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Did Telecom Reformers Dial the Wrong Number?

Deregulation: A 1996 landmark law may be at the root of the industry's meltdown, analysts say.


As the wreckage of once-highflying telecommunications companies such as WorldCom Inc. and Global Crossing Ltd. piles up, attention is turning to whether the root of the disaster lies in the sweeping deregulation set in motion in the mid-1990s that was expected to usher in a golden age of competition.

Prices would fall, service would improve and everyone would make more money. Anticipation ran high that the industry was on the verge of explosive growth, fueled by the still-nascent Internet, wireless phones, satellite television and other telecommunications services that would keep the public in a state of constant connection.

Much of that vision was flawed, leading to more than $2 trillion in investment, much of it squandered in ways that may cause lasting economic damage. On Tuesday, two major telecommunications firms reported quarterly losses of more than $20 billion and said they would cut more than 7,000 jobs.

The telecommunications industry is awash in red ink and tens of thousands of jobs have been lost. Some analysts believe the bankruptcy filings of WorldCom and Global Crossing, two of the most aggressive new companies to arise during deregulation, presage more to come. Since their peak in March 2000, telecommunications stocks, as measured by the American Stock Exchange index of 16 North American companies, have fallen more than 74%.

The meltdown has occurred under the legal structure set up by the Telecommunications Act of 1996. Critics complain that the act has led to poor service and higher costs for consumers, with some of those costs hidden in a proliferation of oddball fees.

"Telecom deregulation from '96 until now has been an abysmal failure," said Gene Kimmelman, director of the Washington office of Consumers Union, publisher of Consumer Reports magazine.

The telecom industry bust adds support to critics' contentions that deregulation has failed to live up to its promise in this industry, as it did in airlines, banking, energy and cable television.

In each of those, the original expectations that huge numbers of new companies would increase competition, improve service and reduce prices have given way to the reality of oligopolies controlling large chunks of the marketplace in ways that leave customers discontented.

More than two decades after the airlines were deregulated, for example, only eight airlines carry the vast majority of passengers and dictate where they'll provide service. Dozens of new entrants have tried to compete and failed, and many of the survivors remain chronic money losers. The industry lurches from one crisis to the next--labor discord following fuel price hikes following security debacles. Consumers constantly grouse about airline service. Leisure fares have continued to drop, but business fares have surged.

But whether the same scenario is playing itself out in communications--and whether the 1996 act has been a failure--is still open to debate. There is little question that deregulation has led to dramatic changes in the nature of the U.S. telecommunications industry, but there also is little question that those changes have unfolded in ways the law's backers and the industry's investors never expected.

When the reform act was written and passed, it seemed that all telecommunications services were about to converge. It would not matter whether one got one's phone service from a local or long-distance phone company, a cable television or Internet service, even via satellite. All that was missing was a way for all these providers to compete with each other on an even keel, ignoring geographic boundaries, technical specifications or regulatory traditions.

Three key assumptions underlay the law. The first was that the lucrative prize for most competitors would be long-distance service. The drafters reasoned that local phone companies--General Telephone and the seven Baby Bells created by the 1984 breakup of AT&T--would be so eager to move into long-distance that they would willingly open their local monopolies to competition to earn the right to offer it to customers.

The drafters also assumed that the Baby Bells would jump at the chance to compete for local customers in one another's markets, triggering even more consumer savings. Finally, they assumed that falling prices would lead to an explosion in telecommunications traffic.

All these assumptions turned out to be fundamentally wrong.

The long-distance market, which had been deregulated earlier, was already experiencing ferocious price competition, with per-minute rates dropping and profit margins shrinking by the day. Instead of the Baby Bells wanting to get into long-distance, companies such as MCI and AT&T were desperate to start providing local service.

But the local phone companies, often supported by their state public utilities commissions, resisted opening their markets.

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