December 18, 2001

The Honorable Donald L. Evans The Honorable Glenn Hubbard

U.S. Department of Commerce The Honorable Randall S. Kroszner

14th & Constitution Avenue & E St. NW The Honorable Mark B. McClellan

Washington, DC 20230 Council of Economic Advisers

The White House

Washington, DC 20502

The Honorable Lawrence Lindsey The Honorable Paul H. O'Neill

The White House U.S. Department of Treasury

1600 Pennsylvania Avenue, NW 1500 Pennsylvania Avenue, NW

Washington, DC 20500 Washington, DC 20220

Dear Sirs:

Last week, a group of economists sent you a letter disputing some of the key points made in our letter of December 4.

While there are many assertions in their letter with which we could take issue, only two points need be made to rebut effectively their main arguments.

reached by MMssrs. Baumol, et al.

They state that, “the local networks of the Bells appear to be natural monopolies in all but the densest of areas.” The fact, In fact, with respect to broadband services, the local telephone carriers and the cable companies are engaged in a fierce rivalry for residential customers. Not only are the Bells not dominant in this market, they serve fewer than 25 percent of household subscribers, with cable providers accounting for over 70 percent of residential broadband connections. 

While we should all hope that the market for voice services becomes fully competitive in the future, our recommendations at this time go solely to deregulation of the broadband market, where competition from cable provides the Bells with very strong incentives to invest. And, we would note, it is broadband deregulation that is being debated in Congress and at the FCC.

The Baumol et al letter also argues that there is no evidence that regulation of broadband services slows investment, offering that regulated wholesale rates allow investors in advanced networks to recoup their capital. This view is incorrect. Both theory and evidence show that awarding rivals access to risky facilities at incremental cost reduces investment incentives for both incumbents and entrants. Indeed, cable television firms, including those arguing for regulation of their phone company rivals, make precisely this point with respect to “open access” rules, which they correctly point out would harm their ability to attract the capital needed to create advanced networks.

Consequently, Oour arguments stand., and can be refuted neither by ignoring obvious facts nor by changing the subject.

Again, we appreciate your attention to our views, and stand are prepared to address any further questions that may arise.

Respectfully,

Robert Crandall Jeffrey A. Eisenach

Senior Fellow President, The Progress &

The Brookings Institution* Freedom Foundation*

George Gilder Thomas W. Hazlett

Senior Fellow Senior Fellow

Discovery Institute* Manhattan Institute*

Lawrence Kudlow James C. Miller III

Chairman Counselor

Kudlow & Company* Citizens for a Sound

Economy*

William A. Niskanen Alan Reynolds

Chairman Senior Fellow

Cato Institute* Cato Institute*

c: Hon. Tom Daschle

Hon. Trent Lott

Hon. Dennis Hastert

Hon. Richard Armey

Hon. Richard Gephardt

Hon. Michael Powell

Hon. Kathleen Abernathy

Hon. Michael Copps

Hon. Kevin Martin

*Affiliations listed for identification only.