It Wasn't Broke—But It Needed Fixing


Chances are you've heard your share of telephone horror stories—el cheapo phones that break down, sharply rising local phone bills, not knowing whom to call when something goes wrong.

And no doubt you've heard these familiar laments, repeated at least monthly in newspaper editorials and columns: "We had the finest telephone system in the world. Why did they have to go and break it up?" and "If it ain't broke, why fix it?"

But the charge that today's rapidly changing telecommunications system is the result of the court-imposed breakup of AT&T is simply wrong. Two driving forces—the microchip revolution and 18 years of telephone deregulation—made a system much like today's virtually inevitable.

The microchip made possible vast improvements in telecommunications: switching systems that are computers rather than mechanical monsters, desktop computers that can communicate cross-country, a huge expansion in the availability of radio frequencies for mobile telephones (using computerized "cellular" systems). These changes made the arbitrary but long-standing legal separation between the computer business and the telephone business obsolete—unless we were to be denied all the benefits of the new technologies. But there was no way that existing political realities (that is, the antitrust laws) would permit this huge new business to be handed to a monopoly Bell System.

In parallel with the microchip revolution, competitors were already chipping away at Ma Bell's monopoly. Way back in 1968, a company named Carterphone won a court case which permitted telephone users to hook its equipment up to Ma Bell's lines. Soon thereafter, an upstart named MCI won its first of many legal battles to compete with Bell in providing long-distance service. Once competition in equipment and service was legalized, the old structure and cross-subsidized pricing were doomed.

There are two ways to price telephone services. One is to charge high rates to high-demand, easy-to-serve users and use some of the resulting high profits to subsidize low-demand, hard-to-serve users. This is the cross-subsidies model. The only way the high-demand users will sit still for it is if they're given no choice. That's exactly the position they'd been in ever since about 1913, when AT&T's Theodore Vail sold America's politicians the idea that phone service is a "natural monopoly" that should be provided by one huge regulated monolith.

The other alternative is cost-based pricing—what generally results when competition is allowed. When, for example, MCI and Sprint and other firms compete for the easy-to-serve long-distance customers, the competition drives prices down close to the (relatively low) costs of providing that service, leaving no extra profits to subsidize, say, rural users. So the latter have to be charged rates much closer to the real (higher) cost of serving them. Try as you might to mix the two systems, it simply can't be done. Competition, once permitted, dries up the revenues needed to cross-subsidize higher-cost users.

So regardless of whether or not AT&T had been broken up by a federal court order in 1982, we would today be seeing long-distance rates coming down, local bills (especially rural bills) going up, and such new forms of "user-pays" as charges for directory assistance and paying by the minute for local calls. And there is no real possibility of going back to the old, monopoly system. With the costs of "bypass" technologies such as satellite dishes and local fiber-optic loops continuing to plummet, more and more business users will be able to avoid using those portions of the phone system that attempt to charge the kinds of non-competitive prices needed to continue cross-subsidization.

All well and good, you may say, but what's in it for me? Why wasn't I better off before, with "the world's finest telephone system"?

Well, to begin with, take note of the huge variety of telephone equipment you can now buy from anyone—phones with built-in answering machines, portable phones, cellular mobile phones. You also have a choice of long-distance companies, at highly competitive rates. And coming soon will be all-digital service for accessing your favorite computer data service or bulletin board, and a whole host of shopping and information services available from either your local cable company or the local phone company, in heated competition.

At work, your firm is benefiting from unprecedented competition in equipment and services: PBX prices that have declined 30 percent over the past three years, a 50 percent drop since 1981 in the cost of key systems (smaller versions of PBXs), and central-office switching costs that have declined by 7–10 percent a year since 1980.

What this means for the American economy is seldom appreciated. Economist Michael Borrus of the Berkeley Roundtable on the International Economy points out that lower costs due to deregulation have led to US telecommunications usage per capita nearly twice as great as Japan's and two and a half times that of Europe. In fact, all the basic arteries of our society, through which flow goods (transportation), money (financial system), and information (telecommunications), are being opened up to competition (and thus lower prices and innovation). Japan and parts of Europe are far behind in this regard—France and West Germany don't permit any telecommunications competition.

In short, although we did have a telephone system that "worked," a continuation of monopoly and cross subsidization would have precluded today's robust, dynamic telecommunications free-for-all, which is giving us a system that is, more than ever, the envy of all the world.