Econ Focus

Regulatory Challenges in Telecom

Telecommunications firms operate under a variety of regulations designed to encourage competition and fairness. In some instances, however, these rules have had unintended consequences or haven't reflected changes in the industry.

For example, executives at regional Bell operating companies (RBOCs) complain that the current regulatory environment puts them at a disadvantage. "We are losing retail business because competitors are able to underprice us, but then we have an obligation to serve the markets they don't want," says H. Stan Cavendish, executive director of corporate and public affairs for Verizon West Virginia, a division of Verizon Communications Inc.

State regulators typically require Verizon and other RBOCs to be the "carrier of last resort" for communities. Yet federal rules prevent them from offering a complete bundle of services, which is what long distance carriers such as AT&T and competitive local exchange carriers (CLECs) such as Charlotte, N.C.-based US LEC have done for years. Selling long distance is off limits to a regional Bell unless it receives permission from the Federal Communications Commission (FCC).

The application process isn't easy. First, an RBOC must prove to state regulators that their local markets have sufficient competition. If it appears that the RBOC will meet a 14-point checklist established by the federal Telecommunications Act of 1996, the company's application is sent to the FCC for consideration. In the Fifth District, BellSouth Corp. offers long distance service in North Carolina and South Carolina. Verizon serves long distance customers in Virginia and awaits federal approval to serve Washington, D.C., Maryland, and West Virginia.

The Telecommunications Act created another headache for the regional Bells. Because incumbent providers like the RBOCs own a lot of the infrastructure that carries voice and data traffic to homes and businesses, competitors must be given access to that infrastructure. CLECs and long distance companies can purchase transport and termination rights in order to complete calls from their customers to RBOC customers. Also, they can lease parts of an RBOC's network and offer rival phone services.

Since the regional Bells have an incentive to make it expensive to compete against them, federal regulators set the interconnection and lease fees that they can charge. But RBOC executives say they aren't paid enough to recoup the legacy costs of their networks. For example, the rate structure for unbundled network elements is based on "what an efficient network would cost if you were building it today," asserts Cavendish. "A lot of our network was built a long time ago and wasn't designed to be broken up into wholesale pieces."

Some telecom analysts believe that RBOCs are discouraged from expanding their networks because they would have to share that new electronic territory with their competitors. On the other hand, RBOCs haven't seemed to slow down their investments in network upgrades and maintenance — communications analysts at Kaufman Bros. LP estimate that these firms spent $140 billion on capital expenses between 1998 and 2002.

Incumbent phone companies also may have been discouraged from cooperating fully with the firms that buy and resell network capacity from them. Gabriel Battista, chairman and CEO of Talk America Holdings Inc. in Reston, Va., says state agencies have been forcing RBOCs to lower their lease rates. Companies like Cavalier Telephone in Richmond, Va., and StratusWave in Wheeling, W.Va., have repeatedly accused Verizon of improperly servicing their customers. (Verizon has denied these allegations.)

Meanwhile, operators of cable television systems have expanded into segments of the telecommunications industry. Comcast Corp. and Cox Communications Inc. sell high-speed Internet access to businesses and consumers throughout the Fifth District, while Cox offers local and long distance phone service in Virginia's Hampton Roads region. Yet these companies retain monopoly control over their service areas and don't have to provide access to their networks like incumbent phone companies are required to do.

In the future, industry observers believe cable operators could have a regulatory advantage in the telecom industry. In a Sept. 4, 2002, speech, FCC Commissioner Kevin Martin noted that the agency's Universal Service rule could be changed to regulate broadband services that mimic the offerings of traditional phone companies.

In general, Martin thinks the FCC — and state regulators — needs to be more responsive to industry feedback when making its regulations and clearly communicate its intentions. Said Martin, "Regulatory uncertainty serves as an impediment to market entry."