Statement of Reed E. Hundt Chairman Federal Communications Commission Before the Committee on Commerce, Science, and Transportation United States Senate on S. 1822, the "Communications Act of 1994" and "Telecommunications Equipment Research and Manufacturing Competition Act of 1994" February 23, 1994 Introduction Mr. Chairman and Members of the Committee: It gives me great pleasure to appear before you today to testify on S. 1822. This is my first appearance before the Committee since my confirmation. I am very gratified that the President nominated me, this Committee unanimously recommended my confirmation, and the Senate confirmed me as chair of the Federal Communications Commission ("Commission" or "FCC"). I am privileged to serve in this position during these very momentous times in our ongoing communications revolution. I am particularly pleased to have an opportunity to appear before this Committee at the outset of its hearings on S. 1822. If enacted, this bill would implement the first comprehensive revision of the Communications Act since its passage 60 years ago. The scope of this bill and the potential benefits that it offers to all Americans are a tribute to your progressive leadership, the bipartisan support of Chairman Inouye, Senator Danforth, and the other co-sponsors, and the enormous amount of work that you and your staff have done in developing this legislation. S. 1822 embodies a vision of a new era of innovation and growth for what may be the most important sector of our economy in the next century. This bill seeks to introduce competition in telecommunications markets currently dominated by a single service provider and to increase competition in markets already served by more than one firm. At the same time, the bill reaffirms our national commitment to universal service in order to ensure that all Americans can participate in the information economy. The means to these ends chosen by you, Mr. Chairman, and the other authors of this bill is a commitment to a carefully monitored and regulated transition from currently non-competitive markets to competitive markets. This crucial transition will protect consumers from unreasonable prices as competitive markets develop. S. 1822 seeks to create a flexible and adaptive regulatory model that is likely to promote substantial investment and lead to economic growth and job creation. I commend you, Mr. Chairman, and the other authors of this legislation for your comprehensive approach to the difficult policy questions that this bill addresses. I am also very encouraged, Mr. Chairman, that President Clinton and Vice President Gore have endorsed the same goals of enacting telecommunications reform legislation in order to promote private investment in the nation's telecommunications infrastructure while ensuring access for all. In his State of the Union address, the President called on Congress to pass such legislation this year. President Clinton stressed that revitalizing the national telecommunications infrastructure will increase productivity, help us to educate our children, improve the provision of heath care services, and create jobs. The President also joined with the Vice President in calling on the country to meet the goal of connecting every classroom, hospital, and library to the national information infrastructure by the year 2000. Mr. Chairman, I believe that the President and Vice President share with you and the other authors of this legislation a common vision of the potential benefits that our national information infrastructure offers and a common commitment to making those benefits a reality for all Americans. I applaud that vision and commitment and I am excited by the challenge that lies before us. S. 1822 recognizes that the current phase of the telecommunications revolution represents a transition to a new telecommunications world in which the average consumer will be able to choose among competing suppliers of local, long distance, video and wireless telephone services. In managing that transition, we in government at the federal and state levels should seek to promote competition wherever and whenever possible and to enhance access to competitive markets for consumers and providers of services and products. At the same time, we must continue to exercise regulatory supervision over telecommunications markets that are not -- or not yet -- competitive in order to replicate, as nearly as possible, the results that a competitive market would produce. Some have argued that the promotion of competition in all telecommunications markets, including the local telephone market, is inconsistent with our historic commitment to universal service. I disagree. The principal goal of universal service is to ensure the availability of telephone service at reasonable rates to all Americans. A competitive marketplace is the best way to foster lower prices. Competition creates incentives for service providers to reduce both their cost of furnishing service as well as the prices charged to consumers. Competition also fosters technological innovation and the development of new services. At the same time, opening new telecommunications markets to competition, including the local telephone market, and the entry of new service providers into these markets will require the Commission to review and revise current universal service policies and regulations, including financing mechanisms. Existing universal service policies and programs were developed when the local telephone market was considered to be a natural monopoly. The emergence of competitive access providers and the prospect of even greater competition in the local market from new wireless services and cable television operators are part of the growing evidence that undermines the assumption that local telephony is a natural monopoly. Consequently, new universal service policies will be needed to achieve the public interest objectives in a manner that does not distort efficient investment or competitive markets. This bill recognizes the need for such a comprehensive review and directs the Commission to commence it promptly after enactment. Of course, telecommunications markets that have been dominated by a single firm for many years do not mature into competitive markets overnight simply by the removal of entry barriers. The transition to effective competition must be managed and supervised by the FCC and state regulators who are charged with ensuring that the rates that consumers pay for service remain just and reasonable. That is what the FCC has been doing for many years in managing the development of competition for telephone equipment and interstate long distance services and what we are now doing in conjunction with local franchising authorities with respect to the cable television market. The changes that have occurred in the telephone manufacturing and sales, and long distance markets over the past 30 years provide an instructive example of the benefits to American consumers that can result from properly managing the transition to competition in a telecommunications market. When I was growing up, the telephone was a black, rotary dial instrument that was owned by the telephone company and was considered part of the telephone network. Beginning with the Hush-a-phone case in the 1950's and the Carterfone case in the 1960's, regulation of the customer premises equipment ("CPE") market was gradually relaxed until the FCC eventually deregulated this business and unleashed the forces of competition. Today, the benefits of competition in the CPE market are tangible. Consumers can buy telephones of all shapes, sizes and colors with a bewildering array of features and functions. They can buy telephones with built-in answering machines, telephones with memory, telephones with speed dialing, and cordless telephones. Since deregulation, prices for this equipment have fallen, and as prices declined, sales increased. Sales of cordless telephones, for example, increased from approximately 4 million units in 1985 to 9 million units in 1992. Competition in telephone equipment has given businesses the ability to purchase their own private branch exchanges, or PBXs, which enable an office, in effect, to operate its own internal telephone network and to link remote locations in a single system. Competition has also led to the widespread availability of facsimile terminals. The purchase of fax machines soared from 137,000 in 1986 to 3.5 million in 1992, while the installed base of this equipment grew from 300,000 terminals in 1986 to 10.7 million in 1992. The long distance market has also benefitted from competition. Initially, the new entrants in this business were hampered by AT&T's control over the local telephone networks that its competitors needed to reach consumers. AT&T's practices in the long distance (and equipment) markets caused the Department of Justice to file an antitrust suit against AT&T in 1974. That litigation culminated in 1982 in a consent decree, known as the Modification of Final Judgment ("MFJ"), that led to the break-up of the old Bell system in 1984. The divestiture of AT&T was the seminal event in the development of a truly competitive long distance business. Since 1984, Judge Greene has done an able job in enforcing the MFJ to ensure that providers of long distance service compete on a level playing field. During the past 10 years, the Commission has played an important role in assisting the efforts of the court to increase competition in long distance. The FCC, for example, developed and implemented a system of non-discriminatory access charges that permits competing long distance companies to use the local telephone system to originate and terminate their long distance calls. This system requires the Regional Bell Operating Companies ("RBOCs") and other local exchange carriers to provide access to the local telephone network on a non-discriminatory basis to all long distance companies. The Commission also oversaw implementation of the technological changes to the RBOCs' local networks that enable consumers to select their carrier for "1+" interstate long distance service instead of being forced to use the incumbent monopoly carrier. Although the MFJ required the RBOCs to offer this "equal access" service, the Commission extended a similar requirement to non-Bell companies located in markets that competing long distance providers wished to serve. Today, there are approximately 400 interexchange carriers, both facilities-based and resellers. Since 1986, the number of carriers serving 45 or more states has grown from 2 to 9. The total long distance market has grown from $38.8 billion in 1984 at the time of divestiture to $59.4 billion in 1992. The introduction of long distance competition has been accompanied by substantial reductions in toll rates. For example, the price of a 10 minute daytime call from Chicago to Atlanta, expressed in 1993 dollars, was $6.28 in 1984; today that same call costs only $2.30. Consumers responded immediately to this decline in rates. In 1985, AT&T carried approximately 133 billion of the total 167 billion minutes of interstate usage. Over the next eight years, AT&T's market share steadily declined from over 80% to 60%, but its traffic volume grew by about 60% to 212 billion minutes and the volumes of its competitors increased more than four-fold to 138 billion minutes. The remarkable increases in long distance calling since divestiture reflect two of the principal benefits that competition in the telecommunications industry has produced over the past decade: declining prices and increased usage of our telecommunications network. The more competitive telecommunications environment has also led to an expanding array of new long distance calling plans and services for consumers. Economic growth in the telecommunications industry over the past decade has contributed significantly to improving consumer welfare in this country and has played an increasingly larger role in the overall domestic economy. In 1982, the telecommunications equipment and services sector generated approximately $94.6 billion ($143 billion in 1993 dollars). By 1993, that figure had grown to $171.9 billion. The growth in the communications and information sector as a whole over this period also has been impressive. In 1982, the total sector generated approximately $317 billion; $478 billion in 1993 dollars. By 1993, the total sector amount had grown to about $718 billion. The history of the CPE and long distance markets over the past decade shows that competitive markets serve the interests of consumers by creating strong economic incentives for product and service providers to reduce their costs, lower their prices, promote technological innovation and respond quickly to changing consumer demand. The FCC played a critical role in the evolution of both these markets by removing regulatory barriers to entry by new competitors and taking steps to ensure that consumers would have access to competing service providers. The emergence of competition in these markets was accompanied by a gradual relaxation of the Commission's regulatory controls. In the case of the long distance market, certain of AT&T's services, most notably basic Message Toll Service used by residential subscribers, remain subject to greater regulatory supervision than other services, such as 800 service, because of concerns that competitive forces alone may not be adequate to protect consumers. We intend to follow the same policy of promoting competition while maintaining close regulatory supervision over markets that are not yet competitive in carrying out our responsibilities under the 1992 Cable Act. The goals of efficient competition and economic growth should continue to guide the development of our policies for regulating telecommunications common carriers and cable television systems. The reform legislation that you have proposed, Mr. Chairman, will furnish the Commission with additional regulatory tools to further those objectives. As this bill recognizes, however, those goals should not and need not be promoted at the expense of important social objectives. Various segments of the telecommunications industry -- telephone companies, long distance companies, competitive access providers -- support reform of our existing telecommunications laws because they believe that it will advance their commercial interests. The role of the FCC, in my view, is to support legislative initiatives that also will serve broader, public interest objectives. This bill represents such an initiative because it charges the FCC with promulgating rules that will enhance the accessibility of classrooms, health-care facilities and libraries to advanced telecommunications services. Promoting the widespread accessibility of such services to students, health-care professionals and their patients, and the general public is sound public policy. Accomplishment of that objective offers the promise of enduring benefits that would result from a better-educated workforce, nationwide access to advanced health-care services, and public accessibility to a wide array of information services, including government services. I also think it important that this goal is established at a time when much of the design of the network needed to provide these services is still in the planning stage. I believe that the cost of achieving this objective will be significantly reduced if it is included as part of an overall plan for delivering advanced telecommunications services to the public. In sum, Mr. Chairman, this bill addresses three essential aspects of the reform of our telecommunications laws. The bill returns to the Congress principal responsibility for formulating national telecommunications policy. It furnishes the Commission with the legislative mandate necessary to open markets that have been dominated by a single provider and to foster competition in those markets, while ensuring that consumers are protected during the transition. And it makes explicit this nation's commitment to ensuring that all Americans share in the benefits that the emerging information economy will offer. S. 1822 I. Local Exchange Competition Entry I applaud S. 1822's objective of promoting competitive entry into the market for local exchange and exchange access services. The local network is almost the only telephone market today that continues to be dominated by a single provider. The advent of new, wireless technologies, such as Personal Communications Services ("PCS"), the growing presence of competitive access providers, and the expanded capabilities of cable systems create the potential for an effectively competitive market for local telephone service. S. 1822 would eliminate governmental barriers to entry into the local market that would undermine the development of competition for local services. The removal of these barriers should foster the continued development and deployment of advanced, reliable technologies. New entrants can be expected to both utilize and compete with the service offerings of the local telephone companies. The introduction of competition for local services on a broad scale also will create strong incentives for competing firms to increase the pace of technological innovation, develop new services, and reduce their cost of providing service. All of these efforts will contribute to economic growth by stimulating demand for telephone service. Safeguards S. 1822 correctly recognizes the need for safeguards to ensure that new entrants can interconnect their facilities with the existing local networks. Although Section 201 of the Communications Act of 1934, as amended, currently empowers the Commission to order common carriers to offer interconnection to other carriers, the bill's explicit treatment of reasonable non- discriminatory access and interconnection issues properly highlights their importance in a world of many facilities-based telecommunications service providers. Interconnection and interoperability are essential to the full realization of the benefits that vigorous competition in the local exchange market can produce. S. 1822's proposal to require exchange carriers to offer interconnection at any point that is "technically and economically feasible" establishes a workable standard for the FCC to apply in formulating regulations to govern interconnection arrangements. Many of the issues identified in S. 1822 related to unbundling, access, and interconnection, however, involve considerable technical complexity and implicate network reliability and integrity concerns. We would be pleased to work with the Committee staff in refining and clarifying these sections of the bill. Regulatory Flexibility I am pleased that the bill gives the Commission forbearance authority. The Commission's exercise of its limited existing forbearance authority under Title II has produced substantial benefits. The permissive detariffing policy contributed to the development of a competitive long distance market, and more recently to the emergence of competition for access services. I share the view expressed in S. 1822 that inter-carrier compensation arrangements and flexible regulation for non- dominant and, at the appropriate time, formerly dominant carriers will be critically important to fostering local exchange competition. New carriers entering the local market to compete with incumbent telephone companies need the discretion to package and price their service offerings so that they are attractive to potential customers. By the same token, as competition increases the incumbent telephone companies will require pricing flexibility to respond to competitive offerings. This legislation would grant the Commission the discretion necessary to manage this transition. Preemption Another merit of S. 1822 is that it would authorize the FCC to preempt any state regulation of entry or state policies that restrict the exercise of interconnection or access rights provided by the bill or the FCC's implementing regulations. I think it would be advisable to extend preemption to inconsistent state rate regulation requirements. Rate regulation of non- dominant service providers may hamper their ability to compete effectively with the incumbent carrier. By the same token, continued rate regulation of previously dominant carriers may prevent the local market from becoming effectively competitive. II. Universal Service Enthusiasm for promoting new competitive markets and encouraging new technologies and services must not distract our attention from the critical task of ensuring that all Americans have access to basic telephone service. Currently, approximately 94 percent of all American households have telephones. That is an impressive, but not completely adequate, achievement: almost 6 million households do not have active telephone service. Furthermore, a disproportionate percentage of households without active telephone service are low-income, particularly African- Americans and Hispanics. The continued deployment of new telecommunications technologies capable of delivering a wide range of advanced services will require the FCC and the states to address on an ongoing, evolving basis whether access to basic dialtone (voice grade) service should continue to be the only goal of universal service. I share the authors' view that it is imperative to redefine the term "universal service" periodically over time, as technology advances. In my view, the FCC and the states must work together to formulate and administer a consistent, national universal service policy. S. 1822 assigns to the states the "primary responsibility for defining universal service." It may be worthwhile to consider, in particular, whether this approach is the most effective for establishing a national universal service policy and, more generally, what the respective roles of the FCC and the states in this process should be. In addition to embracing an evolving definition of universal service, it is also quite appropriate for the bill to impose the obligation of contributing to universal service "on a competitively neutral basis." This principle is fair and consistent with promoting competition and efficiency. As I discussed earlier, I share the view of the authors that telecommunications has a vital role to play in the education of our children and the provision of high quality health care services. I applaud the provisions of the bill that direct the FCC to promulgate rules that will "enhance the availability of advanced telecommunications services to all public elementary and secondary school classrooms, health care institutions, and libraries." III. Modification of Final Judgment The MFJ prohibits the RBOCs from engaging in certain telecommunications businesses, most notably the provision of interLATA interexchange services and the manufacturing of telecommunications equipment. Initially, the decree also barred the RBOCs from providing information services, but the court eliminated this prohibition in 1991. Since the divestiture of AT&T in 1984, the structure of the interexchange and equipment markets has changed substantially. Although AT&T continues to control by far the largest share of the interexchange market, there are now hundreds of domestic interexchange carriers. Further, over the past decade MCI and Sprint have become established nationwide competitors. Competition in the telecommunications equipment market also increased during this period, as the RBOCs and other exchange carriers substantially increased their purchases of switching and other equipment from non-AT&T suppliers. Moreover, the development of effective competition in the local telephone market, as contemplated by S. 1822, would limit the incentives and ability of the RBOCs to engage in cross-subsidization. In light of the changes over the past 10 years, I agree with the authors of S. 1822 that the time has come to develop a plan for lifting the remaining MFJ line-of-business restrictions and returning primary responsibility for regulating the practices of the RBOCs to the FCC. I also agree with the authors of this bill that any plan for removing these restrictions must provide adequate safeguards to preclude the RBOCS from using their existing market power in the local exchange to undermine competition in the markets they seek to enter. RBOC Entry into Interexchange Services I support the objective of allowing the RBOCs, over time and subject to appropriate safeguards, to provide interexchange services. With their capital resources and technical expertise, the RBOCs have the capability to increase the competitiveness of this market. Consumers of long distance services would be the principal beneficiaries of increased competition in this market. The bill establishes different standards for assessing RBOC entry into interLATA interexchange services within and outside of the areas that they furnish local exchange services. I agree that the risk of anticompetitive discrimination and cross- subsidization by these companies may be greater in their service territories than in areas outside of their operating regions. The RBOCs continue to control the local exchange bottleneck that long distance companies need to reach their customers. Moreover, the RBOCs may use the same trunking and other plant and facilities for long distance service that they use for local exchange and access services. Joint use of these facilities potentially could increase the risk that an RBOC might attempt to cross-subsidize its entry into long distance by assigning costs associated with interexchange service to local exchange ratepayers. These concerns are diminished significantly in my view if the RBOC provides long distance service outside of its region, whether over the facilities of an unaffiliated company or over facilities used by an affiliated company to offer cable television service or wireless services. Mergers between RBOCs and out-of-region cable companies or wireless services have the potential to advance competition in the local exchange. Allowing an RBOC to use out-of-region facilities owned by an affiliated company for the provision of long distance service could promote the use of the same facilities for local service as well, providing competition to the local telephone company in that area. Moreover, although the risk of anticompetitive behavior outside of an RBOC's operating territory may be significantly lower, S. 1822 would still require prior approval by the FCC before an RBOC would be permitted to offer out-of-region interLATA services. I believe that it is appropriate for this legislation to exempt from the general restriction against interexchange services certain services that are clearly "incidental" to other services that the RBOCs are permitted to provide. Judge Greene granted waivers for several of these types of services over the past 10 years. As a result, for example, RBOCs currently are authorized to provide cellular service in various areas that cross LATA boundaries. In view of the continuing evolution of technology and changes in telecommunications markets, I would suggest that the Committee consider whether the FCC should be given authority to identify other "incidental" interexchange services that the RBOCs should be permitted to provide. RBOC Entry into Manufacturing I also support S. 1822's objective of permitting the RBOCs to engage in the manufacturing and provision of network equipment, and the manufacturing of CPE, subject to effective and appropriate safeguards. RBOC entry into these markets can enhance competition, promote continued technological innovation in CPE and other equipment, and foster lower prices. Further, their direct involvement in research and development should facilitate the production of equipment that is suited to each company's requirements and improve network reliability. Entry of the RBOCs into manufacturing, subject to appropriate safeguards, should benefit both consumers in the equipment market as well as the U.S. economy generally. From telephones, to fax machines, to wireless cellular telephones and pagers, telecommunications equipment has become a ubiquitous presence in our lives. Consumers throughout the United States, residential and business, urban and rural, would gain from the additional competition that the RBOCs could provide in these markets. The additional economic activity spurred by their entry should benefit the economy as a whole. Our experience with long distance telephone service and CPE has shown the tangible benefits to the economy and consumers that arise with more competitive markets. I believe consumers will realize similar benefits in telecommunications equipment markets with the passage of this legislation. As product and geographic markets develop and change, however, it may be necessary for the FCC to adopt regulatory safeguards that will protect consumers and competitors against anticompetitive practices without hampering the ability of the RBOCs to compete. Generally, I believe that it would be wise to confer upon the Commission appropriate regulatory tools to accomplish the legislative goals of safeguarding competition and consumers. I believe that the Commission can and should be able to meet these goals under changing economic circumstances by flexible implementation of both structural and especially non- structural safeguards. Because the RBOCs currently are permitted to provide (although not manufacture) CPE, the Commission has enacted regulations designed to reduce the ability of the RBOCs to engage in anticompetitive practices in this market. The Commission's Part 68 rules govern the compatibility standards between the network and CPE. The "no harm to the network" standard for compatibility has contributed significantly to making the CPE market robustly competitive. In addition, the Commission has imposed a series of nonstructural safeguards to protect against discrimination and cross-subsidization. Specifically, the Commission has adopted unbundling, network disclosure, and non- discrimination reporting requirements on the RBOCs, as well as comprehensive accounting regulations. The significant competition already present in current telecommunications equipment markets provides an additional safeguard to discipline the behavior of the RBOCs. As competition among communications equipment suppliers continues to evolve into a global market, the potential for the RBOCs to cause anticompetitive harm will diminish as well. IV. Competition in the Multichannel Video Distribution Market Entry The market for multichannel video distribution is dominated today by cable television providers and I think everyone agrees that this market should be opened to more competition. The existing prohibition that bars telephone companies from providing video programming to customers in their telephone service areas should be repealed. It is very appropriate, therefore, that S. 1822 would remove this restriction and allow local telephone companies to compete with cable companies in providing one-way and interactive video services. Direct, facilities-based competition between cable and telephone companies will produce substantial benefits for the American public. Competition in this market will spur the deployment of advanced technologies that are capable of delivering the full range of services that customers demand. These services include not only entertainment services, but also the growing number of educational, health, and social services that are accessible over broadband technologies. In addition, competition in this market can be expected to produce the same positive results for consumers that we have seen in other markets for telecommunication services that have undergone the transformation from monopoly to competition: technological and service innovation, lower prices, and responsiveness to consumer tastes. Telephone company entry also will expand the electronic marketplace of ideas by creating new outlets for video service providers. As you know, Mr. Chairman, the FCC already has taken steps to enhance competition in the multichannel video distribution market. Within a few months, U.S. consumers will be able to receive programming from a Direct Broadcast Satellite service. This service is capable of delivering scores of channels of video programming directly to homes and office equipped with 18-inch dishes. In 1992, the Commission authorized telephone companies to offer video dialtone service within their operating territories through a basic platform that provides non-discriminatory access to multiple video programmers. Since the rules were enacted, four telephone companies have received authorization from the Commission to construct and operate video dialtone systems for purposes of testing technology and evaluating consumer demand for the services offered. Elimination of the existing cross-ownership restriction should stimulate new telephone company investment in facilities that are capable of delivering video and advanced telecommunications services. Consumers should be the beneficiaries of the expanded choices that facilities-based competition in this market will foster. The Committee may also want to consider authorizing the Commission to adopt rules requiring both telephone company video affiliates, as well as cable companies, to permit non- discriminatory access to their systems by unaffiliated video programmers. Establishing such a right of access is likely to enhance the diversity of program sources available to consumers and foster competition among video service providers, including the owners of the facilities. Safeguards Adequate safeguards must be in place to ensure vigorous and effective competition between telephone companies and cable companies. In recommending removal of the prohibition against telephone company entry into video programming in 1992, the FCC cautioned that certain restrictions might be necessary to prevent potential anticompetitive practices, including possibly a requirement that a telephone company provide video programming to end users through a separate affiliate. S. 1822 would impose this restriction and I support that approach as an initial requirement. I believe it would be useful to give the FCC the authority to modify the scope and nature of the separate affiliate requirements, including, for example, modifying the broad prohibition against joint marketing, if a future investigation shows that it no longer serves the public interest. In general, we should aspire not to impose unnecessary or duplicative regulations that increase consumer rates and hinder the development of fully competitive markets for telephony and video services. Thus, S. 1822 properly grants the Commission the regulatory flexibility necessary to permit it to refrain from imposing obligations that would undermine, rather than foster, the continued development of competitive markets for telephone services. I hope that this Committee considers granting further regulatory flexibility to the Commission so that it may refrain from imposing on telephone companies that offer video programming requirements that may diminish, rather than strengthen, competition in this market. Conclusion Mr. Chairman, as your hearings continue, I will commit the very able staff of the Commission to the task of commenting on and pursuing the topics raised by the members of your Committee and the witnesses. Our experts will be available to consult with members of the Committee or their staffs. I thank you, again, Mr. Chairman, for the opportunity to appear before this Committee and testify about these important bills. I also look forward to working with you and the other members of the Committee as the legislative process moves ahead. I would be happy to answer any questions that you may have about my testimony.