TESTIMONY OF LARRY IRVING
ASSISTANT SECRETARY FOR COMMUNICATIONS AND INFORMATION
U.S. DEPARTMENT OF COMMERCE
AND DEREGULATION ACT OF 1995"
BEFORE THE SUBCOMMITTEE ON ANTITRUST, MONOPOLIES,
AND BUSINESS RIGHTS, COMMITTEE ON THE JUDICIARY,
UNITED STATES SENATE
MAY 3, 1995
Mr. Chairman and Members of the Committee:
Good morning. Thank you for this opportunity to testify before you today on the competitive implications of S. 652, the "Telecommunications Competition and Deregulation Act of 1995."
Congress has the opportunity this year to enact legislation that will open all telecommunications markets to vigorous competition; produce clear, flexible, and limited government regulations to ensure that such competition is robust and fair; and link the introduction of new products and services to producer initiative and consumer demand. Such legislation could accelerate the development of a National Information Infrastructure (NII) for all Americans.
The key test for any telecommunications reform measure is whether it helps the American people. Legislation should provide benefits to consumers, spur economic growth and innovation, promote private sector investment in an advanced telecommunications infrastructure, and create jobs. As your Subcommittee is well aware, only competition -- not monopolies -- will enable us to achieve these goals. Competition will provide consumers with lower prices, higher quality, and greater choice.
The Administration would support telecommunications reform legislation that protects consumers from monopolistic practices and promotes maximum competition. S. 652 as currently drafted, however, falls short of these goals. Instead, the bill could cause both cable and telephone rates to increase, and would lead to greater concentration throughout the telecommunications and media industries.
The Administration will continue to work with the Congress to ensure that telecommunications reform legislation promotes the advancement of a modern telecommunications and information infrastructure in a pro- competitive manner that benefits all Americans.
BENEFITS OF PRO-COMPETITIVE AND PRO-CONSUMER LEGISLATION
An advanced information infrastructure has the potential to improve everyday life for millions of people in this country. Telecommunications and information technologies are changing the way we work, educate our children, receive medical services, and communicate with our family and neighbors.
An example of the benefits of the NII is taking place in your home state of South Carolina, Mr. Chairman. My agency -- the National Telecommunications and Information Administration (NTIA) within the Department of Commerce -- is supporting a project there that will help the most rural counties gain affordable access to the state's developing information highway.
Affordable access to the state network will enable residents of these counties to have information at their fingertips about educational options, business opportunities, health and medical choices, and similar resources. The project is conducted by the South Carolina State Budget and Control Board in partnership with the Appalachian Council of Governments, the State Department of Education, and South Carolina Educational Television.
What is happening in South Carolina leads directly to the underlying issues being addressed at this hearing. The first is the need to achieve real competition in the telecommunications arena. The key to bringing down costs is competition -- bringing more players into the market. The more entities there are providing access to telecommunications networks, the lower costs will be as these entities compete for customers. Well crafted legislation that reforms outdated regulatory structures and supports entry of new competitors will enhance competitiveness, stimulate innovation, lead to lower prices for consumers, and spur the creation of good, new jobs.
As this Subcommittee is well aware, Federal action has been a key factor in bringing competition to the telecommunications arena for many years. The Department of Justice's breakup in 1984 of the former AT&T telecommunications monopoly, for example, contributed to the decline in residential long distance rates of as much as 50 percent over the past 10 years. Appropriately crafted Federal legislation could foster the same kind of competition today in the local telephone and cable markets.
We also need to ensure that our telecommunications policies are fully responsive to the needs of all Americans. As Secretary of Commerce Ron Brown has emphasized, we cannot "become a nation in which the new information age acts as a barrier, rather than a pathway, between Americans" -- a nation divided between the information rich and the information poor.
For this reason, the Administration strongly supports the goal of universal service, including access for classrooms, libraries, hospitals, and clinics to the NII, including in rural areas. Congress should also consider adding appropriate language to the bill that would prevent discrimination or "redlining" in the provision of telecommunications and information services.
ADMINISTRATION VIEWS ON S. 652
The Senate bill proposes reforms in several key areas that the Administration agrees need to be addressed. These include promoting universal service, prompt lifting of the statutory ban on telephone companies providing video programming directly to subscribers (the telco-cable crossownership ban), preempting state barriers to competition in local telephone service, and providing a process for reviewing the need for continuing regulation.
The Administration has, however, noted very strong reservations about other provisions in S. 652 that fail to protect consumers or ensure the development of real competition. These include primarily: (1) provisions that will lead to increases in cable rates; (2) the lack of restrictions on anti-competitive buyouts between telephone companies and cable operators; and (3) the absence of a strong role for the Department of Justice (DOJ) in assessing the competitive impact of Bell Operating Company (BOC) entry into the long distance market.
The Assistant Attorney General's testimony addresses the issue of DOJ's role as well as other antitrust issues, and includes the Administration's position paper on S. 652. Therefore, I would like to focus my remarks today on our concerns about cable rates and anti-competitive buyouts. I will also discuss other key concerns relating to the bill's broadcast ownership, video programming, and state regulatory provisions.
Potential Increases in Cable Rates
Expanded Basic Service Rates. The Senate bill would preclude the Federal Communications Commission (FCC) from reviewing any rate for cable programming services (commonly known as "expanded basic services") unless that rate "substantially exceeds the national average rate for comparable cable programming services." This so-called "bad actor" provision is unacceptable since it would allow noncompetitive cable operators to increase the national average for the expanded basic rate by simply increasing their own rates. The result would be substantial rate increases for consumers before actual cable competition exists.
The concern about this provision is exacerbated by the current ownership structure within the cable industry. Based on April 1994 statistics, the top five cable companies serve more than half of the nation's cable subscribers. The top two companies alone (TCI and Time Warner) control about 40 percent. In the past year, moreover, ownership concentration in the industry has increased, with four of the largest cable companies expanding their market share.
Given this ownership structure, the largest cable operators could easily manipulate national average rates to their benefit and the benefit of all other noncompetitive cable systems. If these cable operators raise their rates, there could be no "bad actors" under this provision, thus allowing cable prices to spiral upwards.
The provision also gives cable operators added incentive to move all programming other than local broadcast stations and public, educational, and governmental (PEG) channels from the basic tier to what will become a virtually unregulated expanded basic service tier. This could potentially lead to unchecked rate increases for as many as 90 percent of cable subscribers -- all those except the relatively few consumers who take the most limited package of cable offerings. To receive the same programming they receive today, most consumers would have to purchase the expanded basic service tier, where rates can automatically rise to substantially above the national average. The bill would, in effect, leave rate regulation in place just for cable carriage of over-the-air broadcasting, which most consumers can receive for free anyway.
New Definition of Effective Competition. The bill would also amend the Cable Act to declare that a cable system faces "effective competition" as soon as a telephone company begins offering video programming services directly to subscribers within the cable system's franchise area. This provision would deregulate cable systems upon the mere potential of competition from a telephone company, without regard to whether such competition really exists on any significant scale. Deregulation would occur regardless of whether the telephone company's services are comparable to those offered by the cable system or whether such offerings are viewed by a significant number of consumers as an acceptable substitute for cable.
The 1992 Cable Act already establishes a standard for determining when a competing multichannel video provider should be deemed to provide effective competition to an incumbent cable system. Specifically, to meet the effective competition standard under current law, providers must offer comparable programming to at least 50 percent of the homes in the cable franchise area and be subscribed to by at least 15 percent of households in the franchise area.
Under S. 652, however, a telephone company would be deemed to provide effective competition if, for example, it offers only a few pay-per-view channels that are not subscribed to by consumers in any significant way. Moreover, under these circumstances, neither the telephone company (as the new entrant) nor the incumbent cable operator would be subject to rate regulation. The Committee Report on S. 652 offers no rationale for such starkly differential treatment of telephone companies versus other multichannel video providers.
The 1992 Cable Act was based on the sound principle that rate regulation will be eliminated in markets where there is effective competition. In contrast, premature deregulation without the disciplining effects of such competition will harm consumers.
In sum, the bill's expanded basic service rate and effective competition provisions will allow cable operators to increase rates dramatically before actual competition is in place. This rush to deregulate cable operators is difficult to justify in view of the relevant facts.
Congress' regulation of cable rates in 1992 was prompted by extraordinary cable rate increases in the preceding years. According to surveys conducted by the General Accounting Office in 1989, 1990, and 1991, cable price increases were on the average three times the rate of inflation. In the three years after 1986, when widespread cable deregulation went into effect, 80 percent of subscribers for both the basic tier and the most popular tier of service saw their cable bills increase by more than 20 percent.
In contrast, the FCC estimates that as a result of the 1992 Cable Act, consumers have saved $2.8 billion through rate reductions as of December 1994. In addition, the upward trend in cable rates, which had been about three times the rate of inflation prior to the 1992 Cable Act, has now been limited to inflation plus a formula-based percentage profit for the cable operators.
The years following passage of the 1984 Cable Act demonstrated the perils of deregulating on the promise of potential competition rather than the existence of actual competition. We should not repeat that experience.
Although the cable industry claims that it has been severely hindered by excessive rate regulation, the facts suggest otherwise. According to industry analyst Paul Kagan Associates, Inc., multiple system operators' (MSO) stocks continue to outperform the Standard and Poor 500. Electronic Media, a major trade publication, noted that cable systems' operating margins generally increased over the past five years. In 1993, 14 new cable channels were launched. In 1994, 25 new channels were launched. Launch plans for 1995 include 63 new channels.
In addition, subscribership numbers demonstrate that cable is still the dominant provider of subscription-based video programming in the United States, and that other providers are far behind. In 1994, the number of subscribers to the top 100 MSOs grew by about 5 percent -- almost 3 million additional customers in one year -- adding to a base of approximately 60 million subscribers.
In contrast, direct broadcast satellite (DBS) has fewer than 1 million total customers; wireless cable about 600,000 customers; and C band home satellite dishes about 4 million customers. Telephone company provision of video dialtone (VDT) has not even started on a commercial basis. According to the FCC, even if all the telephone company applications to provide VDT were approved, that would only cover 8 percent of households in the United States.
A better way must be found to balance the cable industry's desire for more pricing and service flexibility with the overriding need to protect consumers from excessive rate increases. Legitimate concerns about the 1992 Cable Act, for example -- such as the effect on small cable systems and the burden imposed by administrative and paperwork requirements -- should be addressed. The Administration has indicated its willingness to work with Congress and industry to minimize the burden of government regulation without sacrificing cable subscribers. We will not, however, support deregulation of monopolies before the arrival of actual competition. As long as monopolies continue to exist, consumers must be protected.
Lack of Restrictions on Anti-Competitive Buyouts
The Senate bill also fails to impose any limits on the ability of a telephone company to buy out a cable company in the telco's local service area and vice versa. As a result, telephone companies and cable operators would be able to eliminate their most likely competitor in the provision of video programming and local telephone service. This lack of head-to-head competition will result in higher prices and less choice for consumers.
Just as local telephone companies are on the verge of breaking into the video programming market, local cable companies -- whose networks pass 96 percent of U.S. homes --are well positioned to provide wireline local telephone competition. By allowing anti-competitive buyouts between these two entities, S. 652 would undermine the universally accepted objective of increased competition in both the video service and local telephone markets.
Consumers will be hurt by the lack of an anti-buyout provision in telecommunications reform legislation in three ways. First, consumers would be deprived of the lower cable and telephone prices that would result from two-wire competition. Second, cable operators and telephone companies would have less incentive to invest in infrastructure and the development of new and innovative services. Third, the lack of additional distribution systems would result in fewer distribution outlets, leading to less diversity in programming options.
Some have argued that an anti-buyout provision is not necessary because current antitrust law would provide sufficient scrutiny in this area. As noted in the Assistant Attorney General's testimony, however, antitrust enforcement alone will not necessarily stop anti-competitive in-region telco/cable mergers.
First, cable operators and telephone companies are "potential competitors," while antitrust case law today focuses mostly on actual competition. Accordingly, judicial precedents may not necessarily prevent acquisitions based on such "potential" competition. Also, given the large number of cable operators (each a possible subject of an anti- competitive buyout), the antitrust authorities could be inundated with anti-competitive mergers. Such litigation could unduly tax our already over-extended judicial system. An anti-buyout provision is thus essential in any telecommunications reform bill to prevent telephone companies and cable operators from merely substituting one monopoly for another.
The Administration has consistently recommended that Congress adopt a strong anti-buyout restriction on acquisitions and joint ventures between telephone companies and cable systems in the telcos' local service area. We agree that a limited exemption to the anti-buyout provision could be allowed in rural areas -- for example, communities with a population under 10,000 - since such areas might not be capable of supporting two wire-based competitors. Another possible approach might be for a situation where "economic distress" could be shown. We also support giving the FCC authority to review the need for an anti-buyout provision after five years, taking into consideration the effect on competition, consumer welfare, and infrastructure investment.
The bottom line, however, is that S. 652 must contain an anti-buyout provision to prevent telephone companies and cable operators from merely substituting one video services monopoly for another, or from eliminating a potential local telephone exchange competitor. Restricting anti-competitive buyouts at the outset will help promote the kind of facilities-based competition between telephone companies and cable operators that the American people deserve -- competition that has the potential to deliver substantial benefits to consumers and provide powerful incentives for private sector investment in advanced local infrastructure. Without an anti-buyout provision, however, the bill just invites consolidation of power by multimedia monopolies, and discourages critical competition in the video services and local telephone markets.
Other Competitive Concerns
The Administration has laid out its concerns with numerous other provisions of S. 652 in our position paper. The Assistant Attorney General's testimony includes a discussion of many of those issues, including concerns regarding the standards for interconnection, Bell Operating Company entry into the long distance market, and provisions that would deprive States of needed flexibility as they open their telecommunications markets to competition. I would also like to discuss a few areas of particular concern relating to proposed changes in the structure of the communications industry.
The issue I raised above regarding the consolidation of power in the communications industry that could be caused by the lack of an anti-buyout provision is compounded by other provisions in the bill that could significantly alter the shape of the communications industry. Tremendous changes are already taking place in the communications marketplace. Considering that the telecommunications and information industries represent more than nine percent of this Nation's Gross Domestic Product (GDP), the effect of the additional changes being proposed by S. 652 could be dramatic.
Well-crafted legislation is needed to eliminate archaic rules and old structures that hinder competition and innovation. The rush to radically alter the structure of the industry in a flash cut, however, could undermine the equally important goals of encouraging diversity of ownership and safeguarding against undue concentration of economic power.
Broadcast Ownership. In the broadcast area alone, S. 652 would, all at the same time: 1) relax limits on the percent of the national audience one broadcast owner can reach; 2) allow cable operators to buy local broadcast stations in their franchise areas; 3) extend the term of television and radio licenses while also limiting license review; and 4) allow broadcasters flexibility to use their spectrum for non-broadcast services. As a result, existing communications and media owners would have the ability to concentrate their control and discourage potential competitors from entering the market.
S. 652 would allow, for example, one company concurrently to own the local telephone system, the cable operator, and the largest broadcast station in a particular market. Such concentration of control of local telecommunications and media sources is inconsistent with the long-held goal of seeking to promote diversity of information sources for Americans.
The FCC is already gathering extensive data to determine whether certain broadcast and cable ownership provisions should be modified or eliminated. The uncertain impact of the move to digital compression and other technological advances argue for deferring to the FCC's determinations in these matters, to ensure that the FCC has adequate opportunity to study the implications of these changes for the industry as a whole.
Video Programming. Concerns regarding concentration of ownership also are increasingly important where control over programming is allowed. This issue arises with S. 652, which allows telephone companies to offer video programming as conventional cable systems (as opposed to requiring them to provide a common carrier video dialtone (VDT) platform for unaffiliated programmers). Economists have long recognized the competitive problems that arise when the owner of a transmission facility can control the messages that can be transmitted over that facility. Allowing a facility owner to become a content "gatekeeper" creates the potential for increased rates to consumers and discrimination in the choice of programming offered.
In addition, the bill does not require telcos to establish separate subsidiaries when providing video programming services. This increases the incentive for telco providers to cross-subsidize between the provision of video programming and regulated telecommunications services.
We therefore strongly recommend that the video programming provisions of S. 652 be amended in two ways. First, the bill should require telephone companies to provide common carrier VDT facilities to unaffiliated programmers. This would ensure that unaffiliated programmers have ample opportunities to market services directly to subscribers, with the related benefits of lower prices for consumers, more programming choices, and improved customer service.
Second, video programming services should be offered by telcos through a separate subsidiary, as the bill requires for telco provision of other "competitive" services such as long distance, manufacturing, and information services. A separate subsidiary requirement for video programming services would help ensure detection of cross-subsidies that could unfairly raise costs for telephone ratepayers.
Foreign Ownership. Other structural changes in the industry that the bill would effect include the level of foreign ownership of common carrier radio licenses. The Administration agrees that Section 310(b) restrictions on foreign ownership in such licenses should be lifted for countries that have also opened their telecommunications markets to U.S. companies. The current legislation, however, fails to specify the Executive Branch's role in determining whether the foreign ownership restrictions should be lifted for a particular country.
The Administration feels strongly that the legislation should be amended to require the FCC, in making 310(b) determinations, to exercise great deference with respect to the Executive Branch's broad statutory authority and expertise in matters relating to U.S. national security, foreign relations, the interpretation of international agreements, and trade (as well as direct investment as it relates to international trade policy). The FCC also should continue to take into account the Executive Branch's views and decisions with respect to antitrust and telecommunications and information policies.
Preemption of State Regulation. Finally, I would like to note the Administration's concern about certain provisions of S. 652 that would deny the States the ability to apply certain rate regulation schemes. States need flexibility to explore which forms of regulation best protect consumers in markets that are not yet fully competitive. Mandating that certain rate regulation schemes cannot be applied irrespective of the local market situation could lead to higher telephone rates for consumers. Compounded with the effect of the bill's cable deregulation provisions, consumers could be significantly harmed if S. 652 were enacted as currently drafted. Congress can certainly set alternative price regulation as a goal for States to meet as competition develops, but should allow States adequate flexibility in reaching that goal.
Mr. Chairman, as you know, telecommunications reform legislation is a major undertaking. It is extremely important that we take this opportunity to "get it right," not only for the benefit of our own country, but also for other countries that are watching us as a possible model as they open their own telecommunications markets to greater competition.
While the Administration has serious concerns about S. 652, I remain convinced that if we work together, Congress, the Administration, and the many other interested parties can forge telecommunications reform policy that promotes the objectives to which we are all committed -- competition, consumer welfare, investment, and reduced government regulation. Thank you again for the opportunity to testify, and I will be happy to answer any questions.