South-Western Economics  
Telecom Act Sends Unclear Signals
Subject Competition
Topic Monopoly
Key Words Telecom Act of 1986, competition, wholesale prices, incentives, monopolies, profit margins, prices
News Story

In 1996, the Telecom Act was signed into law, promising more competition in local phone and cable markets and in broadcasting. In the telephone market, for example, the intent was to create competition in local markets by only allowing the Bells to compete in the long distance market after they had opened their local networks to competitors at reasonable wholesale prices.

In practice, progress appears to be snail-pace. The Bells still control 93 percent of local phone lines. AT&T says that Bell's wholesale prices are too high, and where competition emerges, such as in New York, prices fall so much that barely any money is made. It is also unlikely that competitors will build their own local networks. It does not make economic sense. Supporters of the Act say that Bell rivals increased their share from 4.4 to 6.7 percent in the first half of 2000.

The Bells have shown little interest in competing for long-distance business. Some observers note that the incentives to abandon local monopolies are poor due to the low profit margins in long distance service. Local phone prices are up 12.1 percent. The seven regional Bells have now merged into four.

The Bells argue that they should be allowed into the long distance market, but that would remove the incentive for them to open their local markets to competition. Others argue that Bell wholesale prices should be lowered. It is unlikely that cable will provide local competition due to the problem of converting cables into two-way phone conduits. A better hope is for wireless and Net-based services to provide competition.

(Updated July 1, 2001)

Questions
1. a) Draw a diagram of the monopoly position of a local Bell telephone company. Include the marginal cost and average total cost curves and the demand and marginal revenue curves. Show the equilibrium number of calls and the price, and the amount of profit.
b) Explain how allowing competition would affect the price and number of calls in the local market.
2. Identify the barriers to entry in the local telephone service market. Refer to the news story and explain how they preserve local Bell monopolies.
3. If wireless and Net-based services take market share away from a local Bell, what would happen to the demand curve and the marginal revenue curve of the local Bell? How would the price of a call, the number of calls, and the amount of profit be affected?
4. The long-distance telephone service market has lower profit margins. How do you explain this?
Source Paul Davidson, 'Is Telecom Act 'a complete failure,'' USA Today, February 8, 2001.

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