Robert W. Crandall and Leonard Waverman
Brookings Institution Press, 2000
Started 7/17/02
Completed 7/22/02
The authors essentially dismiss the network effect of universal service. The classic network law was stated by Eric Metcalfe (founder of 3Com as well as inventor of Ethernet) that the value of a network increases exponentially with each linear addition. If this law is applicable to phone service, and I think it is, the externalties associated with signing up the last customer are very large.
A couple of chapters are devoted to showing how cheap phone service is and how price inelastic it is. The conclusion is even with higher prices, there will be very little dimunition in penetration rates and little impact on the network externality. However, this is not true if the network externality is large and if the price increase is large, as the authors indicate later it would be, the estimate of inelasticity is too low, since those estimates are based on current prices, not prices twice todays.
The authors start as a given that it costs more to serve rural and residential customers relative to revenues received. But their evidence is contradictory. On pg. 108 cost estimates for providing local service are presented. (It looks as if the estimates are based largely on population density). The fact that there is such a wide difference in cost-based models (hi density lines in CA "costs" estimated from $9.61 to $20.03 per month and lo-density lines from $106 to $275 per month; ) leads me to believe none of the numbers are reliable. The sources of the estimates after all are the local and long distance companies, each with a very large axe to grind. In addition, since in a network there is such a great degree of shared costs, parsing out those costs related to a particular sub-set of the whole strikes me as dangerous. Also the cost estimates for low-density seems to support the need for universal service subsidies, although the authors imply rural consumers would willingly pay up to $275 per month for local service.
The price difference between residential and business users is presented as prima facie evidence that business lines subsidize residential lines. I disagree. Price discrimination is a normal practice for a monopolist as well as other businesses like airlines and colleges. I think the phone companies have used this thought process to effectuate price discrimination. In addition there is more to cost than population density, for instance over-subscription ratios. Businesses use phones more than residences, and require more switching capacity as well as backhaul capacity than a residential customer. There is more than just distance from the wire center as the determinant of costs.
The authors also make the argument that CLECs going almost exclusively after business customers means business customers pay a much higher price relative to costs. This may be true, but it also could reflect resource allocation of the CLECs and going after high-population density areas in order to have a greater chance of recouping their investment.
What is also interesting to me, is the authors, when discussing the Internet claim distance has no impact on costs, while it does for the local loop. why is this? what is different about the internet, in its architecture, that suggests this conclusion?
The main thrust, that universal service is a waste, I agree with. That local rates are too low, I am not convinced.
And why is it I read this book and can't help thinking the ILECs paid for it and that the authors are wholely-owned subsidiaries of the phone companies.?
What is more distressing is I found this book from either from a Court decision or an FCC order. Since Harold Furchtgott-Roth (current FCC commissioner) was with Brookings, maybe I shouldn't be surprised. But it seems the incestuous relationship in Washington, rather than encouraging debate, stifles it.
What will be the real issue, in my mind, is increasing traffic over the Internet will pressure universal service contributions from long distance. In addition, as the Internet becomes an alternative distribution technolgoy for voice communciations, the incumbent phone companies will face greater and greater pressure on their businesses.