The Honorable Jim Bunning
United States Senate
818 Hart Building
2nd and C Streets, NE
Washington, D.C. 20510
Dear Senator Bunning:
This letter will violate almost every piece of advice commonly given to people communicating with their elected representatives who hope to actually have their letter read. It will be too long and not nearly concise enough, but the issues of competition in the electric power market in general, and with the Tennessee Valley Authority (TVA) in particular are too important and complex to be reduced to a simple executive summary.
Over the last several months you have made some very troubling statements about TVA and, by association, public power. While this letter is not a preprogrammed no-holds-barred defense of the status quo and of the present direction and leadership of TVA, it is intended to help you understand the reasons why public power should be defended and why a strong TVA is vital to the economic health of our region and, perhaps, our republic.
In the May 17, 2000 issue of The Courier-Journal, you were quoted as saying, "It's just not fair that we have a system that makes you pay more for your power because you live on the wrong side of the fence." This statement resonated with me as it is the same statement that another republican senator, George Norris of Nebraska, was making seventy years ago. Before TVA and the rural electric cooperatives were brought into existence, Norris and many others were becoming outraged at the actions of the privately owned electric utilities of the day. They found that the private corporations had monopolized the electrical industry and that they sold electricity at the highest rates they could possibly obtain. Norris himself compared the costs of lighting the Canadian and American sides of the International Bridge at Niagra Falls. The same number of lights, the same bridge, the same river and the same method of production of power; the only difference was the price: Ontario Hydro Power (a government-owned utility in Canada) charged only $8.43 per month for the Canadian half of the bridge, while the private U.S. corporation billed $43.10 per month! So, your feelings about the problem with rate disparity on each side of a fence are not new, but today's rate disparities certainly pale when compared to those that existed before TVA and other public power entities were created.
Today LG&E and AEP have slightly lower rates for most customer classes than TVA. That has not always been the case. In the case of LG&E and AEP, their low rates stem mainly from their decisions over the last several decades to refrain from investments in nuclear reactors and to stick to coal fired generation. At the same time, these utilities were not asked to build extremely large and expensive reactors and generators during the last several decades for the purpose of helping our country maintain its nuclear deterrent. TVA has performed many tasks beyond the goal of enriching its stockholders. Some of these activities have not been profitable. Some of their decisions have not been good. But, taking the last several decades as a whole, their rates have been lower than the aforementioned private utilities. Who is to say, given the unknowns of clean air requirements and the like, that the results of the next several decades, taken together, will be any different? Making the sort of attack you are presently making against TVA because their rates are slightly higher than their neighbors to the north today seems really short sighted and arbitrary.
As you probably know, TVA was born at the Wilson Dam at Muscle Shoals, Alabama. When Wilson Dam first began producing power, before the creation of TVA, Alabama Power Company owned the only transmission line from the dam. In those days, the War Department, who had responsibility for the dam, had no alternative but to sell the government's power to the private utility at the ridiculously low rate of two-tenths of a cent per kilowatt-hour. Alabama Power, meanwhile, sold that same energy to residents of Florence, Alabama, within stone throwing distance of the dam, for ten cents per kilowatt-hour. They were making a 5000 percent profit! Now this is the sort of rate discrepancy we should all be worried about. That is the outcome we should expect if the balance of competition between public power and private power is upset. The old adage, "history repeats itself," should be the principle guiding all considerations of changes to the electric power industry.
Your recent statements, and some elements of the amendment you are proposing to the deregulation bill, could undermine the competition that customers have enjoyed for decades. The dynamic of competition between the government-owned utilities and the privately owned utilities has made the scenarios mentioned above disappear. However, you seem intent upon weakening one side of the equation. To keep the electric power industry from becoming a mirror of today's Microsoft dominated software industry, and to prevent the return of the price gouging described above, the democratic state must be more powerful than any private concentration of wealth. We need a strong and affirmative government and strong public power systems if we are to preserve our present low-cost power and our republic.
It is true that Franklin Roosevelt and George Norris, the brains behind the creation of TVA, would hardly recognize their "grand experiment" today. In the beginning, the TVA Board was filled with great dreamers, engineers, and public servants intent upon their task of delivering a new technology to a vast region of the country which desperately needed it. At the same time, they recognized their place in the battle against corporate greed and corruption. In the last forty years, much of that vision and determination has been lost, but that is no reason to disband the army. TVA is still vital to the creation of a competitive environment for electric power. Indeed, they could also be a major factor in creating the same sort of success story for the democratization of broadband telecommunications as they created for the democratization of electric power. Attached to this letter is a paper written a few years ago urging them to take up that gauntlet. Unfortunately, they have ignored that opportunity. We can only assume that this is a result of the leadership which has been assigned to TVA in the last several decades and the constant attacks they experience at the hands of Congress and private power companies.
Luckily, you and the Senate can correct both of these problems. You and the rest of the Senate should only confirm the nominations to the TVA Board of persons with the real expertise to lead such an important agency. We urge you to press for a revitalization of TVA and public power instead of further weakening them. In restructuring, press for true competition, the kind we had in the thirties and forties. Do away with all "fences" and prescribed territories. Challenge the private and public utilities to come to the field of battle with fewer rules instead of more. Let customers vote for whom they want to buy power from by giving them free and open access to the market. Make sure that private consolidation, like that which we are seeing in Kentucky with PowerGen taking over LG&E and KU, is not allowed to repeat history by monopolizing the market and setting rates without regard for the actual cost of generation and transmission. Keep a strong and willing army, or a "birch rod in the cupboard" as Franklin Roosevelt called it, in TVA and other public power companies, that is capable of setting the standard, doing battle when necessary, and making sure there is always competition in the electric power and other infrastructure dependent marketplaces.
At the Glasgow Electric Plant Board, we have actual experience with full and open competition. We constructed a municipally owned broadband network more than eleven years ago. We use that network to bring true head-to-head competition to a private cable television operator. We also use that network to make the people of Glasgow among the first in the nation to receive high speed Internet access throughout the community. If you are interested, there is a wealth of information about our project at www.glasgow-ky.com. We believe true full and open competition should be the goal of any effort to restructure the electric power industry. We believe you can play a starring role in creating this new environment.
In Kentucky, thirty cities and towns have decided that they want to operate their own public power systems for the benefit of their citizens. They serve more than one-half million customers. We believe our existence creates the competitive environment which has helped cause the private utilities to lower their rates and improve their services. We also believe that local governments should always have the right to provide services which their citizens ask them to provide. We implore you to consider the wisdom of the people of these thirty communities and join us in preserving and increasing the competition which has benefitted our communities for so many years.
Respectfully,
William J. Ray, P.E.
Superintendent
WJR/sh
Enclosure
Years before people spoke of the "information superhighway," a small town in Appalachia created a communications system that is now the envy of today's Silicon Valley. Residents receive cable television, telephone service, and fast Internet service over a single wire. The fiber optic network is not a pilot project for a major telecommunications venture, but an effort by a municipally owned electric utility designed to implement an energy conservation program. Municipalities across the country are now following the model of Glasgow, Kentucky.
Local governments commonly pave streets, supply water and gas, haul trash, and provide electricity. Local governments have now begun providing the next utility: the efficient provision of information through fiber optic networks. These initiatives, undertaken by local governments, have provoked legislative, administrative, and judicial disputes at the state and federal levels. These disputes question the authority of local governments to include communications among the other utilities provided to their citizenry.
This article will attempt to explain why, in an era of privatization, local governments have begun municipalizing communications services. First, municipalization is a trend arising as a response to monopoly in the cable television and local exchange telephony markets. Milton Friedman remarked that natural monopolies produced three evils among which we must choose: private monopoly, public regulation, or public monopoly. Unregulated and regulated private monopolies in the communications industry have been found unpalatable. Municipal utilities are a viable alternative. History shows that municipal utilities have provided electric service with a level of efficiency on par with that of regulated private utilities.
Second, municipal utilities are the best entities to provide broadband services because the Internet is a public good. Private cable operators stand to gain little from upgrading their systems to interactive platforms, as the benefits they gain from Internet provision are limited to access fees. High access fees, however, reduce the utility of the Internet. The Internet is a true public good and its benefits are maximized through fast access and low fees. Publicly owned utilities offer the lowest possible service rates, and so are the best providers of Internet access.
Third, municipally owned utilities may be less prone to shirk than private firms. Federal law has weakened the franchising authority of municipalities, leaving private firms unbeholden to the demands of local communities. Municipalization has emerged first in smaller towns where forces of social coercion render public officials more responsive than absentee private managers.
This article will then address current political and legal conflicts regarding municipal communications utilities. Federal law generally permits and encourages provision of communications services by all prospective market participants. State law, however, increasingly prohibits municipalities from providing communications services. The political process behind the passage of these state laws will be discussed and it will then be argued that the strong preemption language of the Telecommunications Act of 1996 does protect municipally owned telecommunications systems from anti-competitive state laws. Additionally, a recent decision by the Federal Communications Commission ("FCC"), which refused preemption of an anti-competitive state law will be rebutted.
The article will conclude that local governments should provide advanced communications services in the same manner that they provide water, gas, electricity, and sanitation services. Electricity, at the opening of the twentieth century, granted citizens access to new services that reshaped their lives. Now, on the eve of the millennium, fiber optic technology is offering vast new services that, like electricity, will transform local economies and personal lifestyles. State laws that prohibit municipalities from providing communications services are antagonistic to principles of local autonomy and are expressly contrary to federal law. In the words of Franklin Delano Roosevelt, local governments should be able to keep a "birch rod in the cupboard" and be free to establish municipally-owned utilities to correct for the failure of incumbent firms to pave the information highway.1
II. Local Governments Are Paving the Information Highway
Throughout the 1990s Americans have heard politicians, businessmen, and social visionaries promoting the coming of the information superhighway. Vice Presidential candidate Al Gore coined the phrase "the information superhighway," and promised the electorate the creation of a national "infostructure" that would be as critical to the national economy as the interstate highway network that his father helped establish in the 1950s.2 Business leaders are charting the development of a cybercommerce, which is predicted to be worth as much as $150 billion within the next decade,3 while futurists predict that interactive networks will revolutionize democracy, provoking a decentralization of government and a resurgence of Jeffersonian ideals.4 The media have become saturated with news of the information highway, and yet the vast majority of American homes are still served by traditional broadcast or cable TV and "Plain Old Telephone Service" (POTS). Representative Edward J. Markey, Chairman of the House Subcommittee on Telecommunications and Finance, summarized the hype and reality of the information highway by saying: "The good news from Washington is that every single person in Congress supports the concept of an information superhighway. The bad news is that no one has any idea what that means."5
A. Municipal Broadband Projects
The information highway is coming, and some of the first places in the world to have fast and easy access are small towns that have decided to municipalize their communications utilities. [FN21] The New York Times recently reported that a "creeping socialism" has appeared in America, and that local governments have taken the initiative to bring the long-promised "information highway" to their citizens:
In an America where free-enterprise advocates have routed their critics, few people would expect local governments to plunge into competition with the private sector in the fast-evolving information industries. Yet that is what is happening in a growing number of communities.6Local voters, often in sweeping majorities, have approved bond issues to finance broadband networks. For example, an Alta, Iowa referendum realized an eighty-eight percent voter approval rate.7 In Muscatine, Iowa, ninety-four percent of the voters sanctioned the bond issue.8 Similarly, in Spencer, Iowa, the incumbent cable company out-spent proponents 130-to-1, and voters nonetheless approved the project by a ninety-one percent majority.9 In Coldwater, Michigan, voters first rejected a proposal to issue general obligation bonds to finance a broadband network, but subsequently approved an issue of revenue bonds.10
Municipal broadband networks have begun appearing around the country. The first municipal broadband network was created in 1989 in Glasgow, Kentucky.11 Other cities that have established, or are planning, such networks include Anaheim, California;12 Detroit Lakes, Minnesota;13 Batavia, Illinois;14 Gainsville, Florida;15 Lincoln, Nebraska;16 Newnan, Georgia;17 and Milpitas, California.18
This article will ask three basic questions about municipal communications utilities. First, why do communities want them? Second, can the municipalization of these utilities be justified economically? And third, do communication laws protect these municipal utilities against politically powerful incumbent carriers?
B. Benefits of Broadband Networks
Why would a municipality be interested in establishing broadband networks? Voters approve these initiatives to gain improved cable television, telephony, and Internet access. Other benefits derived from broadband networks include: improving the efficiency of electricity distribution, preserving the lifetime of streets, providing better governance and attracting business.
1. Better Cable Television, Local Telephone and Internet Service: Municipalities can improve the quality of their services by municipalizing communications utilities. Private, incumbent firms permit their physical facilities to deteriorate and their support services to lapse in the absence of competition. In the cities and towns where municipalization has occurred, residents had been complaining of poor cable television reception, programming black-outs, lack of channels, poor response to service calls, and high monthly fees.19 Such rural towns are particularly dependent upon cable lines for communication, as mountains and distance from broadcast centers precludes over-the-air broadcast reception.20 In the rare instances where head-to-head competition exists for communications services, access fees plummet and services improve.21 For example, prior to the creation of the Glasgow municipal broadband network, the incumbent cable operator offered twenty-four channels at $14.25 per month. Upon arrival of competition, the operator began offering forty-five channels at $5.95 per month.22
2. Improved Efficiency in Electricity Distribution: Advanced communications facilities improve the efficiency of electric utilities. The broadband network in Glasgow, for example, was originally designed as a means to promote energy conservation.23 Glasgow's Electric Plant Board reports saving about three kilowatts of peak demand per home since the creation of its communications system.24
3. Longer Lifetimes of Streets: Local governments seek to preserve the quality of their streets by preventing excessive cutting of pavement.25 Cuts dramatically reduce the life of pavement. By establishing a municipally owned broadband network with sufficient capacity, a local government can lease bandwidth to incoming competitors and allow for orderly development of the local infostructure without imposing undue burdens on their streets.
4. Improved Governance: Broadband networks are also a means for local governments to improve the services offered to their citizens. Schools, libraries, and hospitals have obvious needs for improved communications. Other government divisions which would benefit from broadband networks include land use committees,26 police stations,27 fire stations,28 public works,29 and city hall.30
5. Magnets for Attracting Business: Local governments also hope to attract businesses to their communities by creating broadband networks. Many businesses, such as banks and stock brokerage firms, rely on continuous streams of data. Some fiber-optic companies (competitive access providers, or "CAPS") have laid small networks to target these businesses. Piecemeal fiber networks have proven unsatisfactory, as occasional breaks in service interrupt critical data streams. The solution to this problem is to build a fiber-optic loop which permits the uninterrupted flow of data even if one point of the loop is broken. CAPS, which serve only the most lucrative customers, may be unwilling to construct a broader loop connecting other sites. Local governments, seeking to wire schools, libraries, and other services, may be the best entities to lay the fiber loops that attract business.31
6. Summary: There is broad interest in upgrading communications facilities. Residents, existing electric utilities, commercial establishments and local governments themselves can all benefit from the creation of broadband networks. The key question, however, is that if the demand for improved services is real, then why doesn't the private sector step in and provide the services itself? Are there true efficiency gains to be made from municipalizing the information highway? This article argues that there are three normative bases for promoting municipalization of broadband networks: (1) in monopoly markets, public firms are as efficient, or more efficient, than regulated or unregulated private firms; (2) municipal utilities are the best entities to provide Internet access, as the Internet is a true public good whose benefits are maximized by fast, cheap access and; (3) public ownership is superior to private ownership where the lack of competition and franchising oversight leaves private management free to shirk.
III. Municipalization Is a Response to the Problem of Monopoly
Municipalization may be the best response to the problems of monopoly in the communications industry. Economists have long recognized that there is no good solution to contend with monopolies. Milton Friedman, for example, has stated:
When technical conditions make a monopoly the natural outcome of competitive market forces, there are only three alternatives that seem available: private monopoly, public monopoly, or public regulation. All three are bad so we must choose among evils.32If effective competition is not available in a given market, the choice must be made among the "evils" of private monopoly, public monopoly, or public regulation. Incumbent cable and local telephone companies are monopoly providers of their respective services. Advances in technology have promised to break these monopolies, but have failed to give rise to effective competition that would alleviate the need to choose among Friedman's three "evils." As long as monopoly conditions persist, public monopoly is as viable an ownership model as the "evils" of regulated or unregulated private firms.
This section of the article will explain the persistence of monopoly in the cable industry. Cable lines are the critical infrastructure for the growth of the information highway because they have sufficient bandwidth to provide the full range of services promised by the digital age. Monopoly in the telephone industry will not be discussed because telephone wires lack broad bandwidth. Instead, the focus will be on emerging technologies that have promised to offer competition to the cable industry in markets for non-interactive and interactive video services. The first considered will be technologies that have attempted to rival the cable industry in distribution of one-way, non- interactive video programming. Secondly, the present technologies that promise development of two-way, interactive communications networks will be considered. This section of the article will conclude that these rival technologies have been unsuccessful in competing with cable, for reasons involving technology, finance, and politics. The dominance of the cable industry over the one-way, non-interactive video distribution market is particularly detrimental to the public interest because it insulates the cable industry from competitive forces that would compel the upgrading of its plant to offer two-way, interactive networks. Municipalities that desire development of the information highway should not wait for it to be paved by the cable industry, because the industry has no incentive to do so.
A. Cable's Monopoly Over the Market for One-Way, Non-Interactive Video Programming Distribution
Terrestrial cable companies dominate the market for multichannel video programming distribution. Of those homes that receive more than over- the-air broadcast television, eighty-seven percent subscribe to cable.33 Over sixty-four million homes subscribe to cable nationwide.34 Cable has survived the challenge of rival technologies in the video distribution market. The following are the main sources of competition to cable, as well as the reasons for the liability in breaking the monopoly enjoyed by the cable over the market for one-way, non-interactive video programming distribution.
1. Direct Broadcast Satellites: Direct broadcast satellite services are viewed as the best source of competition for cable. Two direct broadcast satellite ("DBS") firms, EchoStar and DirecTV, offer transmission of hundreds of channels of digital-quality video programming to owners of fourteen-inch receiving dishes. DBS service has become increasingly popular, serving approximately 5.5 million subscribers.35 DBS services, however, face numerous difficulties that limit its viability as competitors to cable. First, DBS service is expensive. Second, technical and legal constraints prevent DBS providers from carrying local programming.36 Third, the cable industry helped block a key merger between a DBS firm and Rupert Murdoch's News Corp. that would have strengthened the competitive edge of the satellite industry.37 2. Cable Overbuilders: Some cable markets permit duplicative competition. New entrants have overbuilt the systems of incumbent providers in over eighty markets, however, the vast majority of cable markets have not supported competition.38
3. Wireless Cable: Wireless cable offers an attractive alternative to traditional cable industries. No wires need to be extended to individual homes, and no franchises need to be obtained from local governments for use of rights of way. This technology is formally known as multichannel multipoint distribution service ("MMDS"). MMDS employs transmitters that can be affixed to existing utility or street light poles, beaming signals straight to the home. MMDS has a primary limitation in that it requires "line-of- sight" vision that restricts its utility in neighborhoods with many trees. Phone companies such as Bell Atlantic, NYNEX, and PacTel, which had invested heavily in wireless systems, suspended their programs in 1996.39
4. Open Video Systems: The Telecommunications Act of 1996, opened the way for telephone companies to construct their own cable networks. The open video system ("OVS") provisions encouraged the entry of telephone firms into the video market by lifting various regulations, including common carrier obligations. However, telephone companies have not pursued this option. OVS systems have been built in only a handful of markets.40
B. Lack of Competition in the Market for Two-Way, Interactive Networks
The cable industry alone has the favored technology to develop two-way, interactive broadband networks. Current communications networks--cable and telephone wires--lack the combination of switching capacity and broad bandwidth that are necessary to permit the growth of the information superhighway. Cable companies can deploy what many experts consider to be the best technology for broadband networks--cable modem technology.41 Despite the potential benefits of cable modems, cable operators lack incentive to develop this technology. This Section will discuss briefly some technical aspects of broadband networks, and then consider technologies that have promise to spur development of the information highway. After demonstrating that the other technologies fail to rival the cable industry, it will be asserted that the cable industry lacks incentives to deploy its favored technology. Municipalities wanting to promote development of the information highway should not wait for the cable industry to provide this resource.
1. Technical Characteristics of the Information Highway
As a preliminary matter, this discussion requires a brief technical description of the information highway. The telecommunications community refers to the information superhighway as "broadband networks."42 Broadband networks are characterized by the convergence of three primary services: voice, data, and video. These three services can be carried on the same wire if the network architecture has two primary components: switching capacity and broad bandwidth. Briefly stated, telephone wires have switching capacity, but lack broad bandwidth;43 cable wires, by contrast, have broad bandwidth but lack switching capacity.44 The challenge for the information superhighway is in combining the switching capacity of telephone service with the broad bandwidth of cable systems. These features must be present not only in the trunk lines of the networks, but must also be continuous to the home. The final segment of the networks--the "last mile" to the home--is the most costly to lay.
2. Failure of Telephone, Satellite and Wireless Cable Companies to Provide Access to the Information Highway
Various industries have sought to provide competitive access to the information highway, but the technologies have been slow to emerge. This Section will review some of the most promising means for bringing competition to Internet access.
Cable/Telco Mergers: In the early 1990's,45 cable operators and telephone companies first proposed the integration of their systems.46 The mergers collapsed when increased cable rate regulation reduced the cable industry's profits, and the phone companies' inspections of cable facilities revealed the high costs of system upgrades.47 Similarly, a 1998 proposal between AT&T and TCI met with shareholder resistance.48
Telco Initiatives: The telephone industry is pursuing unilateral ways to improve its transmission capacity. It has developed technologies called Integrated Services Digital Network ("ISDN") and Asymmetric Digital Subscriber Line ("ADSL"). These technologies are favorable from the standpoint of the telephone companies because the companies need only make improvements at central switching facilities and at the customer's site. The technologies are unlikely to gain wide acceptance, however, because their transmission speeds are too slow. Video, for example, cannot be transmitted in real time over either technology.49
Wireless Cable: Wireless cable offers an attractive alternative to traditional cable for the provision of broadband networks. However, the technology requires line-of-sight transmission. Prominent investors have pulled out of this technology.50
Low Earth Orbit Satellites: The satellite industry is planning to provide advanced telecommunications services through low earth orbit ("LEO") satellites. Companies such as Teledesic and Iridium are currently developing fleets of several hundred satellites that will hover in geostationary orbits at relatively low altitudes to provide world-wide telephone and Internet service.51 The LEO initiatives suffer from fundamental drawbacks because the portable receivers will be large and expensive,52 and because the satellites themselves are an unknown technology.53
3. Lack of Incentives in the Cable Industry to Deploy Favored Broadband Technology
Cable companies are pursuing what many experts consider the favored technology for broadband networks--cable modem service.54 Cable modems are modems that operate over cable lines rather than telephone lines. This not only affords fast access, but it also gives the consumer uninterrupted access to the Internet without tying up the telephone line. Despite the potential benefit of cable modem technology, cable operators have been slow in developing this technology. There are three primary reasons for this: 1) upgrades are expensive; 2) cable operators may have little direct interest in upgrading their systems; and 3) little competition is compelling an upgrade.
Cable upgrades are expensive. Two main developments are present in an upgrade. First, cable operators have devised a way of reversing the flow of a portion of the data stream. This allows users to send signals "upstream" to a central facility, which then sends "downstream" the requested movies, Internet sites, or voice conversation. Second, cable companies have developed the switching capacity that makes this interactivity possible. This is extremely costly for two reasons: 1) the actual wires to the home need to be replaced; and 2) the network architecture needs to be reconfigured. Cable companies can only justify the costs for this network transformation in a handful of lucrative markets where they predict high consumer demand for advanced telecommunications services.55
However, cable companies lack incentives to provide Internet access. Cable operators earn revenue from the programs they carry, either through advertising revenue generated from cable-owned programs, or through carriage fees imposed upon independent programmers.56 Competition from Internet-based programming will drive down the advertising revenues and carriage fees that cable operators reap from existing programming.57 Notwithstanding access fees, cable operators may gain little from Internet provision.58 Although cable wires offer the best network technology for the provision of information services, it remains unclear whether cable companies have an interest in providing access to the Internet.
Cable companies also resist incurring the costs to upgrade their systems because they are not subject to effective competition. If rival communications firms could better challenge cable's dominance of the one-way, non-interactive programming distribution market, cable operators would be compelled to offer two-way services as an additional feature to secure customers. The telephone companies, satellite firms, and cable over-builders have failed to challenge cable's dominance. Absent strong competition, and absent independent incentives to upgrade networks, it is unclear what market forces will compel cable operators to deploy broadband networks.
C. Summary
The cable industry maintains a monopoly over the distribution of video programming. Rival technologies have failed to break cable's dominance in the market for one-way, non-interactive video services, and have yet to offer a practical means of providing two-way, interactive services. The cable industry has been successful in suppressing the emergence of new technologies, and Congress has failed to stimulate competition in the communications market through regulatory incentives in the Telecommunications Act of 1996. No viable sources of competition have emerged that seriously challenge incumbent communications carriers. Local telephony and multichannel video programming distribution will likely remain monopoly industries for the foreseeable future. These monopolies are particularly detrimental to the public interest because they suppress development of the information highway.
IV. The Emergence of Municipal Broadband Networks Parallels the Rise of Publicly Owned Electric Utilities
If communications utilities are natural monopolies, then what is the best way to contend with them? As Milton Friedman asked, which of the "three evils"-- private monopoly, public monopoly, or public regulation--must we choose? The answer to this question in the cable industry is informed by analogy to the electric industry. The electric industry is particularly relevant because of the broad proliferation of municipally owned electric utilities. As with broadband networks, municipal ownership of electric utilities began in smaller towns. Like the Internet, electricity first emerged as a novelty. Electricity soon grew from an innovation to a commodity, and towns refused to endure the abuses of private monopoly. By the early 1900s, some of the largest markets in the country had established publicly owned electric utilities. Municipalization, having begun in small towns, became one of the top political issues of the century. Debate raged over whether this new technology should be exploited by capitalist "robber barons" or seized by government-seated "Bolsheviks." Technological and regulatory changes have since diminished the prominence of publicly owned electric utilities, but their past popularity and their continued economic viability attest to the practicability of employing publicly owned utilities as a solution to the problem of monopoly. This section will draw a parallel between the currently-observable trend of municipalization in the communications industry and the history of municipalization in electricity.
What were the reasons for municipalization of electricity? Municipally owned electric utilities began in small towns that presumably could not attract private investors.59 Municipal utilities were particularly common in cities of 5,000 residents or less.60 The higher incidence of municipal ownership of electric utilities, in small communities, does not necessarily indicate that local governments were the preferred providers of electricity. Rather, citizens may have been forced to choose between municipal power or no power at all.61 Municipal utilities, therefore, filled a void and brought electricity to communities that would have otherwise been left "in the dark."
Municipal ownership of electric utilities flourished in the late nineteenth and early twentieth centuries. In every year from 1894 to 1925, fifty or more new public utilities were formed.62 In 1912, municipal utilities constituted thirty-two percent of the total number of power facilities in operation.63 At the peak of public power in 1923, public utilities were found in 3,083 municipalities.64 The continuous rise in the number of public utilities over thirty-one consecutive years attests to the support these utilities enjoyed from the local voters.
Municipalization then spread from small towns to big cities. Electricity had grown from a novelty to a necessity, and the market evolved from competition to monopoly. Citizens and political leaders were already sensitized to the practices of other monopoly industries, notably the railroads, and they anticipated the chokehold that electricity robber barons would exert over customer communities. Municipalization, once a response to the absence of private capital, became a solution to the problem of monopoly. Every year from the turn of the century through the early 1920s, dozens of municipalities bore the cost of eminent domain to acquire private electric companies.65
In one case, the City of Detroit acquired the Detroit Electric Light and Power ("DELP"). Detroit's mayor, Hazen Pingree, had recently been elected promising to create a city-owned power system. After violent competition between two private companies culminated in a merger that threatened to subject Detroit to a monopoly provider, citizens approved Pingree's proposal for a municipally owned utility by a vote of 15,282 to 1,745.66 "True to [Pingree's] calculations, the cost of street lighting in Detroit declined from $132 a lamp per year in 1894 to $87 per lamp under municipal ownership in 1898 and to $63 by 1902."67 DELP's general manager, William H. Fitzgerald, projected the impact of Detroit's municipal utility on other cities: "'If the city were to do its own lighting at about half what other companies bid, it would establish a bad precedent, . . . and other cities that are now lighted by companies owned by the General Electric Company would be apt to follow Detroit's example."'68
The City of Cleveland also acquired its local power company, the Cleveland Electric Light Company ("CELC"). CELC, which had begun as a small private illuminating company, had since been acquired by J.P. Morgan's company, General Electric. Voters approved the City's takeover of CELC, despite Morgan's attempt to derail the referendum. Morgan also tried to stop the city's efforts to raise money for construction of a large electric plant. The City of Cleveland succeeded in raising the capital and, in 1914, was able to provide power at the rate of three cents per kilowatt hour, in contrast to CELC's prior rate of ten cents per kilowatt hour.69
The excitement over municipalization filtered up to the presidential campaign of 1932. Candidate Franklin Delano Roosevelt proclaimed:
[W]here a community, or a city, or a county, or a district, is not satisfied with the service rendered or the rates charged by the private utility, it has the undeniable right as one of its functions of government . . . to set up . . . its own governmentally owned and operated service . . . [T]he very fact that a community can, by vote of the electorate, create a yardstick of its own, will, in most cases, guarantee good service and low rates to the population. I might call the right of the people to own and operate their own utility a 'birch rod in the cupboard,' to be taken out and used only when the child gets beyond the point where more scolding does any good.70The prominence of municipal power has since diminished, largely for two reasons. The advent of alternating current favored the growth of large, centralized generating plants. Municipalities did not have the economies of scale to compete with these plants, and many divested.71 The rise of state public utility commissions also provided consumers with assurance that private utilities offered fair rates, which diminished the political appeal of publicly owned power.
The degree of the historical debate over electric utility municipalization is remarkable when compared with the relative silence today over municipalization of fiber-optic networks. As with electricity the Internet may become a utility that the public demands to be provided publicly. This trend has been documented in smaller towns, and may accelerate to larger cities if it can be shown that public communications utilities can provide better service than private providers.
V. Regulatory Effects Attenuate the Efficiency of Regulated Privately Owned Utilities
Municipally-owned utilities perform cost-efficiently relative to regulated private firms due to the efficiency-distorting effects of regulation. This phenomenon has been noted in the electric industry and is also present in the cable television industry. Private electric utilities have, until very recently, been governed by rate-of-return regulation. Cable operators have been controlled by municipal franchise regulation and federal price regulation, and have also been granted deregulation. These four methods of dealing with the problem of monopoly all produce inefficiencies in private utility provision.
A. Inefficiencies from Rate-of-Return Regulation in the Electric Industry, and the Relative Efficiency of Municipally Owned Utilities
In the electric industry, regulation reduces the efficiency of private firms for two primary reasons. First, rate-of-return regulation allows private utilities to inflate their cost bases.72 Second, regulatory bodies cannot define true market prices and compel adherence to them.73 State regulatory commissions grant utilities the quid of legal monopoly without exacting the quo of effective price controls. Regulation insulates utilities from the buffeting forces of competition and assures them of profits.
As a result of the distortive effects of regulation, municipally owned utilities perform on par with their regulated private counterparts. There are many aspects of electricity provision, some at which municipally owned utilities excel, and some at which privately owned utilities are better. Municipally owned utilities offer lower average rates than do their private counterparts.74 Public firms are often more efficient at distributing utility services than are private firms.75 Private firms tend to over invest in capital due to the distorted effects of regulation.76 Conversely, private firms are generally more effective at minimizing their internal costs than are public firms.77 Overall, publicly owned firms have been found to perform as efficiently, or more efficiently, than regulated private firms. Studies that most strongly advocate a preference of private industry attribute only a modest advantage to private utilities.78 The bulk of the studies comparing private and public utilities indicate either that no significant discrepancy exists between the two ownership models or that there is a substantial gain in efficiency through public ownership.79
These findings show that rate-of-return regulation distorts the competitive advantages of electric utilities. Analogous distortions are also present in the cable industry. Although the methods of regulation in the cable industry are different, all forms of regulation create undesirable incentives that distort the behavior of private firms, rendering them inefficient.
B. Municipal Franchise Regulation, Deregulation and Federal Price Caps: Unsatisfactory Solutions to the Problem of Monopoly in the Cable Industry
Government policy towards the cable industry has experimented with municipal franchise regulation, deregulation, and federal price regulation. All three potential solutions have yielded unsatisfactory results. The current regulatory regime is now in flux, as the 1999 statutory date for deregulation is being challenged by the FCC and members of Congress.80 Federal and local regulators have been unable to settle on a choice between the different forms of public regulation and the alternative of deregulation. Little attention, however, has been given to Milton Friedman's "third evil" of public ownership. This next section will give an overview of the approaches that have been adopted for regulating cable television and show that none have succeeded in promoting the efficient distribution of video services. Municipal ownership, I will conclude, is a better option.
1. Municipal Franchise Regulation
Municipal franchise regulation was the original form of regulation applied to the cable television industry. Today, municipal franchise regulation governs only the basic tier of cable services.81 The efficacy of the franchise auction model is undermined by three factors: high transaction costs of ownership transfer, clustering of the cable industry, and preemption of franchising authorities by federal law.
Franchise auctions are best applied to markets that are not capital-intensive. Airwaves, for example, can be auctioned efficiently. Given an adequate number of bidders and freedom from collusion between them, the competitive bidding process forces prices down to levels obtainable in competitive markets. The only government regulation of airwave franchisees is regulation of the franchise process itself. The franchise auction model receives strong support from notable law and economics scholars.82
In capital-intensive industries high sunk costs restrict the fluidity of the franchise auction process.83 When franchises are not renewed, owners of cable systems must transfer control of facilities to the auction winner. High transaction costs, for both physical and human capital, limit the feasibility of such transfers. Furthermore, owners of capital-intensive franchises will overprice services in new markets if they do not have the assurance of a long-term contract to amortize sunk costs. Long-term contracts grant the operator wide latitude in deviating from the original terms of the contract in response to changing market conditions and unfulfilled predictions. Contract enforcement is problematic due to high expenses, transaction costs, and the unwillingness of municipal regulators to publicize difficulties in the franchising process.84 Given the problems of contracting in capital-intensive industries, the model of franchise auctions advocated by law and economics scholars soon collapses into the very sort of blow-by-blow municipal regulation that they denounce.85
Clustering of the cable market further limits the utility of franchise auctions. As the cable market matures, larger firms continue to acquire smaller operators and to form contiguous regions of market dominance.86 Little competition survives within the clusters. The cable industry is following the trend of the early electric industry toward oligopoly, with each major company respecting the others' markets. Without an adequate number of bidders, the franchise auction model cannot succeed.
Federal law also weakens the efficacy of franchise auctions by preempting the franchising authority of local governments. The Cable Act of 1984 and subsequent rule making preempted local franchising authorities from imposing rate regulations in markets with "effective competition."87 The Cable Act of 1992 further removed rate regulation from the domain of local officials by granting the FCC exclusive jurisdiction over all but the bottom tier of programming.88 Communications legislation has recognized the authority of local governments to impose quality controls on cable franchisees, but the courts have construed the law to limit the substantive demands of franchising authorities.89 Local franchising authorities are left with little authority to compel quality service and to restrict opportunistic behavior.90
2. Deregulation
Recent years have shown that deregulation is an undesirable solution to the monopoly problem. Congress deregulated the cable industry from 1986 to 1992. This six-year experiment revealed the monopolistic nature of the cable market. During this period, cable rates increased at triple the rate of inflation.91 The economic rents enjoyed by the cable industry during the period of deregulation indicate that the industry is a prime candidate for regulation. The popular discontent with cable deregulation was such that the 1992 Cable Act which re-regulated cable was the only bill enacted during the Bush Administration over the President's veto.92 The Telecommunications Act of 1996 mandates deregulation of the cable industry by March 31, 1999.93 This statutory repeal date is now being challenged by the FCC and by members of Congress due to the failure of technology to produce effective competition in the market for video programming distribution.94
3. Federal Price Regulation
The cable industry was re-regulated under the Cable Act of 1992. Economists have generally lambasted the price caps imposed on cable television by Congress and the FCC. In 1993, the FCC instituted a 10% rate roll-back, and prices actually increased.95 The FCC has since initiated a quiet retreat from its roll-back schedule.96 Congress has mandated termination of the policy by 1999.
The first damaging effect of the FCC's price regulation has been a drop in quality of the regulated product and the concomitant restructuring of the industry into unregulated areas.97 Cable operators shifted premium shows to unregulated pay-per-view channels.98 Although industry-wide rate regulation eliminates inefficiencies of regulating cable operators on a case-by-case basis, it provokes a restructuring of the market which overall impairs the market.99
The second detrimental effect of rate regulation in the cable industry is the fostering of an oligopoly. Competition has suffered in the cable industry as a result of rate regulation, and price regulation promotes collusion among members of a regulated industry.100 The cable industry is presently going through a phase of clustering, with fewer and fewer competitors available to bid on franchise renewals.101 Cable operators frequently "swap" markets in order to concentrate their dominance in certain markets.102 Although clustering can be seen as a method of streamlining management and achieving efficiencies in scale, it can also fence off regional markets from competitive entry. William Ray, the Director of the Glasgow, Kentucky, Electric Plant Board put it this way: "There is an unspoken treaty among all cable operators. They do not tread on the territory of one of their brethren. Towns seldom, if ever, have a choice [between operators]."103
C. Municipal Ownership of Communications Utilities: A Solution to the Problem of Monopoly
Recent history shows that private cable operators have not provided cost effective service. Neither municipal franchise regulation, deregulation, nor price cap regulation are satisfactory solutions to the problem of monopoly. Where public regulation and private monopoly fail, perhaps Milton Friedman's "third evil" of public monopoly is the option that yields the most effective solution. As noted above, public ownership has been a cost- effective solution in the electric power industry. Today, municipalization has re-emerged as the best form of ownership of the information highway.
Landslide electoral mandates for municipalization buttress the claim that broadband networks should be publicly owned. In Iowa, as previously discussed, super-majorities of ninety percent have often ratified municipalization proposals.104 America's laboratories of democracy are also laboratories of regulation. In the face of failed regulatory and deregulatory programs, local ownership is emerging as a preferred solution to the problem of monopoly. Considerations of public goods economics and notions of public duty also contribute to the notion that municipalization is the best model of ownership for the information highway.
VI. The Internet Is a Public Good That Is Best Provided by Municipal Utilities
Economically, local governments are the best entities to provide broadband services because the Internet is a public good. Public goods are goods that are nonrival in consumption--once the good is provided, the additional resource cost of another person consuming the good is zero.105 The classic public good is the lighthouse. One ship's "consumption" of a lighthouse's light does not diminish the ability of a second ship to use the same light.
Some public goods are best provided by private firms. Ronald Coase discussed the idea that even the classic public good--the lighthouse--should be privately provided.106 Coase revealed that historically private industry had erected lighthouses and financed their construction and operation through "light dues" collected from ships using the service. Private incentives, he argued, spurred the lighthouse industry to produce a higher quality of light than would have been provided by government.107 The Internet, however, is technologically distinct from the lighthouse light for two primary reasons: 1) the value of the commodity increases with the number of users--the quality of the "light" increases as more people rely on it; and 2) the organization that provides the service only provides access and does not determine the quality of the commodity provided.
The vitality of the Internet increases as more users rely upon its services. Internet users are both suppliers and consumers of network services.108 Access problems--slowness, busy signals, service interruptions--currently stunt the growth of the Internet. All potential users benefit from widespread, cheap, reliable, and fast access. Internet access providers benefits are limited to access fees. As access providers raise fees maximizing their own profits, fewer individuals will choose to rely on the Internet.109 Positive externalities, which confer a benefit, decrease. Thus, because publicly-owned utilities offer the lowest possible user fees,110 they are the best providers of Internet access.
Furthermore, Internet providers generally add no value to the service. Ronald Coase noted that private firms were better suited to manage the lighthouse industry because they were able to provide a higher quality of light--through entrepreneurial lightbuilding and responsive service--than government.111 Internet providers, however, add little value to the public good. A provider, for example, might create an innovative interface which allows easy access to news, stock quotes and chat rooms. Even so, the underlying content is unaffected by the identity of the provider. The purported benefits of private provision of other utility services do not equally apply to the Internet. Because the quality of Internet content cannot be improved by the provider, the best provider is the one which can provide cheap, reliable and fast access. Thus, government is the best provider.
VII. Towns Municipalize Their Utilities as a Response to Shirking
Towns municipalize their communications services as a response to shirking and other opportunistic behavior by private utilities. Federal law has weakened the municipal franchising process to the point that private cable companies are left unbeholden to the local community,112 with few restraints on shirking and other opportunistic behavior.113 The phenomenon of municipalization first arose in smaller towns, which are the most inclined to respond collectively to breaches of service. Certain geographic regions have an especially strong penchant for promoting municipal ownership.
The form of ownership adopted by any enterprise is determined by the transaction costs of managing that enterprise; chief among these transaction costs is the problem of shirking.114 Municipal ownership can minimize problems of shirking. In competitive markets, the property rights structure of the firm makes private enterprise a superior ownership model to public ownership. Managers of private companies have little incentive to shirk when their personal stake in the firm may be jeopardized by poor performance. This reasoning breaks down, however, in the case of monopoly, and particularly in the smaller towns where municipalization first emerged. In places like Hawarden, Iowa, where the incumbent cable operator faces no effective competition from rival firms, where FCC rate regulation leaves the operator unbeholden to the local officials, and where the management has little face-to-face contact with its clients, it is unclear that the needs of the community will be met by private management. Private management has ample latitude to shirk.
In contrast, public management is constrained from opportunistic behavior by the forces of social coercion, particularly in the smaller towns where municipalization has occurred.115 Feelings may run high in rural America about the quality of video distribution, especially when poor reception compromises key programming. Public officials responsible for television reception may become vulnerable social targets when they neglect to ensure quality service. Prestige may adhere to the post for those who perform well.116
Certain regions have a history of public response to problems of monopoly. The Northeast and Midwest have long been centers of collective action against investor-owned electric utilities. Public power systems continue to be especially concentrated in Massachusetts, Vermont, Ohio, Indiana, Kansas, Nebraska, Iowa, and Minnesota.117 Many of these states were also centers of the Grange movement in the 1870's, when farmers collectivized to counter the abuses of the railroad industry.118
Some regions may be more prone than others to advocate municipalization as a solution to the problem of monopoly. These are laboratories of democracy. The municipalization of electricity also began in small towns, and spread to cities in response to the abuses of monopoly. As the Internet grows to be an essential utility, larger markets may resist monopoly domination of broadband networks. Already, mid-sized cities like Anaheim, California are creating publicly owned broadband networks.119 As in the age of electrification, the question of municipalization may grow from a small-town referendum to a national debate.
The preceding discussion has stated three reasons why municipally-owned communications utilities are preferable to private utilities: (a) regulatory effects attenuate the efficiency-maximizing incentives of private ownership, such that public firms operate as efficiently as, or more efficiently than, private firms; (b) the Internet is a true public good, distinct from Coase's lighthouse, which is best provided by government with its lower access fees; and (c) the binding force of social norms assists the rise of municipal ownership in smaller towns. This suggests that not only are towns like Glasgow justified in establishing their public communications utilities, but also that municipalization may spread to major markets. Political and legal concerns have surfaced, however, that threaten the ability of municipalities to provide these services.
VIII. State and Federal Laws Diverge in Their Treatment of Municipally-Owned Broadband Networks
Is it lawful for municipal utilities to construct broadband networks? Federal and state laws provide conflicting answers to this question. The Telecommunications Act of 1996 opens local communications markets to competition by all potential competitors, including municipal utilities. Cable and local telephone lobbies, however, are succeeding in opposing the mandate of federal law by promoting anti-competitive laws at the state level that prohibit municipalities from providing communications services. Imbalances exist in the political process of many state legislatures which were absent in the enactment of the Telecommunications Act of 1996. These imbalances have permitted local cable and telephony lobbies to foreclose municipal utilities from the telecommunications market. Congress created mechanisms to protect municipal utilities from anti-competitive state laws, but political concerns have constrained the federal government from exercising this power.
A. Federal Constitutional Law
Federal law broadly permits local governments to provide utilities on a competitive basis. Private companies have long protested the effects of government competition, and have brought federal actions for violations of due process,120 equal protection,121 antitrust laws,122 and the First Amendment.123 The courts have afforded local governments wide latitude in providing utility services, but have indicated that local governments can incur liability for due process124 and antitrust125 violations for overly aggressive competition with private providers.
B. The Telecommunications Act of 1996
Congress passed the Telecommunications Act of 1996 ("the Act") to establish a pro-competitive telecommunications policy that would allow all potential competitors, including public utilities, to enter local cable and telephone markets. Congress passed the Act with huge majorities in both houses, signaling a compromise among all the major lobbying interests.126 The Regional Bell Operating Companies ("RBOCs") and other incumbent local exchange carriers ("ILECs"), however, resisted the proposal to open their markets to competition, and demanded concessions from Congress before they would consent to the legislation. Congress proposed a quid pro quo in order to facilitate passage of the statute. The quid that Congress granted in return for the quo of local competition was that the ILECs would receive the right to operate under substantially less regulation, the right to enter into vast new geographic and product markets (including long distance, equipment manufacturing, and cable television), and the right to form strategic partnerships and other business relationships that had been previously foreclosed to them.
On Capitol Hill, the ILECs submitted to laws that opened local communications markets to all potential competitors. The ILECs wanted to secure Congressional approval of their entry into other product markets, and so they needed to give Congress an unconditional promise to open their local markets to competition. The ILECs thus submitted to very broad pro-competitive language in the Telecommunications Act. Through the Act's passage, the ILECs obtained federal approval of their entry into other lucrative markets.
Congress recognized that the ILECs could poison the compromise once the Act had passed. The legislators anticipated the legal barriers that the ILECs might erect at the state level in order to restrain competition. Congress therefore endowed the FCC with broad authority--and compelled its exercise--to preempt state and local laws that restrict competition. Section 253(a) of the Act provides:
No State or local statute or regulation, or other State or local legal requirement, may prohibit or have the effect of prohibiting the ability of any entity to provide any interstate or intrastate telecommunications service.127Subsection (d) continues:
If, after notice and an opportunity for public comment, the Commission determines that a State or local government has permitted or imposed any statute, regulation, or legal requirement that violates subsection (a) or (b), the Commission shall preempt the enforcement of such statute, regulation, or legal requirement to the extent necessary to correct such violation or inconsistency.128Congress gave teeth to the provision by mandating its enforcement129 and by protecting any entity seeking to provide telecommunications services. The provision applies to any laws that have the effect of prohibiting competition. Whether the phrase any entity covers municipally-owned utilities is presently a focus of debate. Although the FCC recently ruled that the phrase does not extend to municipally-owned utilities,130 a close reading of the Act suggests that Congress did intend for municipally-owned electric utilities to be covered by the Act's preemption provision.131 This result was reached by a state court.132 The appeal of the FCC's ruling to determine the scope of the preemption language is pending before the D.C. Circuit.
The question of whether the preemption provision of the Telecommunications Act covers municipally-owned utilities will largely determine the ability of municipalities to create broadband networks.
C. State Law
States have diverged in their willingness to permit municipalities to construct broadband networks. Three states have expressly authorized municipalities to own and operate telecommunications utilities. Six states have passed, or are considering, legislation to prohibit municipalities from providing telecommunications services. Other states are governed by general rules--Dillon's Rule--that hold municipalities to affirmative grants of power. These states in effect have prohibited municipalities from providing telecommunications services by withholding express permission to provide these services. This section of the article will suggest why some states have empowered municipalities to provide telecommunications services, while others have sought to restrict their authority. Furthermore, it will distinguish between the two restrictions on municipal authority under state law--anti-competitive statutes and Dillon's Rule. A conclusion is reached that the first set of restrictions on municipal autonomy - the passage of anti-competitive legislation--is preempted by the Telecommunications Act of 1996. However, the second set of restrictions--the absence of express authority in Dillon's Rule states--constitutes a fundamental tenet of state sovereignty, and is beyond the preemptive scope of the Telecommunications Act of 1996.
1. States That Authorize Municipal Creation of Broadband Networks
The states that have enacted laws which expressly authorize municipalities to provide telecommunications services are Iowa, Minnesota and Georgia.
Iowa. The State of Iowa has endeavored to create a telecommunications backbone that will connect schools to the Internet. The original project mandated by the legislature was to connect one school per district to the network. Cities have pressured the legislature to facilitate broader connectivity to the network. The state legislature passed a telecommunications law that authorizes municipal utilities to provide this service.133 The telecommunications law creates an exception to an earlier, general law in Iowa that government entities cannot compete with private businesses.134
A second reason behind the passage of the telecommunications law was that many existing municipal cable systems needed upgrading. Many Iowa towns had installed municipally-owned cable systems in the 1980s when private companies refused to invest in those communities. These cable systems are now in need of upgrades. In order to facilitate the issuance of bonds to finance the upgrades, the towns lobbied for express statutory authority to provide telecommunications services over the rebuilt network.135
Georgia. The State of Georgia is pursuing the nation's most far-reaching effort at creating a publicly-backed state-wide fiber-optic network that unites the fiber distribution systems of individual municipalities.136 Georgia specifically authorized its local governments to provide telecommunications services.137
Minnesota. Cities in Minnesota are now creating broadband networks.138 The legislature has permitted municipalities to provide telecommunications services since 1991.139 The law does require a 65% supermajority voter approval. The Minnesota legislature did not pass a bill promoted in the 1998 legislative session to repeal the supermajority requirement.140
2. States that Expressly Prohibit Municipalities from Providing Telecommunications Services
Several states have enacted laws, or are currently considering bills, that prohibit municipalities from providing communications services. These laws are the result of a lobbying imbalance in the state legislative process and should be preempted under the Telecommunications Act of 1996.
Incumbent communications lobbies have fewer restraints on their lobbying interests at the state level than at the federal level. The incumbent providers from the cable and local telephony industries, naturally, want to protect their market share from competition. As noted above, in order to secure the lifting of federal regulations and acquire the permission to enter new product markets, incumbents consented to broad pro-competitive statutory language. At the state level, however, the ILECs are not faced with the same pressures to consent to competition. They have the influence to close their markets to any competitors whose lobbies at the state level are not strong enough to ensure the maintenance of a competitive regime.141 Municipal utilities, for example, do not have the political posture to withstand the lobbying pressures of the ILECs. Municipal utilities are represented at the state level by their state municipal leagues. These municipal leagues have varying political influence from state to state, and they have full legislative agendas that cannot always accommodate the lobbying interests of municipal utilities. Thus, the incumbent cable and telephony lobbies are able to prevail over the interests of municipal utilities, despite the viability of municipal utilities as sources of competition in the communications market. The following are some laws that have been passed or are being considered at the state level that prohibit municipalities from providing telecommunications services.
Missouri: Missouri law provides that no political subdivision of the state shall provide or offer for sale, either to the public or to a telecommunications provider, a telecommunications service or telecommunications facility used to provide a telecommunications service.142
Nevada: The Nevada legislature enacted a law in 1997 that prohibits cities whose population is 25,000 or more from selling telecommunications services to the public.143
Tennessee: Current law provides that no entity of local government shall have the authority to operate a cable system, to provide pager service, or to operate as an Internet service provider.144 A bill is currently pending that would prohibit the provision of telecommunication services by municipalities unless they adopt for-profit accounting procedures.145
Texas: Texas law provides that a municipality or municipal electric system may not offer for sale to the public, either directly or through a telecommunications provider, services, such as telecommunications, for which a certificate of convenience and necessity is required.146
Virginia: A bill was adopted by the Virginia legislature that will prohibit any local government from offering telecommunications equipment, infrastructure, or services for sale or lease.147 The bill shows the caprice of the state legislative process by exempting from its provisions any town "which is located adjacent to Exit 17 on Interstate 81."148
These state laws single out telecommunications as a service barred from provision by municipalities. The laws, on their face, prohibit, or have the effect of prohibiting, municipal entities from providing telecommunications services. By the provisions of the Telecommunications Act of 1996, the FCC should be compelled to preempt these state laws.
3. States that Adhere to Dillon's Rule
Some states prohibit municipalities from providing telecommunications service through judicially-created rules imposing limits on powers of political subdivisions. These states follow Dillon's Rule, which states that municipalities do not have the authority to engage in a project unless the authority is expressly granted by the state legislature. Restrictions on municipalities in Dillon's Rule states arise from the absence of legislative action, and not from an affirmative prohibition on municipal activity. Dillon's Rule restrictions on municipal authority to engage in communications projects are beyond the preemptive reach of the Telecommunications Act of 1996. States observing Dillon's Rule are thus free to prohibit municipalities from providing telecommunications services simply through legislative inaction.
Dillon's Rule is a judicially-enforced rule that has been incorporated into some state constitutions, and that is codified into law in other states. First proposed in 1868 by John Dillon, Chief Judge of the Iowa Supreme Court, Dillon's Rule provides:
[A] municipal corporation possesses and can exercise the following powers and no others: First, those granted in express words; second, those necessarily implied or necessarily incident to the powers expressly granted; third, those absolutely essential to the declared objects and purposes of the corporation--not simply convenient, but indispensable . . .149The decision to adopt and adhere to Dillon's Rule is a fundamental attribute of state sovereignty. Local governments have no set place under the Federal Constitution, leaving states free to adopt any means of allocating powers to their political subdivisions. States have vacillated on the extent of authority that should be granted to municipalities. Proponents of local autonomy, like Thomas M. Cooley, have influenced the field of municipal law towards granting municipalities sovereignty in local matters.150 Reformers, like Dillon, have argued that the benefits of local autonomy were outstripped by the potentially disastrous consequences of local government run amok. Because there is no federal underpinning to the status of cities as entities of limited sovereignty, or merely as creatures of their states, state legislatures have been free to grant or revoke powers to their political subdivisions. The decision of how much power to reserve to states is a fundamental feature of state sovereignty.
Municipalities in those states that observe Dillon's Rule, are prohibited from providing cable and telecommunications services unless they are expressly authorized by their state legislature to do so. State courts in Pennsylvania and South Carolina have strictly applied the rule to deny municipalities the right to provide cable television services.151
The preemptive scope of the Telecommunications Act does not reach restraints on municipal authority in the Dillon's Rule states. No law specifically restricts municipal entry into the telecommunications market. Rather, municipalities cannot provide those services that they have no authority to engage in. To find that the Telecommunications Act preempts Dillon's Rule restrictions on municipal authority would be to turn municipal law on its head and establish the federal government as a source of power for municipalities. Such a finding would intrude sharply into the sovereign authority of a state. This would not only allow the federal government to intervene in the relationship between a state and its local governments, but it would also permit the federal government to preempt the very method by which a state allocates power to its political subdivisions. The preemptive scope of the Telecommunications Act cannot reach this far. To do so would be to effect a fundamental change in the balance of power between state and federal governments, raising serious Tenth Amendment concerns.
IX. The FCC's Decision: In re Public Utility Commission
Municipalities are at risk of losing their legal authority to provide telecommunications services. The FCC recently ruled that it lacks the authority to preempt state laws that prohibit municipalities from providing telecommunications services. The dispute arose under the Texas law discussed above, the Public Utilities Regulatory Act of 1995 ("PURA95"). The City of Abilene had engaged in preparations to construct a broadband network, and to lease capacity of the system to an independent telecommunications provider, ICG. The city filed a petition with the FCC to preempt enforcement of PURA95 pursuant to section 253 of the Telecommunications Act of 1996. The FCC's ruling came as a shock to the local government community and has put in question the authority of other municipalities to offer telecommunications among the services offered in their communities.
The FCC's ruling, in Public Utility Commission, is based upon principles of municipal law applied in error. The FCC declared that it was denying Abilene's petition to preempt because it did not consider the City of Abilene to be an "entity" separate and apart from the State of Texas. The FCC stated that preempting enforcement of PURA95 would interfere with the relationship between the state of Texas and its political subdivisions in a manner that was not intended by section 253 of the Act. The ruling was an exercise of comity on the part of the FCC not to interfere in the internal relations of the State of Texas. This comity is misplaced. The ruling constitutes deference to the anti-competitive practices that the FCC was mandated to preempt.
A. Misplaced Reliance on Hunter v. Pittsburgh
The FCC's opinion relies on Hunter v. City of Pittsburgh.152 The Hunter Court established the principle that states have absolute discretion to grant and revoke powers of municipalities:
Municipal corporations are political subdivisions of the state, created as convenient agencies for exercising such of the governmental powers of the state as may be entrusted to them. . . . The number, nature, and duration of the powers conferred upon these corporations and the territory over which they shall be exercised rests in the absolute discretion of the state. . . . The state, therefore, at its pleasure, may modify or withdraw all such powers, may take without compensation such property, hold it itself, or vest it in other agencies, expand or contract the territorial area, unite the whole or a part of it with another municipality, repeal the charter and destroy the corporation. . . . In all these respects the state is supreme, and its legislative body, conforming its action to the state Constitution, may do as it will, unrestrained by any provision of the Constitution of the United States. . . . there is nothing in the Federal Constitution which protects [inhabitants and property owners] from these injurious consequences.153The Supreme Court, subsequent to Hunter, dismissed the above quotation and the principles it espouses as "unconfined dicta."154 States are supreme rulers of their local governments, but only so far as their rule does not violate provisions of the Federal Constitution. The case which most clearly exemplifies this principle is Gomillion v. Lightfoot.155 The Court has followed Gomillion with numerous other opinions that depart from the above-quoted dicta and adhere to the principle that the Federal Constitution limits the power of states to manipulate their political subdivisions.156 The FCC would only be bound by Hunter had the state's manipulation of its political subdivisions not resulted in the violation of principles of the Federal Constitution. In this case, however, the Texas law frustrates the goals of the Telecommunications Act of 1996, contravening the Supremacy Clause.
B. A Political Understanding of In the Matter of Public Utility Commission of Texas
Why did the FCC refuse to preempt the Texas law in In the Matter of Public Utility Commission of Texas? Political considerations may have entered into the decision. The FCC had poor relations with the states at the time it ruled on the Texas case. The Eighth Circuit had recently criticized the FCC for trodding on states' rights and exceeding its jurisdiction in the deregulation of local telephony. In Iowa Utilities Board v. FCC,157 the Eighth Circuit considered whether the FCC had exceeded its jurisdiction by establishing pricing rules to promote deregulation of local telephone service. The court abrogated the authority of the FCC to deregulate local telephone markets and held that the FCC's pricing rules disrupted the balance between federal and state power.158 In the wake of Iowa Utilities Board, the FCC may have been overly solicitous of states' rights, and reluctant to assert its authority against the internal political affairs of states.
The ruling in Public Utility Commission of Texas has grave consequences for the future of municipalized broadband networks. Municipalities cannot establish broadband networks without the clear legal authority to do so. Absent clear powers of home rule, they need express legal permission to enter the telecommunications market before they are able to issue bonds to finance the broadband projects. The FCC opinion will have a "chilling effect" on the ability of municipal utilities to upgrade their facilities and provide telecommunications services. This opinion leaves municipal utilities vulnerable to the influence of incumbent communications providers in the state legislative process. Through its holding in Public Utility Commission of Texas, the FCC lost an excellent opportunity to promote the proliferation of the information highway.
X. Conclusion
Municipal utilities should pave the information highway. The Internet is beneficial to the user, but not profitable to the carrier. Low access fees promote the greatest overall utility of the Internet, but minimize the take-home profit for access providers. Fast Internet access also dilutes the value of programming currently carried by cable companies. It should be no surprise that after a decade of hype over the information highway, private firms have yet to provide consumers with the networks that promise to reshape our society.
Capitalism has triumphed in recent decades and rendered state-run enterprises anachronisms throughout the world, but not all markets call for private firms. There is no good economic solution to the problem of natural monopolies. The video communications market remains a monopoly today, with unregulated and regulated private firms failing to provide efficient service to consumers. Where competition is absent from a market, Milton Friedman's "third evil" of public ownership is a viable option. Public ownership of the information highway is particularly attractive, considering the public goods nature of the Internet.
Public ownership of the Internet has begun. Smaller towns, dissatisfied with the services offered by their local cable operators, already demand municipalization of broadband networks. The trend is now accelerating to larger cities. Like electricity, which began as a novelty, and which was publicly provided first in small towns, the Internet is growing into a vital resource that people demand to be provided publicly.
Recent referenda have threatened the dominance of incumbent firms over the provision of communication services. With municipalization proposals winning ninety percent approval ratings, private cable and telephone companies have successfully pressed state legislatures to enact laws to block local governments from offering telecommunications services. Although the Telecommunications Act of 1996 was designed to preclude the passage of such laws, political constraints have restricted its application. The FCC has stated that it cannot shield the telecommunication development plans of local governments from the effects of anti-competitive laws passed in state legislatures. Without express authority to create broadband networks, local governments lack the legal standing to finance communications projects. The FCC has lost a critical means of promoting development of the information highway. When the Texas decision is reviewed on appeal, it is hoped that the courts will recognize the right of communities to "keep a birch rod in the cupboard" and establish locally-owned access to the information highway.
aaSpecial thanks are due to the following individuals: William Ray, of Glasgow, Kentucky, for being a pioneer; James Baller, of Baller Law Group, for inspiring the research and giving continuous updates on the law; Professor Robert Ellickson, of Yale Law School, for welcome skepticism; Suzanne Boyce, for extra-editorial support; and Rita and Charles Carlson, for everything else.