than higher stock prices from their proposed $100+ billion acquisitions.

Hot Potato Routing and Real or Imagined Congestion

            Several years ago when the Internet was beginning to grow, the matter of fair sharing of traffic loads arose.  Because ISPs did not or could closely meter traffic as they can now, the possibly arose that some ISPs could hand off traffic to other carriers without detection and penalty.  The term hot potato routing refers to the deliberate off loading of traffic onto another carrier’s network.  The burdened carriers resented such “free riding” and emphasized that the hot potato routing carrier could not guarantee quality of service having handed off traffic to other carriers.

            With the passage of time and the onset of real or claimed congestion, the hot potato resenting carriers have become hot potato routers themselves.  Wireless carriers want to sell—make that give away—femtocells ostensibly so that subscribers can get better in-building signal penetration.  This positive outcome occurs, because the carrier has had subscribers install mini-cellular radio towers on premises.  But what kind of backhauling does the femtocell use?  Some operate on cellular frequencies in effect retransmitting wireless signals.  But others inject what would have been more wireless traffic into the Internet cloud via the wireless subscriber’s DSL or cable modem broadband connection.  This is hot potato routing masquerading as signal enhancement.  In reality the wireless carrier suffers less congestion and the need to cell split and install additional towers if it can offload traffic to other carriers. 

Another example: Wireless carriers don’t mind—make that are happy when—subscribers substitute wi-fi minutes of use for cellular minutes of use.  These very same carriers used to require equipment manufacturers to disable wi-fi access via cellular phones, so that subscribers had to use network minutes.  With real or imagined congestion cellular carriers can reduce capital expenditures in more plant by offloading traffic onto another carrier’s network. 

Bear in mind that such offloading often does not trigger a charge for the hot potato routing (traffic originating) carrier.  While incumbent carriers, such a Verizon and AT&T, vigorously complain about free-riding VoIP operators, which find ways to inject traffic onto their networks without compensation, Verizon and AT&T do the same thing.  Of course they can claim the need to do so results from the FCC’s inability to reallocate spectrum, or from unanticipated data service demand.  What better way to shift the blame to the FCC or those pesky, gluttonous customers?

I appreciate that ongoing high capex harms carriers’ profits, but U.S. wireless carriers do not seem to be suffering at least in terms of Average Revenue per User (“ARPU”).  These carriers have some of the highest ARPUs globally, and the elimination of unmetered and unlimited data plans promises even higher ARPUs going forward. 

Skimping on capital expenditures accrues short term benefits, but it may foreclose longer term gains.  If wireless carriers make the investment in 4G bandwidth and switching capacity, they can encourage subscribers to treat smartphones as the functional equivalent of wired computers.  Additionally they can exploit technological and marketplace convergence that promote an IP-centric network serving an ever expanding aggregate demand for information, communications and entertainment (“ICE”) services.  But the incumbent players dither: they threaten to become innovative and aggressive competitors, but back off.  Cable operators realize the need to offer a wireless component in their bundle of services, but instead want to sell their spectrum to incumbent wireless carriers.  Wireline incumbent carriers, such as Verizon, toy with the idea of offering video content, instead of serving as the conduit for the content managed and produced by others.  But this week we hear that Verizon would rather partner with Netflix than compete.

Who wants to devote sleepless afternoons competing, investing and innovating?

Supreme Court Further Limits Antitrust Remedies for Carrier Pricing Complaints

By a unanimous ruling, the Supreme Court has further reduced the opportunity for a carrier competitor of an incumbent to seek an FCC or judicial remedy to pricing strategies arguably designed to eliminate competition by offering wholesale prices below that charged to competitors for similar services. [1] In 2003 several Internet Service Providers (“ISPs”) filed suit against Pacific Bell Telephone Co., contending that this incumbent carrier attempted to monopolized the market for Digital Subscriber Link (“DSL”) broadband Internet access by creating a price squeeze with ISP competitors obligated to pay a higher wholesale price than what Pacific Bell offered on a retail basis.

Both the District Court and the Ninth Circuit Court of Appeals agreed that the ISPs could present their price squeeze claim, despite the Supreme Court Ruling in Verizon Communications, Inc. v. Law Office of Curtis V. Trinko, LLP, 540 U.S. 398 (2004) that limits antitrust claims against common carrier, telecommunications service providers and further restricts what remedies a court can provide in lieu of what rights the Telecommunications Act of 1996 provides market entrants.

The Court assumed that Pacific Bell had no antitrust duty to deal with any ISPs based on the FCC’s premise that ample facilities-based competition exists. [2] Curiously, Court does not mention that Pacific Bell could avoid a unilateral duty to deal with ISPs based on the FCC’s classification that DSL and presumably its component parts constitute information services and not common carrier-provided telecommunications services.

But for a voluntary concession to secure the FCC’s approval of AT&T’s acquisition of BellSouth the Court noted that Pacific Bell would not even have a duty to provide ISPs with wholesale service. The Court granted certiori to resolve the question whether ISP plaintiffs can bring a price-squeeze claim under Section 2 of the Sherman Act when the defendant carrier has no antitrust-mandated duty to deal with the plaintiffs. The lower courts concluded that the Trinko precedent did not bar such a claim, but the Supreme Court reversed this holding.

On procedural grounds, the Court’s decision chided the ISP plaintiffs for changing the nature of their claim from a price squeeze to one characterizing Pacific Bell’s tactics as predatory pricing. On substantive grounds, the Court noted that a new emphasis on predatory pricing would have require determination whether the retail price was set below cost, [3] a claim the ISPs did not make.

The Court determined that the case did not become moot, because of the change in economic and antitrust arguments. However the decision evidences great skepticism whether the ISPs have any basis for a claim, because in the Court’s reasoning the ISPs failed to make a claim that Pacific Bell’s retail DSL prices were predatory, and the ISPs also failed to refute the Court’s conclusion that Pacific Bell had no duty to deal with the ISPs, i.e., to provide wholesale service. [4]

The Court apparently can ignore the voluntary concession AT&T made that created a duty to deal, because that concession may trigger FCC oversight, but it does not change whether an antitrust duty to deal arises. The Court reads the Trinko case as foreclosing any antitrust claim if no antitrust duty to deal exists. [5]

The Court remanded the case to the District Court to determine whether the ISP plaintiffs have any viable predatory pricing claim. The Court expressed the need for clear antitrust rules and apparently views consumer access to low retail prices—predatory or not—as sufficient reason for courts to refrain from intervening. Remarkably, the Court does not seem troubled even if all ISPs competitors exited the market, an event that surely would the surviving incumbent carrier to raise rates:

For if AT&T can bankrupt the plaintiffs by refusing to deal altogether, the plaintiffs must demonstrate why the law prevents AT&T from putting them out of business by pricing them out of the market. [6]

This case evidences a strong reluctance on the part of the Supreme Court to approve of any sort of judicial review over the pricing strategies of carriers. Presumably the plaintiffs could have petitioned the FCC to review the wholesale prices, but the Commission might just as well have claimed that even the sub-elements of DSL service constitute information services not subject to Title II pricing and nondiscrimination requirements.

[1] Pacific Bell Telephone Co., v. Linkline Communications, Inc., slip op. 555 U.S. ___
(rel. Feb. 25, 1009); available at: http://www.supremecourtus.gov/opinions/08pdf/07-512.pdf.

[2] “DSL now faces robust competition from cable companies and wireless and satellite services.” Id. at 2; see also, id. at 8, n.2.
[3] The Court referenced Brook Group Ltd. v. Brown & Williamson Tobacco Corp., 509 U.S. 209 (1993) that supports the inference that a predatory pricing claim can be established only with proof of below cost pricing coupled with evidence that the defendant can subsequently recoup any lost profits. Id. at 4.

[4] “The challenge here focuses on retail prices—where there is no predatory pricing—and terms of dealing where there is no duty to deal.” Id. at 8. “If there is no duty to deal at the wholesale level and no predatory pricing at the retail level, then a firm is certainly not required to price both of these services in a manner that preserves its rivals’ margins.” Id. at 12.

[5] “In this case, as in Trinko, the defendant has no antitrust duty to deal with its rivals at wholesale; any such duty arises only from FCC regulations, not from the Sherman Act.” Id. at 9.

[6] Id. at 16-17.

Wireless Economies of Scale at the Price of Diminished Competition

In 2001 the FCC eliminated a cap on the amount of bandwidth a single wireless carrier could control. With nothing coming close to quantifiable or empirical evidence, the Commission simply bought the assertion of incumbent carriers that the public interest would benefit when incumbent carriers can achieve better scale economies to serve a growing subscriber base. The FCC made no credible assessment whether larger scale would preempt market entry and reduce the potential for more facilities-based competition.

Since 2001 incumbent carriers have dominated the wireless marketplace in the United States, building on the FCC’s decision in the early 1980s to award incumbent wireline carriers the first of two licenses. Currently four national carriers control 90% of the market and their primary advertising message emphasizes how well their networks work. In other words price competition rarely appears while the carriers engage in what antitrust lawyers and economists term “conscious parallelism” conduct. If one carrier raises text messaging rates from ten to twenty cents, then the other three matches the increase. Once in a while the weakest carrier Sprint, comes up with a pricing initiative matched by the other three, but all four carriers offer few differentiating price options, e.g., a discount to subscribers with used handsets that the carrier does not have to subsidize.

What if the FCC had retained a 45 MHz or 55 MHz spectrum cap? The possibility exists that a fifth or sixth national carrier might have evolved as well as several more regional carriers. If the number of carriers increases beyond four, the potential increases for one of the carriers to conclude that a pricing initiative will capture more subscribers and revenues than sticking to parallel pricing. As well it would not take a venture with incredibly deep pockets to enter the market.

In the latest auction of spectrum, the choice 700 MHz band, Verizon, AT&T, Sprint and T-Mobile dominated and even Google opted eventually not to challenge the incumbents. The incumbent carriers now so dominate that absent affirmative legislative or regulatory efforts, the market appears likely to remain static.

How can creative destruction and competition thrive when precious little spectrum remains available? The national treasury perhaps received more money from incumbents keen on warehousing spectrum and preempting market entry. But these carriers get to amortize their spectrum investment which reduces future tax liability. As well the public probably has fewer choices and a profitable surplus accrues to carriers able to avoid sleepless afternoons competing.

Fuzzy Math in Calculating the Cost and Profit in Wireless Text Messaging

The New York Times recently addressed the issue of wireless texting cost and strongly implied that carriers make a lot of money from this service that costs them little to provide. See http://www.nytimes.com/2008/12/28/business/28digi.html?_r=2&partner=rss&emc=rss. Of course wireless carriers quickly will respond that consumers (can) get an incredible bargain by subscribing to an all you can eat (“AYCE”) rate plan. If you apply the typical non-rate plan of twenty cents per text message, you can conclude the carriers are gouging, but if you use a $10.00 per month rate, coupled with lots of usage, the per message cost drops substantially.

Texting provides a helpful case study for assessing the competitiveness of the wireless marketplace and the value proposition presented. First, we should appreciate that the wireless infrastructure has substantial upfront, sunk costs, e.g., the need for carriers to competitively bid for spectrum, construct towers and install other facilities before accruing the first dollar in revenues. However, once having sunk this substantial investment, the incremental cost of providing an additional minute of service approaches zero absent network congestion. For text messaging, the additional or “marginal” cost of providing service surely approaches zero, because carriers can load text traffic onto control channels already installed for a different purpose, to set up calls. See http://www.privateline.com/mt_cellbasics/2006/01/channel_names_and_functions.html.

One could argue that charging twenty cents for something that costs next to nothing constitutes a major rip off. However, you do have to keep in mind the substantial start up costs the carriers incurred and the need to recoup that investment from any and all services. On the other hand, even when offering texting at AYCE rates the carriers can generate ample profits.

So if texting is so popular and profitable why don’t wireless carriers compete on price? Good question. In a robustly competitive market price becomes a major factor, yet for wireless the carriers’ advertisements almost exclusively tout reliability and they match each other’s texting prices. Additionally carriers, their trade associations, and the FCC regularly emphasize the rate plan per text message or per minute talk time rate to show how competitive the wireless marketplace is and what great consumer surpluses subscribers accrue.

In reality not all wireless subscribers enroll in a text messaging plan, nor do all subscribers come close to using all their monthly allotments of use. For the high volume user, rate plans help reduce per minute costs, just as buffet restaurants reduce patrons costs per once of consumption. A big gap exists between metered and AYCE per minute costs, but to make the best claim of marketplace competitiveness one has to work with AYCE plans, or ones offering large buckets of minutes.

U.S. wireless carriers currently offer some of the most expensive and cheapest rates for texting and telephoning. Of course it makes sense for subcribers to enroll in rate plans, but only if they accept the reality that low cost results only from large usage.

Deconstructing AT&T’s Claims About the iPhone

Unlike the other wireless carriers, which primarily use advertisements to claim how well their networks work, AT&T pitches both reliability and speed. AT&T claims to operate the nation’s fastest 3G network. See http://www.wireless.att.com/cell-phone-service/specials/iPhone.jsp?WT.srch=1. The carrier claims the following bit rate delivery speeds: “typical download speeds of 700 Kbps—1.7 Mbps;” and “typical upload speeds of 500 Kbps—1.2 Mbps.” See http://www.wireless.att.com/learn/why/technology/3g-umts.jsp.

AT&T’s claims about transmission speeds remind me of the claimed distance coverage of Family Radio Service transceivers, the next generation of Citizens Band radios. Uniden claims my transceivers will provide service for “up to twelve miles.” Yeah, right. I am lucky to get one and one-half miles.

So what bitrates do AT&T 3G subscribers actually get? Wall Street Journal columnist Wall Mossberg measured the 3G iPhone bitrates at not terribly blazing 200-500 kbps.
See http://ptech.allthingsd.com/20080708/newer-faster-cheaper-iphone-3g/.

The good news about AT&T’s suspect bitrates claim lies in the apparent strategy to pitch something more than service reliability. The bad news lies in the overstatement and the reality that U.S. wireless carriers comparatively lag carriers in many other nations. But of course that would require consumers, regulators and legislatures to question the claims of carriers, something "obviously" best left to the marketplace.

No Way to Put the Public Back in Public Utilities?

Several years ago many state legislatures embraced the concept that technological innovations would stimulate robust competition in previously monopolized industries such as electricity, gas and telecommunications. The legislatures so bought into the certainty of competition that laws created a glide path to deregulation and the near complete elimination of consumer safeguards. The legislature accepted the premise of lobbyists and sponsored academic researchers that public utilities should qualify for treatment as competitive businesses surely entitled to cut off services to nonpaying customers, an outcome that has contributed to 81 deaths in Pennsylvania. See http://www.centredaily.com/329/story/1026815.html.

With the passage of time, it has become quite clear that infrastructure industries with substantial investment needs do not typically have many facilities-based competitors, especially for the last mile of service to residential and small business consumers. Yet most state legislatures have not revise their laws, even after the Enron debacle showed how crafty public utility employees could exploit their less regulated status to create expensive, but artificial bottlenecks, congestion and shortages of power.

Having cut a deal based on the certain expectation of competition, state legislatures did not think to condition deregulation on confirmation that the competition arrived and flourished. Without such a safeguard, deregulated public utilities surely will claim that they relied on the promise of deregulation and any revision would unfairly and unlawfully confiscate their financial resources. So public utility consumers in many states have the worst of all worlds: deregulation based on competition that did not arrive and apparently no remedy for resumption of consumer safeguards in the absence of a self-regulating marketplace.

The Lack of Imputatation and How It Tilts the Competitive Playing Field

Some time ago, before the FCC streamlined tariffing regulations for ILECs and eliminated structural separation requirements, the long distance carrier side of an ILEC presumably had to pay the local exchange carrier side of an ILEC the $10 to change a subscriber's Primary Interexchange Carrier ("PIC") presubscriptions for 1+ inter-LATA and intra-LATA long distance calling. Now a company like Verizon can secure what I consider an artificial competitive advantage, because it does not have to incur and charge itself (i.e., impute) the $10 charge. Of course any competitor, or a competitor's subscriber has to pay 2 $5 PIC change fees.

It seems to me that a company like Verizon can generate some reluctance to change to a competing long distance carrier by charging a $10 while "waiving" the charge if a Verizon subscriber stays with, or changes to Verizon. Bear in mind that Verizon charges $4 or so for the privilege of making 5-7 cent per minute long distance calls, while other carriers offer lower rates without an additional recurring monthly charge.

I recognize that lots of people make all of their long distance calls via their cellphones--one of the benefits in having large monthly baskets of minutes. But for the consumer who still makes long distance calls via the wireline network, Verizon has the opportunity to make consumers think whether changing long distance carriers is worth a $10 "cover charge" that Verizon readily waives if you stick with their bundled services.

The Front and Back End of a Two Year Wireless Subscription

In the United States just about everyone trades off typical consumer rights and handset freedoms in exchange for “ownership” of a subsidized handset. Of course the handset is neither free, nor fully owned. In exchange for the a subsidy cellphone service subscribers agree to an intricate installment sales contract that limits what they can do with the handset.

But what happens after the two years run? Well the typical subscriber renews service and gets a new handset installment sales contract. He or she has no real alternative, because the cellphone oligopoly in lock step have foreclosed a market for used handsets and by offering no savings to subscribers who make do with their existing handset.

FCC Chairman Martin wants to show what a consumer advocate he is by tackling financial penalties for early termination. He wants consumers to have an opportunity to opt out of a contract within the first billing cycle. Fine. But the real consumer affront is the tacit collusion among cellphone companies not to compete on price, particularly for low end subscribers who do not want or need a subsidized handset and a two year service commitment.

Unlike just about everywhere else the United States does not have a robust and competitive wireless prepaid, calling card marketplace. The handful of Mobile Virtual Network Operators offer similar and not terribly attractive rates, primarily for youth and ethnic markets. I do not fit those demographics, but no carrier wants to offer lower rates to subscribers more than likely to accept a two year lock in.

Am I some kind marketplace orphan, or have the wireless carriers engaged in anticompetitive conduct?

Protecting the Wireless Crown Jewel

The incumbent wireline telephone companies increasingly rely on wireless service revenues to generate growth and upward trajectory in their stock. Accordingly it should come as no surprise that they would gear up their formidable public policy/sponsored research machinery to oppose any initiative that would generate more competition, enhance consumer welfare and possibly reduce profit.

That explains the noisy, but largely bogus explanations why it makes no sense to allow consumers to access any cellular network with any cellular telephone. A high ranking official at Verizon opposes the applying Carterfone principles to wireless on three grounds: 1) separating handsets from service was necessary for a monopoly, but not a competitive market; 2) separation would involve “sweeping government intervention;” and 3) an any handset rule would risk harm to wireless networks. see Link Hoewing, The Hype in the Skype Petition; available at http://policyblog.verizon.com/PolicyBlog/Blogs/policyblog/LinkHoewing9/294/The-Hype-in-the-Skype-Petition.aspx.

Ouch. These rationales come across as rehashed Bell System doctrine that made no sense in the 1970s and surely makes no sense now. Separating handsets from service is a smart regulatory remedy regardless of the market structure of the wireless business. The FCC would unleash billions of dollars in savings to consumers simply by allowing them to extend the usable lives of existing handsets and allow cheapskakes like me to activate the $1 handset I can buy at garage sales. Indeed some of the savings would flow to cellular operators who would have fewer handsets to subsidize. Of course the operators are not balking at having to subsidize handset sales. They want to preserve the two year lock in that the subsidy supports, limit customer churn and reduce price competition.

If consumers could bring their own phone to a new service arrangement, cellular operators might have to offer lower service rates, because they would have no subsidy obligation. Cellphone operators claim to allow consumers to use a “compatible” phone, but consumers receive no benefit through lower rates. U.S. cellphone operators do not want you to know that in other places in the world consumers have access to both cheap prepaid service, using calling cards, as well as cheap almost “throwaway” handsets geared to the prepaid services. These arrangements have no lock in and offer a far better value proposition than what Virgin and other so call mobile virtual network operators offer in the U.S.

I do not see how government sweeps in and pervasively regulates the commercial mobile radio service simply by requiring the unbundling of service and handset sales. If anything government remedies a market failure. When over 60% of all handset sales occur at cellphone company stores and another 30+% from a handful of Big Box stores, such as Best Buy, Circuit City and Walmart, I believe that the carriers have blocked the development of a secondary and resale market for handsets. According to the MIT Dictionary of Modern Economics market failure occurs as a result of the “inability of a system of private markets to provide certain goods either at all or at the most desirable or ‘optima’ level.” Safeguarding 95% to a captive, single distribution chain strikes me as viciously anticompetitive.


The harm to the network argument reminds me of the Bell System claim that attaching a non-Western Electric handset would “violate systemic integrity.” Of course systemic integrity had nothing to do with potential or real technical harm. The FCC established a lab certification and common interface requirement and the rest is history. The same could be done for wireless handsets.

Mr. Hoewing claims unbundling has not generated any major innovations in telephone handsets, but that misses the point in two ways. First he ignores that separating handsets from the network forced the network to remain largely neutral and accessible by any device and for any services. This did not relegate underlying carriers to operating “dumb” networks in perpetuity, but it did allow end users to inject network management functions at the edge instead of having to pay for a finite set of centralized options available from the carrier. Second, Mr. Hoewing ignores the widespread proliferation of handset types available in a competitive marketplace.

On the other hand what great innovations have the U.S. cellphone carriers provided consumers? Ringtones, short messaging and slow speed Internet access comes to mind. Compare that level of progress with the scope of innovation in the Internet.

Revisionism

William B. Petersen, President of Verizon Pennsylvania visited the College of Communications at Penn State where I teach. Mr. Petersen's presentation was entitled "Broadband Services Convergence: The Benefits of a 'High Fiber' Diet." No dispute there.

Mr. Petersen, an affable fellow, blamed "regulatory uncertainty" for the relative poor progress in broadband market penetration that occurred in the decade following enactment of the Telecommunications Act of 1996. While I could have noted that Verizon and other incumbents surely contributed to the uncertainty through endless litigation, I chose to question Mr. Petersen's allegation that the courts always supported the Bell point of view in such litigation.

That's not how I read the case law. Yes the courts on three occasions reversed the FCC on the scope and level of unbundling obligations. But the Supreme Court on two occasions endorsed the FCC's implementation of a Congressional mandate to promote competition. In AT&T Corp. v. Iowa Utilities Board, 525 U.S. 366, 119 S.Ct. 721, 142 L.Ed.2d 835, 67 USLW 4104 (1999) the Supreme Court largely upheld the Commission's implementation of the Congressional mandate contained in Section 251 of the Telecommunications Act of 1996 as a reasonable exercise of its rulemaking authority, including its requirement that ILECs unbundle network elements and offer CLECs the opportunity to pick and choose from an ala carte menu or platform of elements. The Court also ruled that in identifying which network elements ILECs should unbundle, the Commission did not limit the set of network elements to those necessary to promote competition whose absence from the list might impair ILECs' ability to compete.

In other words the Court did not deem unconstitutional the Congressional mandate of unbundling. The Court also largely deferred to the FCC's dtermination how to price these unbundled elements. In Verizon Communications, Inc. v. FCC, 121 S.Ct. 877 (2001)
the Court rejected incumbent local exchange carrier arguments that using a theoretical, most efficient cost model, instead of actual historical costs, constituted a taking that violated the Fifth Amendment. The court noted that no party had disputed any specific rate established by the TELRIC pricing model and concluded that “[r]egulatory bodies required to set [just and reasonable] rates . . . have ample discretion to choose methodology.” Additionally the Court stated that the ’96 Act did not specifically require historical costs, particular in light of its explicit prohibition on the use of conventional “‘rate-of-return or other rate-based proceeding’ . . . which has been identified with historical cost ever since Hope Natural Gas was decided.”

Mr. Petersen appeared to dismiss these cases as nothing more than Chevron-type deferral to agency expertise, something he surely must have welcomed in the Brand-X case. These cases do more than indicate the Court's unwillingness to second guess the FCC. Federal courts have made a sport of second guessing the FCC, particularly its implementation of the '96 Act.

I read the two Supreme Court cases as a fundamental endorsement of the lawfulness of the '96 Act's model for promoting competition. The law failed in part, because the ILECs simply would not go along with the transition, instead prattling on about "confiscation" and "taking of property." Indeed Mr. Petersen hailed Korea as an example of where competition flourished, ignoring that the incumbent cooperated thanks to the heavy hand of government stewardship in that country.

The point here is that hindsight in telecom policy does not offer 20-20 vision. The laws that Verizon and other incumbents help draft did not offer the expected payoff. The litigation that Verizon and other incumbent initiated did not absolve these carriers of having to interconnect and price access elements at below market rates.

We can dispute the wisdom of a Congressional mandate for cooperation among competitors--a fundamental concept in common carrier-- and the terms for such access. But it surely comes across as revisionism of history and case precedent to claim the courts invalidated the Congressionally created scheme.