Promoting innovation and the deployment of advanced telecommunications services to businesses

Contemporary Economic Policy, April, 2008 by David J. Gabel, Kenneth Guang-Lih Huang

The FCC has also affirmed that PC regulation accelerates innovation relative to traditional ROR regulation. According to the Federal Communications Commission (2002):

  price cap regulation encourages incumbent LECs to improve their
  efficiency by harnessing profit-making incentives to reduce costs,
  invest efficiently in new plant and facilities, and develop and deploy
  innovative service offerings, while setting price ceilings at
  reasonable levels. (p. 5)

Similarly, state commissions have concluded that price regulation would spur innovation in the telecommunications market. For example, in approving PC regulation for New England Telephone, the Maine Public Utility Commission (1995, [section]III.A.7) concluded that a "particular goal of price regulation is to encourage utilities to be innovative and to provide new services that will be profitable."

While there is a general consensus that PC regulation is more likely to stimulate innovation than ROR regulation, this notion remains a testable hypothesis which is addressed in this paper.

B. Balancing the Goals and Requirements of the Act

The Telecommunications Act not only addresses innovation and its impact on dynamic efficiency but also requires nonrural ILECs to provide unbundled network elements (UNEs) at cost to their competitors (47 U.S.C., [section]252(d)(1)(A)). Access to UNEs is procompetitive because it allows entrants to offer services over the incumbents' facilities without entrants being impaired by their inability to achieve the economies of scale achieved by the incumbents. Since (unbundled) telecommunications network facilities must be provided at cost, an entrant has an easier time competing than it would absent this legislative requirement (Federal Communications Commission, 1996, pars. 10-15 and 29).

Although the Telecommunications Act requires that UNEs be priced at cost, it provides little guidance regarding the appropriate costing methodology. In a subsequent cost proceeding, the FCC determined that cost should be determined using a forward-looking economic cost methodology known as total element long-run incremental cost (TELRIC). The FCC has described the guiding principles of TELRIC but left its implementation to the states (Federal Communications Commission, 1996, par. 29).

As noted by the D.C. Court of Appeals, the FCC's pricing rules only establish a range of reasonableness, leaving it up to the state commissions to determine where to establish UNE prices within this range. The D.C. Court went on to note that states may select rates on the lower end of reasonableness in order to promote competition (Sprint v. FCC, 2001). ILECs have suggested that by selecting UNE rates on the low end of the range of reasonableness to promote competition in the short run, state regulators are removing incentives for carriers to invest in facilities. The ILECs claim that they have little incentive to invest because they have to lease network elements to rivals at low rates, while competitive local exchange carriers (CLECs) have little incentive to invest because the availability of low-cost UNEs allows them to offer services without the inherent risk associated with provisioning facilities (SBC Communications Inc., 2002, pp. 24-25 and 96-104). Some Wall Street analysts have downgraded their ratings of RBOC stocks based on the lost profits associated with UNE rates (Commerce Capital Markets, 2002; Dresdner Kleinwort Wasserstein Securities, 2002; UBS Warburg, 2002, pp. 5, 6, and 20). This, in turn, raises the RBOCs' cost of raising funds for new investments.