Defending the Internet Revolution
in the Broadband Era
Why Open Policy Has Been
Why Reversing That Policy Will Be Risky
E-conomy Working Paper 12
Comments are encouraged. The authors** have put this paper forward to provoke discussion
and debate. Please send comments to email@example.com.
Generous support for production of the BRIE
Working Papers Series was provided by the Alfred P. Sloan Foundation.
I. Network Openness, Internet Evolution,
and User-driven Innovation
Americas stunning success in promoting
the Internet revolution owes a major debt to determined regulatory
action that encouraged all aspects of network openness and interconnection.1 America Online and other Internet service providers,
not the Regional Bell Operating Companies, popularized mass subscriptions
to the Internet. Personal computers, the Netscape browser, and
Cisco, not AT&T, drove the architecture of data networking
and the Web.
All these innovations were possible because
the Federal Communications Commission decided in the 1960s that
the emerging world of data networking should not be treated like
voice telecom services. Therefore, it exempted all forms of computer
networking from much of the regulatory baggage--including fees
to fund various cross-subsidies for voice telecom services--involving
the telecom network. As a result, it prevented telephone companies
from dictating the architecture of data networks. Otherwise instead
of broadband Internet connections we would be headed for an ISDN
The FCC allowed specialized providers of data
services, including Internet Service Providers (ISPs), and their
customers access to raw network transmission capacity (through
leased lines) on cost-effective terms. First, regulatory policy
forced open access to networks where the monopoly owners would
try to keep things closed. Second, the resulting competition
allowed the FCC to free the service providers from detailed regulation
that would have kept them from using the full capabilities of
the network in the most open and free manner.
Thanks to the FCC policy of "openness"
and competition, specialized networks and their users could unleash
the Internet revolution. This assured the widest possible user
choice and the greatest opportunities for users to interact with
the myriad of emerging new entrants in all segments of the network.
To be sure the FCC strategy emerged haltingly, but it followed
a rather consistent direction. The Commission supported competition
and innovation by keeping the critical network infrastructure
open to new architectures and available to new services on cost
effective terms. The instruments of FCC policy were to make leased
lines (and, lately, network functions) available on cost-oriented
terms and to forebear from regulating Internet and other data
services. It set in motion a virtuous cycle of cumulative innovation,
new services, infrastructure development, and increased network
usage with evident economic benefits for the U.S. economy.2
Open infrastructure policy fostered user-driven
innovation. "By user-driven innovation, we simply mean that
the principal sources of new ideas driving economic growth will
emerge from a long-term process of experimentation and learning
as business and consumer users iteratively adopt and evolve application
of information technology and E-commerce."3
Such user-centered innovation processes flourish in an environment
in which users are granted access to a wide range of choices
of facilities, services, and network elements.4
As our discussion of the Internets evolution
will make clear, experimentation with what might be called "network
performance features" was an unglamorous but critical underpinning
for innovation and services. The rejection of a monopoly over
network architecture was critical to these innovations. And,
in a totally unexpected collateral benefit, the virtuous circle
of policy and market innovation came to be recognized by the
rest of the world as the right template for network competition
and the growth of the Internet. It thus gave the US a voice in
global policy that went far beyond its political and market power.
As Cable moves from "broadcast"
to "broadband." the Cable infrastructure becomes a
key element in digital video, data, and voice communications
and all the issues about network openness return to the forefront.
Unfortunately, in a misreading of its own history the FCC may
abandon its successful policy just as a new generation of services,
including broadband Internet services, are defining the future
of networking and the electronic economy. After a series of courageous
decisions in the 1990s to hold its course on data networking,
even after the economic stakes grew bigger, the FCC is now starting
to confuse the instruments of its successful policy with the
logic of its strategy. That strategy, again, was to allow competition
and innovation by keeping the critical network infrastructure
open to new architectures and available to new services on cost
effective terms. The instruments of FCC policy were to make leased
lines (and, lately, network functions) available on cost-oriented
terms and to forebear from regulating Internet and other data
On August 11 the FCC decided not to open a
formal proceeding on access to high speed Internet service.5 It did so although it had previously acknowledged
a concern that deployment of closed access Cable system might
reduce competition in the access, or ISP market, and had stated
it would continue to monitor the question.6
While the FCC may believe this simply continues
its "unregulation" of the Internet, we should be clear
that this non-intervention constitutes instead a fundamental
policy reversal. For thirty years the basic policy has been to
foster competition, in particular cost oriented access to essential
local network facilities, and an open network architecture. Non-intervention,
as such, was not the policy. The FCC decision on access to high
speed Internet service reverses rather than continues 30 years
of policy direction. Critically, it constitutes, by not opening
a formal proceeding, a decision is to permit closed access.
The decision to permit closed access is a
decision to limit competition, experimentation, and innovation
in the Internet just as broadband services are beginning to emerge
and this new segment of the economy is starting to grow.7
Unless care is taken to assure that competition in Internet access
service continue, these conditions of competition and openness
will be undermined in the emerging broadband phase of Internet
evolution. And, collaterally, it erodes the ability of the United
States to lead global policy on the next generation of broadband
Internet services. Any reversal of the successful and established
policy should itself require justification.
The policy stakes are much larger than the
competitive fates of particular groups of ISPs. The risk, if
competition is not maintained, is to the continuing evolution
of the Internet, to the core innovation in and the evolution
of electronic network-based business, and therefore to the competitive
development of the network economy as a whole. The consequence
would be that the dynamic of expansion and innovation driven
by the users, as much or more as by the network providers, will
be undercut. Since the harm that would result from damage to
the dynamic of the Internet evolution is so great, there should
be great priority given to assuring competition, and there should
be a presumption that competition in access and throughout the
Internet system must be maintained. We are not talking here about
regulation of the Internet, that is, of the network of networks
that make up the Internet nor of dealings among the ISPs. Rather,
we are talking about assuring competition for access to the Internet
over local networks. That is, open access should be assured unless
it can be definitely demonstrated that competition in access
and, consequently, throughout the Internet system can be maintained.
The relevant form of open access is access
to the "last mile" to connect to the Internet for alternate
ISP providers and other network users. Open access must be provided
for each additional component of the communications and data
network system, as it has been required of the communications
system to date. The government should make clear the principle
that if market power exists, whatever becomes the natural channel
of Internet access will have to architect itself to allow competition.8 Openness should depend on clear policy principle,
not on corporate discretion.
A debate about the policy choice of assuring
relevant open access to connect to the Internet, as defined just
above, is forced by significant mergers such as the acquisition
by AT&T of TCI and now is proposed acquisition of MediaOne.
One way the FCC could move to assure an open access policy for
all providers is to make its approval conditional or contingent
on open access for all providers of broadband service, whether
cable companies or traditional local telephone companies, and
ensure that the consumers have a free choice of broadband Internet
providers. Indeed, we believe that the Commission needs to define
the critical elements of "open access" through a rulemaking.
The answers are not simple. For example, starting from a very
different philosophy than the FCC about network development and
interconnection, but a shared commitment to strong competition,
the British telecom regulator, OFTEL, has advocated a rather
inclusive definition of open access for broadband networks.
9 We recognize that the questions
now facing the FCC include these: 1) What are the harms to the
public interest if market power can be exercised over network
access to broadband services? 2) Are there enough network infrastructures
for the next phase of Internet services, broadband services,
to make regulatory intervention unnecessary to assure open architectures
on non-discriminatory terms? 3) Would regulatory intervention
in pursuit of openness undermine the creation of broadband infrastructure?
4) If there is a strong case for regulatory oversight, what would
be the least intrusive way of doing so?
The competitive development of a broadband
Internet system is so rapid that policy decisions made now will
profoundly shape the future trajectory of its development. Any
risk of limited competition in access should therefore be scrutinized
carefully and immediately; post-hoc solutions will not compensate
for a less than optimal market development. The FCC refusal to
even scrutinize carefully a policy reversal when that risks substantially
limiting competition in the Internet access market and hence
through the Internet system, is as disturbing as it is surprising.
As a practical matter, the most immediate
policy choice for this principle of continued open access and
competition within the Internet involves Cable systems that provide
broadband service. This particular debate concerns the tie between
AT&T and @Home. However, this particular matter simply forces
the more general issue. In the Cable case, as we shall argue,
the most immediate concerns are the mass market (as opposed to
the business market) because cable modems appear to be the dominant
network option available for residential broadband over the next
five years. The policy principle advocated here would in no way
suggest limiting AT&Ts ability to integrate vertically
into ownership of ISPs, or regulate the price for broadband access
services. Rather, we think that the issues are openness of the
architecture for "last mile services" on broadband
networks and openness of the network to competitive service providers.
A. The Internet has entered a Third Phase.
As we enter the third phase of the Internets
evolution, characterized by the diffusion and adoption of broadband
technologies, we note that while each phase posed a different
set of policy challenges and took place in a different environment,
there are important common threads. From the late 1960s to the
early 1990s the Internet was in its first phase of a physical,
network, and social engineering prototype of interest to military
and research organizations. From the early 1990s until today
the Internet has been in its second phase, that of mass adoption
and commercialization of narrowband networks largely through
the use of dialup modems which provide intermittent IP connections.
Phase Two saw the Internet take full advantage of equal access
to key elements of the telephone network and to provide widespread
network access. The central applications in phase one were file
transfers and e-mail, while the explosion of the World Wide Web
constituted the main event of phase two. Throughout however,
except perhaps for a lucky few, these applications were deployed
over slow, narrowband connections.
We are entering a Third Phase of the Internets
history, when a critical mass of users are about to experience
high-speed access to the Internet from their home. The range
and character of services and businesses available on the Internet
has mushroomed in the past several years; entire industries and
segments of industries are being transformed. In itself this
is a clearly new step. But existing services will be used differently
and new businesses will come on line with the increased functionality
that full-time broadband makes possible. Services such as online
banking, interactive video telephony, home networking, and voice
over IP will come of age. It is not simply the radical jumps
in transfer speed, jumps from 26 up to 600 times, but that the
functions to which a full time connected broadband network can
be turned, the way it can be used, represents a distinct evolution
that will distinguish the broadband network from its dial-up
In 1990, at the dawn of the second phase of
the Internet revolution, nobody had quite envisioned the Web
or the influence it would have. Similarly today, no one can tell
what will characterize the third phase, but one thing is certain:
access to the narrowband world will no more provide reliable
access to the services and functions of the broadband world than
the monochrome, text-only computer displays in use throughout
the Internets first phase could have done justice to the
second-phase web. If there is one thing that examining the first
two phases teaches us, it is that the uses of this technology
that will blossom during the rapidly-approaching Third Phase,
if competition in the network during this third phase is open,
will come as a surprise. It is impossible to predict in a next
phase of open Internet development either what the value generating
uses of information technology will be, or what optimum network
and market structures are necessary to deliver them to users.
The answers will be created by experimentation by users and competition
among those providing the users the tools for that experimentation.
And this experimentation will include broadband content, video,
interactive services, and IP telephony based services, many of
which a monopolist provider might like to inhibit. A market and
network structure that continues to promote this extensive competition
throughout the Internet is clearly required.
B. The Internets success through
the first two phases resulted directly from the networks
1. A large variety of service and content
providers could share existing infrastructure, the basic phone
network. Policy decisions, we should be clear, forced network
incumbents to open their networks to these new entrants. In addition
to access, FCC policy allowed for flat rate pricing mechanisms
for the Internet, largely by exempting ISPs from access charges
for data, and it did not impose cross-subsidy requirements on
rates for data transport. There are exceptions to this policy
2. Experimentation by users and competition
among providers, across the range of segments that constitute
the Internet, generated a surge of self-sustaining innovation.
Perhaps the most dramatic single example is the emergence and
evolution of the World Wide Web, which was driven almost entirely
by its users who pioneered all of the new emerging applications.
The World Wide Web in turn facilitated a new round, indeed another
surge, of innovation that has opened into a world of Internet
based E-commerce. This network openness and the user-driven innovation
it encouraged was a distinct departure, we should be clear, from
the supply-centric, provider-dominated, traditional model. In
that traditional model a dominant carrier or broadcaster offers
a limited menu of service options to subscribers; experimentation
is limited to small scale trials with the options circumscribed
and dictated by the supplier.
Open access to the network led to rich experimentation
by many actors. It is a safe bet that few people everback
in the days of 300 baud modemsthought that 28.8K data communications
would flow over ordinary voice phone lines. Even speeds of 9600
bits-per-second were seen as likely to be accomplished only with
expensive, cleaned, better-than-voice lines: ISDN or some similar
special service. The diversity of experimentation and the competition
on a relatively open network was key, since nobody could foresee
what would be the successful applications. Openness allowed many
paths to be explored, not only those the phone monopolies, the
infrastructures owners, would have favored. It is a safe
bet that without regulatory-mandated openness, only those connections
and projects that the Regional Bell Operating Companies (RBOCs)
and monopoly franchise CATV networks would have favored would
have been attempted. It is doubtful that without such regulatory-mandated
openness the Internet Revolution would have occurred.
3. Indeed, many of the most successful
paths challenged the very core of the phone monopoly business
and many of the technology and business assumptions of the industry.
The Internet is largely distance price insensitive, both because
of the character of the emerging technologies and the particular
regulatory setting under which they can operate. The Internet,
where flat-fee pricing had you pay the same price for one or
many e-mails, for sending them around the corner or around the
world, forces profound change for the traditional telephone companies.
4. Promoting ever-greater openness of
the U.S. telecommunications infrastructure has been a significant
theme of U.S. regulatory policy and an important element of the
Internets success.10 The FCC unbundled
"network elements", not end services but the specific
functional elements of the network. And, of course, with that
came Long Run Incremental Cost Pricing for the interconnection
charges. Indeed, US policy has gradually, though not always intentionally
and still incompletely, been moving toward support of the new
user-driven innovation paradigm. The major regulatory decisions
taken by the FCC over the past 40 years have opened the network
and shifted the impetus for telecommunications innovation from
incumbent carriers to network users, alternative equipment suppliers
and new entrants.11 Crucially, they protected
the competitive space for new entrants to develop into viable
commercial firms against entrenched incumbents by mandating interconnection
to essential facilities and constraining the incumbents
use of market power.12 They indirectly fostered
user-driven innovation by giving leading edge users --like financial
services, energy and manufacturing firms-- broader access to
enhanced facilities and communication capabilities. A critical
group of innovations involved "network performance features".
Examples of such enhanced access include higher speed connections,
variable bandwidth, minimal error rates, tailored data services
and a diverse and growing array of network management, configuration
and billing capabilities -- none of which were necessary to provide
plain old telephone service (POTS) and were therefore largely
unavailable from dominant carriers. More recently, the FCC policy
of openness has moved to further enhance user-driven innovation
and to broaden the possibilities for extended user-choice by
enabling deeper access into the incumbent local network. This
facilitated and in fact created the necessary preconditions for
the success of digital subscriber line (DSL) and the rapid funding
by the public markets of numerous competitors to the Incumbent
Local Exchange Carriers (ILECs) for high-speed data services.
It is these competitors that provide the majority of DSL access
services today. In its Third Computer Inquiry, the FCC identified
standards for critical software interfaces that were to be made
available at affordable tariffed rates.13 This
gradually unfolding U.S. policy to enable user-centered innovation
culminated, of course, in the FCCs implementation of the
pricing and interconnection provisions of the new Telecommunications
5. Throughout this history, and central
to the issue at hand, the monopoly owners of the communications
infrastructure strongly resisted opening their network to other
service providers. AT&T desperately and effectively resisted
for decades regulatory requirements that it allow other service
providers to interconnect with its network, as the Carterfone,
Execunet, Open Skies, and other cases all demonstrate. The RBOCs
have pursued the same strategy against open network architecture
(ONA) and the unbundling/interconnection provisions of the 1996
Telecommunications Reform Act. Yet policies forcing open access
to the infrastructure resources the incumbents monopolized were
the key to the flourishing of the dynamic communications market
and the emergence of the Internet. On a fairly consistent basis
the FCC rejected claims that networks had to be closed to generate
enough investment incentives.14 In each case
the innovative development of the industry with new uses and
new suppliers would have suffered had it been forced to develop
in a "closed access" mode. This openness has in fact
radically stimulated the use of ILEC telecom assets such as second
C. The Internets Third Phase.
As we enter this third phase of Internet evolution,
the wide diffusion and adoption of broadband technologies, we
face again a similar situation. Locally one provider,
the largely monopoly Cable franchise, with significant market
power in key market segments: broadband multi-channel video service
to homes and broadband Internet access to homes outside the DSL
circle, may prevent open access to the Internet.15
Nationally the dominant Cable firm is arguing it should have
the right to keep access closed, or at least discretionary. Based
on the history we sketched so cursorily, it is really no surprise.
The situation we face is essentially similar to these past episodes.
The question is obvious. The successful policy trend of the past
thirty years has been to force competition and assure open access
to the incumbent infrastructure. Why, now, reverse that successful
There is both a local and national story about
Cables power in the market for Internet access. Locally,
Cable providers in each local market have substantial market
power in the broadband access and broadband service provision,
because the Cable franchisee, whether it be AT&T or anyone
else, has a complete monopoly over the Cable infrastructure.
Local franchises, moreover, only come up for (re)negotiation
episodically or with a change of ownership, further reinforcing
Cables local monopoly power. Nationally, AT&T as the
largest national provider with a position in a series of local
markets represents a particularly significant case. Because of
its recent acquisitions, AT&T now has substantial market
power over large sections of the present and future broadband
Internet. The traditional measure of "number of homes passed
by a Cable system" in which AT&T has a stake is not
quite market share, but rather share of the total local monopolies
if you will. AT&T now controls the majority of the U.S. cable
television infrastructure, and consequently will itself have
a profound impact on the Internets third phase. This share
gives it significant influence because it allows the company
to coordinate the activities of many local monopolists and shape
the overall network architecture and standards. At the moment
AT&T is building a vertical structure in partnership with
@Home. The risks and costs of permitting a closed vertical structure,
one that ties to one ISP and locks out others, would be the same
whomever AT&T might choose as a partner.
Again, we must keep the lines open, both Cable
and DSL now and wireless broadband Internet access in the future,
as it becomes a viable alternative. We must maintain openness
of access, content, and Inter-network connectivity. For now though
we focus on the Cable case. The next section of this paper makes
the argument in detail that market power in regard to broadband
access is a pressing problem today, not just a matter for future
II. Why do we think there is a problem
Permitting a single company to leverage its
market power in pursuit of only the technology and service trajectories
that serve its own commercial interests reverses three decades
of policy moving toward openness. Critically, it will stultify
the competition through the network structure that has facilitated
experimentation and user driven innovation. Yet, Cable providers,
which have franchise TV monopolies in most markets, are achieving
substantial market power over Broadband Internet access.
The precise form of market power varies according
to local market conditions. Sometimes we are dealing with a broadband
monopoly; sometimes it is an asymmetric duopoly with one player
open and one closed; and sometimes in the business market it
is a duopoly plus, with companies having for some purposes additional
options such as wireless. But in all cases, Cable has substantial
market power even if it emerges in a situation of shared control.
As the British regulator OFTEL argues, there must be "rules
to deal with market power exercise by firms with control over
capacity constrained systems."16 Such
capacity constrained systems can create "joint dominance"
a situation with competing, but a very limited number of, suppliers.
In that case OFTEL argues that it may be necessary to apply the
same rules that govern individual firms with market power.17
With this premise as our starting point, this
section develops our argument in five parts. First, we reaffirm
that broadband Internet access is a distinct and important market
for policy purposes. Second, we spell out why Cable modem systems
are the most important supply alternative for at least segment
of the broadband market, the mass household market. Third, we
explain why the problem of switching costs is so important in
this market. Fourth, we argue that closed access to Cable modem
networks also has harmful effects on the performance of DSL networks
even though FCC regulation has "opened" these networks.
And, fifth, we explain why a countervailing concern, investment
incentives for network development, should not foreclose closer
A. Defining the relevant markets.
Broadband access is a distinct market: Narrowband
access is not a substitute for broadband access. Competition
from existing ISPs using narrowband access will not prevent exercise
of market or monopoly power by an ISP like @Home that is vertically
tied to broadband access.18 Those who would
argue the contrary assume that broadband and narrowband Internet
access are substitutable products, when it is apparent after
some investigation that they are not.19 Not
only are there substantial price differences between narrowband
and broadband Internet access, but data transfer speed via cable
modem is faster than narrowband offerings.20
The connection nature of fast transfer rates of broadband access
do not merely provide the same thing more quickly, rather, they
enable real-time, bandwidth-intensive applications that would
be impossible with dial up narrowband access.21
If any of these applications are utilized, a narrowband Internet
connection using a modem and standard telephone line can not
substitute for broadband access.
Of course, a separate distinction about relevant
market rests on the classes of end users. As our discussion of
supply availability notes, the FCCs distinctions between
mass consumer (household) and business markets make sense. We
think that a key matter of policy is whether small and medium-sized
enterprise requires separate attention. But for purposes of simplicity
we will focus on the mass market. The Third Generation Internet
marketplace will be driven by the move of ubiquitous networking
with broadband content into the home. The vision of home networks
connected to the broader Internet with screens in numerous rooms
of the home is part of this vision. Interactive video conferencing
and low cost Voice over IP (VOIP) are also parts. But what really
distinguishes this phase is the final convergence of TV and PC,
of entertainment, education, and work at home, the seamless linking
of the home into the larger electronic community. Broadband means
lots of different kinds of content concurrently, full-time connected
makes the home part of the network.
Third generation communication applications
and patterns of Internet use will not necessarily be restricted
to the home and will be adapted throughout the economy. But the
mass market will be critically important to shaping the third
generation Internet and e-commerce evolution because it will
bring a population of broadband users large enough to constitute
a critical mass able to sustain the development of a wide range
of third generation applications. Again, the particulars of this
third generation future are by definition unpredictable, but
one might look back to the development of the second generation
web for insights. As the Internet became a mass medium through
its second phase, the large population of Internet users created
justification for continued innovation in browsers and server
features. The large population of browser-equipped customers
in turn created powerful incentive for merchants to offer electronic
commerce applications and build a cyber-marketplace. The mass
market was thus key in shaping the unfolding of second generation
Internet and the current forms of early electronic commerce.
Sustained development of the next generation of applications
will similarly require large enough potential audience of users
with broadband network access. Only if there is a critical mass
of broadband-enabled users will the full range of broadband application
and use patterns be explored. Closing off key segments of the
broadband infrastructure to a monopoly provider would inevitably
choke off the very innovation that has created value from todays
B. There is limited availability of competitive
network infrastructure or services.
There is limited availability of competitive
network infrastructure. Cable is still the only broadband option
in many places for the mass market. The access alternatives for
business are considerably better than for households. Indeed,
the Local Exchange Carriers, incumbents and competitors alike,
aim DSL deployment at business customers. Larger businesses in
major commercial centers may have fiber optic connections from
a CLEC. Alternatively, wireless broadband access services are
emerging in most major urban centers. The situation for small
and medium-sized enterprises is far less clear, and the FCC may
need to clarify whether they constitute a separate class of customers
for broadband access.22 Most businesses in
the United States lack cable infrastructures, and running cable
to a business results in customer charges of thousands of dollars.23 But in regard to our main focus, the main residential
market, it is clear that wireless broadband Internet is not now
and is not likely to be available in the very near future.
As a result, the network alternatives for
the household market are few. A large share of U.S. households
are simply unsuitable and will remain unsuitable for DSL services.
Reading of the evidence varies, but at least of 40% perhaps 50%
of the local loops in the country will not presently support
DSL at anything near CATV speeds if at all.24
What proportion of the existing copper loops is ultimately unsuitable
(or prohibitively expensive to upgrade) for DSL service is a
matter of debate, but it may fall significantly over time.25 These limitations on the deployment of DSL
are unlikely to be overcome easily or soon. DSL is unavailable
to a significant portion of the American territory, or at least
available anytime soon Consequently, the benefits of DSL
lines are unlikely to be available to many Americans.
Although we are likely to see two wires into
many homes; cable will be well positioned to become the leading
technology for broadband services. Indeed, we are likely to see
two distinct broadband "footprints", with little overlap,
each with only one method of broadband access to the Internet.
The Cable modem footprint generally covers only residential areas
and clearly dominates in many suburbs.26 At
this point, 94% of homes wired for broadband Internet use Cable
modems, more than a million households.27 Fifty
six million homes are currently passed by Cable modem service,28 versus six million homes passed by DSL.29 The differential will continue since cable
modem shipments have clearly outpaced ADSL modem shipments every
quarter for the last year, shipping six times as many modems
in 1998.30 Cable companies certainly deployed
digital video services to compete with Direct Broadcast, for
example, reaping substantial revenues from that deployment. While
there are certainly separate costs to make cable interactive,
less than 5-8% of the total bandwidth on a CATV systems is used
for high speed data services. Holding a franchise monopoly for
Cable TV created a foundation for cable to enter the market for
We could debate the relative advantages of
Cable and DSL.31 However, quite independent
of any inherent advantages that Cable or DSL may possess as a
means for deploying broadband, the consequence of the rapid Cable
residential roll out is that Cable will certainly have a massive,
certainly difficult to dislodge, and perhaps, enduring deployment
lead.32 This initial path to dominance makes
that enduring position likely and creates risks that require
C. Switching costs are a critical element
of the economics of this market.
Considerable switching costs (the cost customers
would incur to switch from the broadband access method to another)
combine with early deployment leads for Broadband Cable allow
the credible exercise of market power. The existence of these
switching costs will permit Cable to maintain its significant
deployment lead into the foreseeable future. Hence, even in the
limited areas where Cable and DSL broadband access are both available,
competition between different infrastructures is highly imperfect.
Once a customer makes an initial decision for either Cable or
DSL, or later perhaps for Wireless when it is available, they
are pretty much stuck with it for a while. The switching costs
have two sources: the physical architecture of the network and
the logical architecture of the network.
1. The physical architecture of the
network creates prohibitively high switching costs and hampers
a customers ability to switch between broadband access
service providers using different physical delivery vehicles.
Requirements for inside wiring, different terminal equipment,
non-refundable connection charges, different computer set-ups
in many cases and so forth can easily push the physical cost
of switching from Cable to DSL even where both are availableup
to $600. Given that most industry surveys indicate that consumers
are not willing to pay large sums for broadband access, they
are even less likely, one would presume, to pay high sums to
switch.33 We provide a rough estimate of these
physical switching costs below.
Table 1: Examples of residential switching costs: Cable
modems vs. xDSL a
Cable Modem b
|Inside wiring d
|Customer Premises Equipment
|One-time setup fee for connectivity
|One-time setup fee from ISP
a Figures in this table were averaged
from the following product literature and trade press surveys:
Excite@Home, "Product Guide." As of August 10, 1999.
See "http://www.home.com/"; Depompa-Reimers, Barbara.
"DSL gets a boost." InternetWeek. March 1, 1999.
p. 34.; "Roll out the bandwidth." Computer Letter.
Feb 8, 1999. p. 1.; Heckart, Christine and Briere, Daniel. Network
World. "Low-cost DSL, cable carry bottlenecks."
Network World. Feb 1, 1999. p. 28.; Hamblen, Matt. "Cable
Modems." Computerworld. June 21, 1999. p. 89.; Tilley,
Scott. "The need for speed: Experiences with consumer-oriented,
high-speed Internet access technology." Communications
of the ACM. July 1999. P. 23.; Mandel, Brett. "Broadband
hits home." Infoworld. July 5, 1999. p. 30.
b Cable Modem prices given here represent lower-bound
estimates, as potentially substantial costs are currently being
capitalized by the monopoly Cable carrier, presumably with intent
to recoup these costs in monthly billing.
c DSL prices given here may be skewed toward the high
end, because a broader range of high-end offerings were sampled
in the articles surveyed.
d Inside wiring may not be necessary at all locations.
e Presently paid by the monopoly carrier, presumably
with intent to recoup these costs in monthly billing.
f Cost estimate of what is presently paid by the monopoly
carrierhowever, with the advent of greater standardization,
"modems and set-tops are supposed to become consumer electronics
items that consumers pick up and pay for" Higgins, John
M. "All for just $5,000." Broadcasting and Cable.
May 10, 1999. p. 16-18.
g May not be relevant to cable modems, as the ISP
presently is the cable provider, or closely affiliatedor
may be paid by the monopoly carrier.
For residential customers, switching broadband
access method (from Cable to DSL or the reverse) is much more
costly and cumbersome than either switching one DSL provider
to another or switching among narrowband ISPs; there are no physical
switching costs in these latter two cases. Moreover, the ILEC
must provide access and collocation for any DSL or narrowband
ISP competitor that requests it, while the Cable companies have
no such obligations. Thus once the US broadband Internet infrastructure
is built out, if cable lines remain closedaccess ones,
broadband cable Internet providers like AT&T will realize
that they have several hundred dollars worth of room to
2. The logical architecture of the network
also creates important switching costs. Information access and
transmission systems become embedded with ones current
provider. This is in contrast to narrowband Internet service
provision or DSL service where the prohibition on bundling access
and service allows customers to switch easily between ISPs and
to have equally convenient access to various kinds of content.
Let us consider these several costs of switching from one broadband
system to another.
a. Many everyday communication activities
are tightly entangled with the customers Internet provider,
so that shifting provider may range from the inconvenient to
the serious. With narrowband Internet access, the inconvenience
was typically limited to getting a new e-mail address and modifying
a few dial-up settings. However, because broadband Internet supports
a wide range of new communication activities, switching among
broadband access providers would be much mor5e cumbersome. For
example, for customers who elect to use their "always-on"
broadband connection to run web servers from their home, the
switch would require a modification of the DNS tables to link
their domain name to the new IP address they would receive.34 Additional inconvenience would include the
loss of adaptive setups that provide ease of access or access
to special services.
b. If arguments about bundling are correct,
the competitive situation is all the more alarming. Some market
analysts estimate that merely the prospect of bundled services
creates approximately $150 in new value per subscriber for a
Cable system, irrespective of value created by the anticipated
revenue from each individual service offering.35
There may be competitive advantages in the package of services
created, advantages in pricing those services, and advantages
in a single bill. The consumers preference for one bill
is believed to be strong enough to reduce switching, even without
price reduction for the services in a bundle.36
Consider only the geographic monopolies noted above. In
those areas competitors cannot create equivalent packages. Bundling
with television offerings, whatever rules on control of program
content there may be, certainly makes it easier for AT&T
to create distinctive packages. AT&T could, and apparently
intends, to offer integrated bundles of phones service (both
local and long distance), Cable TV, mobile services, and ISP.
Can competitors create equivalent alternative bundles? If not,
what will be the market consequences? This of course increases
resistance to switching one component of the bundle to an alternate
c. Customers may never find out what
theyre missing. Even more fundamentally, consumers may
never be in position to decide whether switching broadband providers
is worth the cost. With traditional products, we tend to think
of switching costs as part of a rational decision between two
well-known alternatives. For example, customers switching from
one brand of cereal to another have all the information they
need to make a rational choice: they know the prices, they see
the packaging, they can easily compare objective nutritional
value and subjective taste. Not so when picking between two alternative
broadband access services. As we just described, prices are not
always what they seem, with countless hidden costs ranging from
re-wiring to domain name re-setting, and packaging is less than
transparent when broadband services come as part of complicated
and hard-to-compare bundles.
More insidious is the difficulty to assess
real-life performance (the service's objective "nutritional
value") or to really understand the difference between "open-access"
and "closed-access" communication experiences (the
service's subjective "taste"). Just like cereals, you
don't know what you're missing until you buy the competitor's
product and try it out. But if it's easy to buy two boxes of
cereals and give them a taste-trial over breakfast, few customers
will subscribe to both Cable service and DSL, and benchmark them
against one-another for a month before picking the one they like
best. The good news is that whichever they chose, it is likely
to be much better than the analog modem it replaces. The bad
news is that they'll probably never know how much better it could
have been, had they picked the other one.
Until two years ago, when France Telecom finally
decided to take a real stab at offering mass-market Internet
access, French citizens thought that second-generation Minitel
was very cool. As they marveled at their new Minitel terminals
displaying alpha-mosaic images faster than ever before, they
never suspected that across the Atlantic (and across the Channel),
the web had vastly overtaken their once-pioneering telematique.
In such cases, when first-hand information is hard to obtain,
we typically rely on others to help us chose. We follow the lead
of neighbors, or read Consumer Reports. Operationally
for broadband consumers, comparative shopping will generally
mean comparing notes with friends and neighbors who have an alternative.
There is clear evidence of this from the PC world. PC users,
Austan Goolsbee and Peter Klenow have shown, are strongly influenced
by their local social network.37 But neighbors
won't be much help if what broadband access service is available
to them depends on which Cable providers controls the local monopoly.
French customers certainly couldn't count on their French neighbors
to tell them about the Internet.
Even trade magazine benchmarking reports may
be of limited use because in the short term, until full-fledged
third-generation services emerge, the differences between various
flavors of broadband Internet access will seem subtle to the
residential consumer. Indeed, the average household doesn't directly
experience "open broadband Internet-access" or "dynamic
caching" but rather the services delivered over broadband
access infrastructure --web pages loading faster or smoother
As in an earlier stage of the Nets evolution,
the real differences --new communication patterns, new applications
and interfaces, significantly different security and privacy
implications -- will only emerge over time, through sustained
use, as competing network performance features offered by broadband
access providers play themselves out through the evolutionary
unfolding of the third-generation Internet. These in turn will
facilitate different forms of end services and other features
that are important to users, like privacy and security.
Unless we preserve open access today, we will
never find out because we may not even begin to explore alternative
evolutionary paths. Customers will never be in a position to
compare significantly different broadband experiences, and they
will never know what they're missing. But perhaps America doesn't
really have to lead in this round. It might want to wait for
France to repay the favor, and come rescue it from the closed-Cable
evolutionary trap a few years down the road.
D. The adverse consequences of a closed
Cable modem network may spill over to the performance of the
The resulting market structure will be complex:
the precise market structure, or rather set of different local
market structures, will only unfold over time. But however the
structure of a local market unfolds, it is likely to be less
than fully competitive.
In some set of markets -- likely given the
limitations on DSL to be a significant set -- there will be only
the Cable alternative. Either DSL service will be unavailable,
or Cable's initial lead in deployment will result in an unwillingness
of the local RBOC or competitors to spend resources deploying
DSL in that area. In this case consumers are likely to be harmed:
they will pay the fees for access that an unregulated monopolist
can charge, and they will suffer from limitations on the kinds
of services offered and the degree of experimentation offered
imposed by the single access provider.
In some markets the typical residence will
possess two active wires capable of carrying broadband video
services subsidizing high speed data services. Consumers seeking
broadband service will have a choice between the AT&T-blessed
access provider allowed to operate over the cable line, and the
set of ISPs and LECs buying access over the telephone line from
the local RBOC. Is there reason to think that consumers with
the potential for dual access would be harmed vis-a-vis a situation
in which ISPs could themselves offer access over either wire?
First--as discussed below--Cable's early lead
in deployment, coupled with substantial physical and logical
switching costs are likely to give AT&T/@Home substantial
power even in potential dual access local markets. Second, the
closing-off of ISP access to the cable wire changes the dynamics
of the market in which ISPs and LECs face the RBOC. ISPs and
CLECs purchase broadband access and collocate equipment at a
regulated price, but regulators cannot fully specify the quality
and reliability of service, or the responsiveness to ISP requests
for assistance and accommodation. A credible threat on the part
of ISPs to vote-with-their-feet and desert telephone wire for
cable wire would provide significant discipline on the RBOC,
and get its incentives to provide high-quality and flexible service
This point should not be overstated: pride
in the system and the satisfaction of doing a high-quality job
are important motivating factors. But it is the case that in
a regulated monopoly quality of service is one factor that can
slip. And as long as the cable wire is closed, broadband access
providers will face a monopolist in their RBOC. Better to have
the market--in this case, competition from the cable wire for
the business of each broadband Internet access provider--as a
source of discipline as well.
In some markets there will be an effective
duopoly of networks, Cable on the one hand and DSL on the other.
The precise market structure that will result from Cable's position,
or rather the set of local market structures that will result,
will only unfold over time. In some significant set of markets
there will be only the Cable alternative; in others the precise
balance will evolve reflecting local conditions such as customer
requirements and the precise sequence and timing of the deployment
of each alternative. The open question is what will be the competitive
dynamic of a duopoly in which one is closed and the other is
open. Before assuming that the Cable company will not gain much
by closing its system, one must consider whether matters such
as the negotiation between the LECs will have any incentive to
cooperate with competing ISPs. If both network providers are
open, then the ISPs can negotiate with the owners of both wires
to the home and give their business to the one with the best
terms and conditions. Perhaps both network owners would prefer
not to cooperate with the ISPs, but if both were open that would
be a much harder implicit bargain to strike. The consequences
for the innovative dynamic of the Internet will be quite different
in these three cases: effective monopoly, asymmetric duopoly
with one side closed and the other open, and real competition
between network owners and amongst ISPs.
E. Is There a Problem Assuring the Investment
for a Broadband Era?
The supply side incentives of a closed Cable
network are not so great that the FCC should avoid a significant
policy investigation today. The FCCs policy choice about
broadband cable necessarily addresses two markets simultaneously.
They are the broadband access market, the focus here, which includes
high speed data and the other services it supports such as interactive
video teleconferencing and the phone/fax access network market.
An upgraded cable television network not only hastens the provision
of broadband access to households, it also permits a second line
to the home for phone/fax service competition and therefore accelerates
the emergence of competition in the local loop. Some contend
that the creation of a viable cable broadband network has the
added pro-competitive effect of forcing faster rollout of DSL
by the RBOCs, the local telephone companies.
Those who would justify closed access to broadband
cable claim an adverse result on network build-out. They argue
that reducing the total return on investment in broadband by
ending the exclusive use of @Home or introducing significant
regulatory uncertainties over the rules for broadband access
(thus forcing a discount on total return) can only slow build-out
of cable broadband (and thus slow deployment of DSL).38 Whether there would be an influence on
the investment and hence the pace of the build-out of cable broadband
is debatable; we have substantial doubts about the size of the
effect being so great as to preclude a significant policy initiative
on broadband access. In fact the industry often builds out their
upgraded network to support digital video and higher quality
analog video in a monopoly franchise providing a low cost platform
for the addition of high speed data services.
To begin, the ILECS are investing in DSL,
not simply to compete with broadband cable, but also as a means
to cope with exploding Internet modem calls without deploying
more expensive central office equipment, and also to move toward
a data network regardless of what Cable is doing.39
The more fundamental question is about the effect on cable broadband
The Cable networks are franchise monopolies
in most markets and built, capitalized and largely upgrade under
a monopoly market operation. AT&T did not buy companies in
competitive markets, but rather they bought video distribution
monopolies. These monopolies had, arguably, largely made the
decision to upgrade their networks to digital video in order
to compete with direct broadcast and, perhaps most importantly,
to have cable phone penetration. AT&T paid substantial amounts
to do this, some estimates run as high as fifteen billion dollars
in access and interconnection fees in 1998, about a third of
its domestic wireline revenues.40Cut those
charges in half and AT&T net income doubles. Little surprise
that some estimates suggest that AT&T plans to have extensive
and exclusive cable /phone penetration in four to five years.
In that case, gains from video services, let alone Internet access,
are just gravy. Seen that way, AT&T got the basic advantage
of Internet access for a small marginal cost. Moreover, the modifications
required to add Internet capacity to an existing digital Cable
system are much lower than the estimates of the costs required
for upgrade of the digital network itself.41
Given the imperatives and advantages just described, it would
hardly seem that Internet access needs to be closed in order
to justify the upgrade of capacity.
F. In sum, closed
Cable creates local monopolies in many places and nationally
gives AT&T extraordinary influence over this one critical
piece of the emerging broadband Internet. The OFTEL notion of
"joint dominance" in capacity constrained markets,
invented to describe a British market where DSL has a commanding
headstart over Broadband Cable, seems also to apply to the flip
case of the United States where Cable is in the lead.
III. The Damaging Consequences
of Control over Cable Access to the Internet.
Cable control of broadband access to the Internet
will have two sets of damaging consequences. First, and our primary
concern, the innovation and experimentation that has been central
to the Internet explosion will be stifled if not precluded. Second,
Cable owners will have the capacity to control network services;
voice, data, and video distribution and a material part of the
video content and much of the data/Internet content delivered
through the cables. The risks and harms outlined here would occur
whenever there is a monopoly provider of tied access and ISP
service.42 The case at hand is that of AT&T/@Home,
so it again is the focus of our discussion there.
A. @Homes concept of what can/should
be done over the Internet precludes a range of innovation and
experimentation by other service providers and end-users.
1. Already @Home service is configured so
as to force usage to fit the specific patterns that generate
most profits for @Home. Many of the practices are @Homes
own practical responses to network management challenges, and
others look a lot like what other network providers do. However,
they become worrisome if, as we believe the case to be, the closed
network reduces the ability of rivals to deliver services efficiently
and if consumers cannot access alternate ISPs, and where there
is a geographic monopoly this is certainly the case. The practices
involve a number of elements.43
a) Limits on the overall amount of downstream
video. Of course, this increases the importance of positioning
as a favored partner of @Home.
b) Limits on up-stream traffic, that
is the ability of consumers to experiment with their own uses
of the network including VOIP and interactive video teleconferencing.
c) Prohibitions on setting up servers.
(Web, FTP, POP.)
d) Technical biasing against and limits
on the performance for non-partner content will structure the
cyber marketplace, limiting experimentation and innovation.
e) Prohibitions on using @Home for work,
which forces the purchase of the more expensive @Work service.
That means it will be difficult to hook up to corporate LANs
from home, which will limit the present diffusion of innovative
forms of work at home.
While it will still be possible to receive
Internet service from other ISPs, though still paying for @Home
ISP service, alternative service providers will be denied access
to key features of the @Home network, such as dynamic caching
and collocation on the @Home network. They are thus forced to
compete with their hands tied behind their backs.
2. Closure and limits preclude experimentation
with a wide range of alternative patterns of use. Provider domination
of the processes of experimentation, learning, and innovation
that preceded deregulation and the Internet will have been re-established.
@Home will be the monopsony buyer, or at least dominate a major
segment of the market, for network software tools and hardware
equipment. If there is open interconnect on Cable then the dynamic
or logic of network innovation in the broadband era is likely
to unfold with the force, pace, and innovative imaginativeness
of the narrowband era. The logic of development that has characterized
the Internet to date would be likely to continue. ISPs other
than @Home would experiment with different patterns of service,
different packages of service offerings. Each ISP would itself
become a client for innovative software and hardware companies.
The dynamics of innovation would be sustained.
At this formative stage in broadband evolution,
we need to encourage the widest possible experimentation with
available alternatives and the widest possible experimentation
by competing providers and innovative users. That would involve
alternate, unforeseen, patterns of use for the Internet; alternate
kinds of content and means of delivering content; alternate ways
of structuring the E-commerce market place.
B. Cable providers will have the
capacity to control network services and content.
AT&T/@Home appears to have the
intention of leveraging Cable access monopoly into markets that
ride on top of Cable access. This goes well beyond the bundling
of Internet service provision with other AT&T services. Its
significance is far beyond the simple bundling of Gateway services
such as e-mail or web hosting with the basic service provision.
1. There is clearly a range of strategies
available for the provider of a large cable modem network to
"bias" Internet access to the advantage of some content
over others. Though these practices may be intelligent ways to
speed up the Internet experience for customers, some practices
could easily be abuses if applied differentially. The difficulty
is that if a single ISP, in this case AT&T/@Home often
being the ISP by default for a substantial piece of the national
community, has sole access to these strategies. Then at its discretion
and at its discretion alone, it could systematically shape what
content gets to the end-users under optimal conditions. Worse,
it could shape the very terms of innovation on the Internet.
Open access would assure that other ISPs could use the Cable
infrastructure to pursue similar approaches, where appropriate,
and would foster healthy competition of network applications,
programming and architecture.
The @Home annual report is very clear and
includes details of how @Home offers speedier service to Internet
content providers who agree to become "content partners"
and share their revenue stream.44 Under the
sole control of a broadband access monopoly, the potential for
serious abuse is evident. Consider in particular :
The @Media group offers a series of technologies
to assist advertisers and content providers in delivering compelling
multimedia advertising and premium services, including replication
and co-location. Replication enables our content partners to
place copies of their content and applications locally on the
@Home broadband network, thereby reducing the possibility of
Internet bottlenecks at the interconnect points. Co-location
allows content providers to co-locate their content servers directly
on the @Home broadband network. Content providers can then serve
their content to @Home subscribers without traversing the congested
Similarly the report notes that:
we have established relationships with certain
of our interactive shopping and gaming partners whereby we participate
in the revenues or profits for certain transactions on the @Home
portal. We also allow certain of our content partners to sponsor
certain content channels for a fee. 46
These quotes point to two behaviors that could
bias the marketplace. The first is "collocation", the
second is "replication". Both function to allow @Home
to privilege partners and exclude competitors they differ
only slightly in their implementation. @Home has developed partnerships
with non-competing firms in each of several content areas (interactive
shopping, gaming, digital audio, digital photography, and search
services) and it is presently collecting "fees relating
to content partnering arrangement."47
@Home sees these practices as "programming" and it
sees itself as programming the Internet.48
@Home is promoting itself as offering collocation
service to offer better performance to @Home customers, but the
term "collocation" is not meant in the nondiscriminatory
sense that those familiar with telecommunications are wont to
use. Rather, each partnership appears to be exclusive to a particular
area of content. A collocated partner has faster access to @Home
consumers because of a presence on the same network. @Home has,
as of 1998, already collocated at least one partner (SegaSoft)
and plans to collocate others.
Replication is manipulation of the caching
system to favor partners. It essentially speeds requests for
certain content by pre-loading it at sites that are close and
well-connected to subscribers. As of 1998, it currently replicates
news feeds from CNN and Bloomberg. @Home then promotes replicated
and collocated partners on its portal and with its "wizards",
making competitors harder to get to. The result is the creation
of a cyber-marketplace which systematically favors the providers
of content, services or transactions who have a privileged financial
relationship with the monopoly owner of the infrastructure that
supports that cyber-marketplace. If customers had a real choice
of broadband access infrastructure, this would matter less, but
within the current situation, when they become customers of @home's
access infrastructure, they automatically and unknowingly receive
access to a cyber-marketplace biased to favor @home's financial
In addition, it is certainly is possible to
manipulate the caching system in many other ways to favor partners.
@Home has the incentive, given its relationship with content
providers, to further utilize the caching system to actually
slow requests to competitors to it's "programming",
rather than merely speeding it's own brands. @Home's annual report
also notes that "local caching servers can compile far more
comprehensive usage data than is normally attainable on the Internet".49 If this data were shared with partners, this
would be a further barrier to competition. Not only could an
@Home partner know detailed information about @Home subscribers
using their service, it would also be possible to know the same
detailed information about who was using a competitors' service
or to restrict access to a competitors service while substituting
2. @Home proposes in its own materials to
structure the cyber marketplace, to steer @Home customers, unknowingly,
toward merchants who partner with @Home. @Home can structure
the cyber marketplace both through the advantageous positioning
and access of partners and through @Homes devices such
as "how-do I" wizards. @Homes own reports show
that they will provide superior quality performance to those
merchants on their network. Either you are on @Homes service
network or the majority of broadband customers (those that use
AT&T @Home cable television service) will not be able to
access your site, AS INTENDED by the merchant.
3. These capacities to structure the marketplace
are of startling significance. They are particularly important
if a single ISP has a local monopoly and of broad significance
if a single ISP has enough local monopolies or dominant positions
locally to influence the very structure of the cyber marketplace.
And, we should note, even allowing the choice of another ISP
for no additional fee (e.g., a customer could substitute AOL
for @Home) would not correct the competitive problems created
by broadband access architecture that rewarded @Home with performance
advantages over all rivals. There are at least two reasons:
a. First, E-commerce is certainly one of,
if it is not the killer application of the broad band era. The
unfolding of e-commerce will drive innovation throughout all
segments and elements of a competitive network. Yet suddenly
the competition across segments and elements that has driven
the evolution will be squeezed into and captured by a vertical
structure with a single buyer, the ISP provider: @Home.
b. Second, business to business E-commerce
has dominated until now. Broadband will facilitate the evolution
of retail E-commerce. Closed access would, as a matter of policy,
permit @Home to structure the cyber marketplace for a significant
portion of the American consumer population. With control of
the broadband service provision, @Home would become a truly dominant
influence in American retail. Even if @Homes control of
the broadband market is more limited, then nonetheless, that
one provider would, for a substantial portion of the American
consumer community, structure the cyber marketplace. The biases
will not be obvious and they will not necessarily be brought
to the attention of the consumer. The competitive possibilities
of E-commerce, ease of entry and experimentation producing new
business strategies and new business organization, would be wiped
away. The broad gains to the American economy lost.
Both the suppliers of the network component
and services and the users of the network will both confront
the AT&T/@Home market power.
The Internet and E-commerce will evolve as the result of strategy
choices of AT&T and @Home alone, not as a result of market
competition. What might that world look like?
Joint dominance in broadband access, much
less monopoly power over local broadband access in many cases,
raises serious challenges to serving the public interest. In
the absence of regulatory measures to assure open access, the
resulting vertical integration and closed access defeats the
fundamental innovation dynamics that have made the Internet successful:
open standards, open access, a clear set of competitive principles
and prohibitions against leveraging access control into control
of service architecture, communication patterns and content.
Such vertical disintegration has traditionally led to real competition
and innovation in each segment, as well as competition and innovation
in alternative ways to package combinations of services.
The policy problem arises at the moment at
which the cable television "broadcast" system, built
up with local monopolies and successfully built out because of
the appeal of cable TV offerings, is being transformed into a
digital system and integrated into the national communications
network. Consequently the current debate stems from a collision
between the policy legacy from the monopoly origins and restricted
access of Cable as Broadcast and the evolving Open Access thrust
of policy that has enabled the successful explosion of competition
throughout the segments and elements of the network facilitating
user-driven innovation and the Internet revolution. Reversing
policy innovation that has led to broad American communications
leadership would be, at best, foolish and unwise.
But what can be done? We think that the most
important point is to recognize that the market is ripe for an
explicit set of policy decisions, not wait and see. The question
as to the right prescription is not one that we wish to resolve
here. But we would offer some observations about how to proceed.
To begin, some see the policy issues as primarily
being that consumers should not have to pay twice for use of
an ISP other than @Home. This emphasis on nondiscriminatory access
to the broadband Cable network for all ISPs, they suggest, requires
only a light regulatory touch. However, it should be noted that
a nondiscrimination rule in itself might not solve the underlying
problems that we are addressing. For example, suppose that the
rule simply said that AOL will pay the same as @Home for access
to the Cable broadband network. This would not prevent AT&T
from taking its rents on the network access charge and simply
bundling in @Home for no fee. This would be like Microsoft making
its money off Windows while charging nothing for its browser.50 Is this satisfactory, or not? After all, AOL
could change its business model to the one used by Yahoo (or
AOL in its UK operations for some customers) where there is no
monthly charge for email and access. Revenues derive from ads
and sales commissions.
Arguably, the "dont pay twice"
rule, while straightforward, only addresses one of the least
important issues discussed in this paper. The real issue is the
ability to achieve an open architecture for broadband services.
Policy makers should be aiming to stimulate innovative designs
and uses of the network. But the vertical arrangement between
the AT&T/TCI broadband network and an ISP may defeat this
because the network will be optimized to give superior performance
to the preferred ISP.
As we have stressed throughout this paper,
the problem is not just the adverse effect on competition in
the markets for ISPs. The closed architecture of the underlying
broadband network will also restrict alternative "network
performance features" that are so vital to innovation. In
its decision on the AT&T purchase of TCI the FCC rightly
expressed concerns about some matters of the network architecture,
but settled for rather toothless promises by AT&T in its
filings to the Commission.
The right question is whether policy alternatives
exist that are lighter handed than the regulatory regime for
DSL imposed on the ILECs and yet responsive to the issues posed
by broadband cable networks. It is precisely in regard to the
intersection of market power, even jointly shared with other
providers, and network architecture that the British telecom
regulator, OFTEL has proposed a powerful policy agenda for the
UK. This initiative is particularly interesting because Oftel,
while being a credible advocate competition, has generally been
less disposed than the FCC to "unbundle" network elements
for local access. Yet OFTEL now argues that the regulator should
use its power to force disclosure of the underlying network architecture,
and a form of mandatory mediation among all stakeholders about
how to make the architecture sufficiently nondiscriminatory in
order to blunt the worst effects of market power.
The OFTEL approach is one way to think about
an intermediary policy solution. It is not proposing anything
like unbundling of network elements or LRIC pricing. But it is
looking for a halfway house to the challenge explored in this
As such, OFTELs approach serves as an
important referent in the current policy debate. It recognizes
the problem and creates the condition for an informed and open
public debate to address it, rather than simply wish that it
will all go away if regulators let the Cable companies proceed.
Box One outlines OFTELs thinking in detail. Differences
in Oftels premises and the particularly the specifics of the
British policy and regulatory discussion mean that Oftels
answer may not be right for America. We would note, from the
perspective regulation that the recently announced Canadian policy
on Internet access is in fact much more intrusive. But surely
Oftels questions are the right ones.51
Finally, we would note in closing that it
would be highly desirable in itself if the United States again
established itself as the international policy leader for broadband
services. Silence in policy in the United States takes away Americas
significant advantage globally in shaping the policy for the
next generation of global Internet services. Problems about how
to assure competitive network infrastructure for broadband access
exist everywhere in the world. The FCCs silence creates
a leadership vacuum in the global policy area that others will
surely fill, perhaps with results that the United States may
BOX ONE : THE OFTEL APPROACH:
"As service providers provide an increasing
diversity of services across undifferentiated digital network,
relying on intelligence in consumers' equipment, it will become
even more important to ensure that the entry barriers are not
used abusively. (i) Regulators will need to
retain backstop regulatory powers to intervene in the market
to ensure interoperability. There should be a common framework
for intervention. This does not mean that regulators should set
standards. OFTEL believes that increasingly interoperability
will be based on voluntary agreements within the industry. The
regulators role should be to facilitate industry cooperation
and to police anti-competitive behaviour. Only if the benefits
from intervention clearly outweigh the potential adverse effects
should standards be imposed on the market. For example, one of
the main obstacles to the voluntary approach is that a consensus
can be undermined by standards imposed by a dominant operator
which become the de facto standard for a given service or application.
This outcome can be either benign or malign - or various shades
in between. Regulatory intervention may be justified to prevent
those with market power from imposing their own proprietary standards
on the wider industry where this raises others costs, prevents
or impedes market entry or otherwise distorts fair competition."
"OFTEL believes that the concept of interface
control may be the basis of a common approach to interoperability...
- mandatory publication of standards for all;
- mandatory consensus - seeking process for
operators with market influence backed by discretionary powers
for the regulator to intervene if this fails." Within this
type of rule there will need to be careful consideration given
to the role of intellectual property rights ('IPR')."
Source: OFTELs response
to the UK Green PaperRegulating communications: approaching
convergence in the information age," January 1999. http://www.oftel.gov.uk/broadcast/gpia0199.htm
Oftel further asserts: 4.25 Such ex ante rules are required
for those who act as "gatekeepers" but escape the legal/economic
definition of dominance (though they have the clear potential
to become dominant). Control of access gateways can distort downstream
markets. If such distortion occurs it would be extremely difficult
to redress after the event. In order to prevent such distortions
ex ante rules should apply where the consumer, or other
end-user of services, faces significant switching costs in moving
to another supplier or service. The rules should be subject
to a carefully defined "trigger" to avoid catching
any operator unnecessarily. They must also be applied in a way
which is technology-neutral (i.e. so that it is the market, not
the regulator, who determines the relative success of any competing
technologies). They should be the minimum necessary to allow
the downstream markets to function normally, without unnecessary
restriction or distortion of competition. OFTEL, "Beyond
the Telephone, the Television and the PCIII," OFTELs
second submission, March 1998, found at www.oftel.gov.uk/broadcast/dcms398/htm.
4.26 Specific rules for ensuring interoperability between different
operators, between operators and service providers, and between
different service providers are also required. Such rules are
likely to become increasingly important in the networked IT field.
As service providers provide an increasing diversity of services
across undifferentiated digital networks, relying on intelligence
in consumers equipment, it will become even more important
to ensure that the entry barriers constituted by the technical/proprietary
control systems embedded in customers equipment are not
used abusively. 6.8 This problem of balance is similar to issues
of interconnection and interoperability of telecommunication
networks. OFTELs experience is that regulatory intervention
in interconnection issues is likely to foster more positive outcomes
than unconstrained commercial negotiation and believes this to
be generally true for interoperability and bottleneck control.
About the Authors
**Francois Bar is Assistant
Professor of Communication, Stanford University; Director, Network
Research, Stanford Computer Industry Project (SCIP).
Stephen Cohen is Professor of City and Regional
Planning, UC Berkeley; Co-Director of the Berkeley Roundtable
on the International Economy (BRIE).
Peter Cowhey is Professor, Graduate School
of International Relations and Pacific Studies, UC San Diego;
Director, University of California Institute of Global Conflict
and Cooperation; former Chief, International Bureau, Federal
Brad DeLong is Professor of Economics, UC
Berkeley; formerly Deputy Assistant Secretary for Economic Policy,
United States Department of the Treasury; and a Research Associate
of the National Bureau of Economic Research.
Michael Kleeman, formerly Vice President of
Boston Consulting Group.
John Zysman is Professor of Political Science,
UC Berkeley; Co-Director of the Berkeley Roundtable on the International
Oxman, Jason. The FCC and the Unregulation of the Internet.
(OPP Working Paper No. 31). Washington, D.C.: Federal Communications
Commission. July 1999.
Bar, Francois and Michael Borrus. The Path Not Yet Taken:
User-driven Innovation and U.S. Telecommunications Policy.
See: "Net Access Probe Denied by FCC." San Jose
Mercury News. August 12, 1999, p. 4C.
Federal Communications Commission (Memorandum Opinion and Order)
CS Docket No. 98-178, February 17, 1999. para. 62.
Oxman, op. cit.
We thoroughly agree with Lawrence Lessig, and have adapted his
language here. Lessig, Lawrence. "The Cable Debate, Part
II." Industry Standard. July 26, 1999. See:
We are not here talking about regulation of the Internet, that
is, of the network of networks that make up the Internet nor
of dealings among the ISPs. Rather, we are talking about assuring
competition for access to the Internet over local networks, broadband
as well as narrowband, access that is necessary to avoid situations
that will require regulation in the future. Assuring an open
and competitive Internet requires open and competitive access.
Policies and proceedings like the Specialized Common Carrier,
Carterphone, Execunet and Open Skies decisions,
and the first and second Computer Inquiries, permitted
new entry into equipment, network and service provision.
established carriers with exchange facilities should,
upon request, permit interconnection or leased channel arrangements
on reasonable terms and conditions to be negotiated with the
new carriers, and also afford their customers the option of obtaining
local distribution service under reasonable terms set forth in
the tariff schedules of the local carrier." Moreover, as
there stated, "where a carrier has monopoly control over
essential facilities we will not condone any policy or practice
whereby such carrier would discriminate in favor of an affiliated
carrier or show favoritism among competitors." See Federal
Communications Commission, 29 F.C.C.2d 870; 1971, para 157. See,
also, In the Matter of Use Of The Carterfone Device In Message
Toll Telephone Service; Docket No. 16942; 13 F.C.C.2d 420; June
26, 1968; MCI v. FCC (Execunet I), 561 F.2d 365 (D.D.C.
1977), cert. denied, 434 U.S. 1041 (1978); MCI v. FCC
(Execunet II), 580 F.2d 590 (D.D.C.), cert. denied 439 U.S. 980
(1978); Computer I, 28 F.C.C.2d 267 (1971); Computer
II, 77 F.C.C.2d 384 (1980); Computer III Notice
of Proposed Rulemaking, F.C.C. 85-397 (Aug. 16, 1985)
See Expanded Interconnection with Local Telephone Company Facilities,
(Special Access Order) CC Docket No. 91-141, September 17, 1992;
Expanded Interconnection with Local Telephone Company Facilities,
(Switched Access Order) CC Docket No. 91-141, August 3, 1993;
and Third Computer Inquiry cite.
The FCC consistently argued that LRIC allowed the sharing of
network functions on terms that provided for a competitive return
on capital. The furious debate over LRIC for unbundled network
elements had this discussion as a critical feature.
We note that direct broadcast satellite services provide some
alternative to cable television services, as do wireless cable
services in some areas. Nonetheless, this does not change the
fact that cable television systems generally have market power
for multi-channel video services.
"OFTELs response to the UK Green PaperRegulating
communications: approaching convergence in the information age,"
January 1999. www.oftel.gov.uk/broadcast/gpia0199.htm
p.4 paragraph 13.
p. 59 of "Beyond the Telephone, the Television and the PCIII,"
OFTELs second submission, March 1998, found at www.oftel.gov.uk/broadcast/dcms398/htm
It defines an "open state" as a market where"
there is universal access control (ie, all consumers can enter
into a direct commercial relationship with the suppliers of electronic
information delivered over electronic networks) and no scarcity
of transmission capacity. (p. 9, par. 2.6)
e.g., It has been argued that we must "forbear from imposing
the Computer II regime on cable provided-Internet
access services," unless "the cable Internet platform
currently stands as an essential barrier to ISPs reaching their
customers," Esbin, Barbara. Internet over cable: Defining
the future in terms of the past. (OPP Working Paper No. 30).
Washington, D.C.: Federal Communications Commission. August 1998.
p. 96. This erroneously assumes that Internet service over a
phone line using a modem and over a cable line a cable modem
are identical productsif cable modems are the only feasible
broadband route to the home, such a barrier exists.
We recognize that the ISP/portal market and the broadband network
access market are different. For the purposes of simplicity we
do not spin out the distinctions throughout this paper. In our
discussion we treat ISPs as a vertically related market to network
access, but we also treat ISPs as a surrogate in some cases for
users. We think for our purposes that this suffices. In our conclusion
we return to the policy relevant distinction between the ISP
and broadband access markets.
Hamblen, Matt. "Cable Modems." Computerworld.
June 21, 1999. p. 89.
Kwok, Timothy C. "Residential broadband Internet services
and applications requirements." IEEE Communications 35
(6). June, 1997. p. 76-83.
Yet another alternative for certain forms of broadband networking,
broadband access over satellite networks, is primarily pertinent
to larger businesses and their related networks of suppliers
and distributors. This may change but the application for residential
markets is very limited and the situation for smaller firms remains
to be determined.
Infonetics Research Inc., cited in: DePompa-Reimer, Barbara.
"Cable modems, wireless networks slow to spark interest."
March 1, 1999. p. 34.
TeleChoice, cited in: Breidenbach, Susan. "Cant get
enough DSL." Network World. November 16, 1998. p.
55. Note also that DSL can at best send one or two switched video
channels. ImagicTV, cited in: Sullivan, Kristina B. "Video
is making its way onto ADSL." PC Week. July 27, 1998.
p. 81 The result will be that in a completely competitive market
DSL and Cable would likely evolve in different ways.
These limitations only apply to the copper portion of the loop.
Where DLC is used at the serving area interface (where distribution
and feeder cable meet), the only constraint will be on the length
of the copper distribution cable. Over time, more DLC is being
installed, so the percentage of lines with copper greater than
18K ft will decline. Although DSL is not now being provided over
DLC, there are many products now (on soon to be) on the market
that will make this possible. So I think the answer is that it
the percentage of lines where DSL cannot be provided will fall
significantly over time. DLC Trends presentation by Bellcore
at GR-303 Integrated Access Symposium, San Diego, CA, July 29-30,
1998 - www.bellcore.com/gr/GR303.html#forum. Ultimately 50%, or more of all suburban/urban customers
and 80% of rural customers will be served by DLC (assumes 9 kft.
beyond CO to trigger for DLC deployment). Nationally, the average
annual increase in DLC served lines is ~ 20% compared to an annual
growth in working lines of 2%.
26. Freed, Les. PC Magazine.
March 9, 1999. p. 172.
Yankee Group, cited in: Barrett, Randy. "Cable, phone lines
in battle for supremacy." Inter@ctive Week. January
25, 1999. p.69.
Gecko Research, "Market Statistics and Projections."
July 5, 1999. See: http://www.catv.org/modem/stats/
TeleChoice, "2nd Quarter 1999 xDSL Deployment
Summary." As of: August 10, 1999. See: http://www.xdsl.com/content/resources/deployment_info.asp
Cahners In-Stat Group, "Digital Modem Market Shares."
(Research Report CI99-04DS). Newton, MA. May 1999.
For example, the bandwidth used for high speed data services,
one might remark, is less than 5-8% of the total available on
a CATV system, although Cable two way connections certainly require
upgrades of the cable connection. Meanwhile ADSL customers will
have the benefit of a dedicated connection. The debate about
technical advantages cannot be separated from the particular
path that Cable deployment has followed.
32. Another alternative is
the next (or third generation) of mobile wireless services. While
high data speeds are often touted for these services, in practice
speeds of 56 kb/s are likely to be the limit for the next several
The Yankee Group estimates that 16% of computer users are willing
to budget $50 per month for high-speed Internet accessthe
approximate going rate by many accounts. Tedesco, Richard. "A
race with two tortoises." Broadcasting and Cable.
June 14, 1999. p. 80.
Obviously at this time, this is only a "problem" DSL
customers face since broadband cable customers are prohibited
from running any kind of server from their home through their
cable modem service, per the terms of their service agreement.
The cost of that operation depends on the ISP providing the DNS
service. For example, Pacific Bell Internet charges $100 for
its DSL customers to link their IP address to a domain name (or
to change such link)
Higgins, John M. "All for just $5,000." Broadcasting
and Cable. May 10, 1999. p. 16-18.
This represents $49.5 million of the value of @Homes present
subscriber base of 330,000.Estimate of @Home subscriber base
from Kinetic Research, cited in: Lash, Alex. "Surfing the
Skies." The Industry Standard. February 1, 1999.
p. 30. (Christian notes)
Goolsbee, Austan and Klenow, Peter. Evidence on learning and
network externalities in the diffusion of home computers. Unpublished
working paper. July, 1999. See: http://gsbpzk.uchicago.edu/GK.pdf
Bruce M. Owen and Gregory L. Rosston, Cable Modems, Access and
Investment Incentives (filed on behalf of the National Cable
Bar and Borrus, op. cit.
Larry Darby, "Open Access: The AT&T Internet Business
Case?" The Last Mile Telecom Report, August 12, 1999.
Providing broadband Internet access via cable modem is estimated
by the FCC to cost the cable operator $800-1000 per subscriber.
Federal Communications Commission. "Deployment of advanced
telecommunications capability to all Americans in a reasonable
and timely fashion, and possible steps to accelerate such deployment
pursuant to section 706 of the Telecommunications Act of 1996."
(Report) CS Docket No. 98-146. February 2, 1999. chart 2. Federal
Communications Commission. "Annual assessment of the status
of competition in markets for the delivery of video programming."
(Fifth Annual Report) CS Docket No. 98-102. December 23, 1998.
para. 40. DePompa-Reimer, Barbara. "Cable modems, wireless
networks slow to spark interest." Internet Week 34
(1). March 1, 1999.
Indeed, if switching costs are very high, there may be considerable
harm from a set of vertically integrated access/ISP providers.
Rather than competition, after the initial decision there may
be an information feudalism, a set of separated cyber communities
See: At Home Corporation. @Home Acceptable Use Policy.
http://www.home.com/support/aup/ July 13, 1999.; At Home Corporation.
@Home User Guide. http://www.home.com/support/netscape/
(Visited August 12, 1999); At Home Corporation. @Home Frequently
Asked Questions. http://www.home.com/support/netscape/faq/faq.html
(Visited August 12, 1999)
At Home Corporation 1998 Annual Report. February 29, 1999.
Ibid., p. 8.
Ibid., p. 9.
Ibid., p. 8.
Ibid., p. 10.
In effect, it is like the first DOJ consent decree with Microsoft
whereby Microsoft ended its licensing agreement provision that
charged OEMs for Windows on every system that they shipped (even
if the OEM had installed Unix or OS2 on the computer instead
OFTEL begins with some premises that the FCC might reject. For
example, OFTEL is especially concerned about settop boxes. And
its analysis of market power is influenced by the fact the underlying
network offering DSL in the UK has not been subject to unbundling
in the same manner as in the United States.