In the Matter of the Notice of Proposed
Rule Making and Order Establishing Federal-
State Joint Board on Universal Service

CC Docket No. 96-45

COMMENTS OF CALIFORNIA DEPARTMENT OF CONSUMER AFFAIRS TO FCC'S NOTICE OF PROPOSED RULE MAKING AND ORDER ESTABLISHING FEDERAL-STATE JOINT BOARD ON UNIVERSAL SERVICE

VIRGINIA J. TAYLOR
RICHARD A. ELBRECHT

Attorneys for

CALIFORNIA DEPARTMENT OF
CONSUMER AFFAIRS
400 R Street, Suite 3090
Sacramento, CA 95814-6200
(916) 445-5126

April 11, 1996

EXECUTIVE SUMMARY

The comments of the California Department of Consumer Affairs ("DCA") identify principles it believes should guide the Federal Communications Commission ("FCC") in its implementation of the Telecommunications Act of 1996 ("Act"), and apply them to key issues addressed in this Notice of Proposed Rule Making. The DCA's comments reflect its focus on the broad interest of the whole consumer, both residents and businesses, both affluent and poor, in all their capacities including worker, assistance recipient, investor, etc.

The principles governing the interpretation of statutes require that they be interpreted and implemented in ways which carry out the underlying policy and intent. Here, Congress has mandated that the FCC interpret the Act in a manner which relies on more competition and less regulations as means to encourage innovation and constrain prices.

Consumers will benefit most from a competitive market. There, consumer choice influences the design of services, determines what services are deployed, and operates to keep prices fair, reducing the need for a costly regulatory process and subsidy program.

Consumers will benefit most from a market where innovation is encouraged, where new services are developed to meet the requirements of consumers, and where new technologies are employed to provide services in the most cost-effective manner.

Because regulation stifles both competition and innovation, consumers also will benefit from reduced regulation. To the extent that regulatory mechanisms antagonistic to a competitive marketplace must be applied, they should be based on sound principles and consumer necessity, and should be narrowly focused.

There are valid public policy reasons for adopting a policy of universal access. Those include the benefits of being able to connect with other people, businesses and government, making the most efficient use of fixed plant, and providing a broader showcase for new services, equipment and applications.

The goals of universal service are partly achievable without explicit government intervention, provided that the dynamics of competition are fostered and mobilized. The nation should avoid financing universal service by needlessly overpricing other services. Above all, universal service subsidies should be targeted to those who truly need them.

Rates which are " reasonably comparable, " and "just " and " reasonable " are rates which reflect the cost of providing service to customers, including any additional costs resulting from geography, climate, density or other similar factors. Whether rates are It affordable" depends on the income of the customers; "affordable" rates for the near-poor are different from "affordable" rates for those who are affluent. Any universal service subsidy should be based on need, not geography.

The requirement that subsidies be "explicit" means that both the subsidy payor and the subsidy receiver should be aware of the amount of the subsidy. The DCA supports an explicit subsidy mechanism in which customers are provided with that information. Only then can people determine whether the benefits of the subsidy program outweigh its costs.

The most beneficial action the FCC can take to assist in the availability and deployment of advanced services to schools, libraries and health care providers is to provide incentives for the private market to deploy a fiber optic, broadband, network platform.

The DCA supports the FCC's concept of a variety of services for low income customers. However, the choice to offer those services should be made first by the telecommunications industry, and second by state regulators.

TABLE OF CONTENTS

I. INTRODUCTION......................................................... 1
II. GUIDING PRINCIPLES.................................................. 2
  A. Legal Principles of Interpretation................................. 2
  B. Interpret and Implement the Act to Promote Competition and Reduce
     Regulation and Thereby Encourage Innovation and Constrain Prices... 2
    1. The Consumer Interest in Fostering Competition................... 3
    2. The National Interest in Fostering Competition and Innovation.... 4
    3. Avoiding Perversely Counterproductive Regulation................. 5
    4. The Regulatory Options........................................... 6
    5. Guiding Principles............................................... 8
  C. States Should Interpret and Implement the Act with Respect to
     Intrastate and Local Exchange Issues............................... 8
III. APPLICATION OF THESE PRINCIPLES TO THE UNIVERSAL SERVICE
     SUBSIDY PROGRAM.................................................... 9
  A. Design Universal Service Subsidies to Carry Out the
     Policies Which Justify Them........................................ 9
  B. Financing Universal Service Subsidies..............................11
  C. Targeting Universal Services Subsidies.............................12
IV. SUGGESTED INTERPRETATION OF SPECIFIC PORTIONS OF THE ACT
    RELATING TO UNIVERSAL SERVICE.......................................14
  A. What Are "Reasonably Comparable" Rates?............................15
  B. What Are "Just, Reasonable and Affordable" Rates?..................17
  C. Subsidies Must be "Explicit........................................20
  D. Serving Schools, Libraries, and Health Care Providers..............21
  E. Special- Services for Low-Income Customers.........................23
V. CONCLUSION...........................................................24

In the Matter of the Notice of Proposed
Rule Making and Order Establishing Federal-
State Joint Board on Universal Service

BEFORE THE
FEDERAL COMMUNICATIONS COMMISSION
WASHINGTON, D.C. 20554

CC Docket No. 96-45

COMMENTS OF CALIFORNIA DEPARTMENT OF CONSUMER AFFAIRS TO FCC'S NOTICE OF PROPOSED RULE MAKING AND ORDER ESTABLISHING FEDERAL-STATE JOINT BOARD ON UNIVERSAL SERVICE

I. INTRODUCTION.

The California Department of Consumer Affairs (DCA) hereby respectfully submits the following comments in response to the above-captioned Notice of Proposed Rule Making (NPRM) and Order Establishing Federal-State Joint Board on Universal Service.[1] The DCA represents the broad interest of all consumers, both residents and businesses, both rich and poor, and in their many roles, including end users of services, wage earners and employees of businesses, assistance recipients, and investors in America's

...

State Joint Board ("Joint Board") in implementing the Telecommunications Act of 1996 ("Act"), and the application of those principles to some of the key issues.

____________________

1 FCC 96-93, In the Matter of Federal-State Joint Board on Universal Service, Notice of Proposed Rulemaking and Order Establishing Joint Board, CC Docket No. 96-45, adopted March 8, 1996 (hereinafter "NPRM"), at p. 3. The purpose of the NPRM is to: (1) define the services that will be supported by Federal universal service support mechanisms; (2) define those support mechanisms; and (3) otherwise recommend changes to FCC regulations to implement the universal service directives of The Telecommunications Act of 1996.

II. GUIDING PRINCIPLES.

A. Legal Principles of Interpretation.

The Act is an intricate patchwork of consensus among legislators and interested parties. As a result, some of its provisions might appear to conflict. When such conflicts arise, they can be resolved by applying established principles.

The primary rule of construction of statutes is to ascertain and carry out Congressional intent. In construing statutes with conflicting or doubtful meaning, the goals should be to fully promote the Congressional policy and intention that underlie the statute, and avoid constructions which would alter or defeat that policy and intent. (73 Am.Jur.2d, Statutes, [[section]] 145, p.351.) Even the literal meaning of the terms in the statute should not be used to defeat the manifest policy intended to be promoted. (Ld., [[section]] 153, at p. 357.)

B. Interpret and Implement the Act to Promote Competition and Reduce Regulation and Thereby Encourage Innovation and Constrain Prices.

The preamble to Senate Bill 652 states that the Act's purpose is "to promote competition and reduce regulation in order to secure lower prices and higher quality services for American telecommunications consumers and encourage the rapid deployment of new telecommunications technologies. " Additionally, the preamble to the Joint Explanatory Statement of the Committee of Conference ("Joint Conference Statement") states that the purpose of the Act is "to provide for a procompetitive, de-regulatory national policy framework designed to accelerate rapidly private sector deployment of advanced telecommunications and information technologies and services to all Americans by opening all telecommunications markets to competition. Both of these reflect a strong focus on promoting competition and reducing regulation as a way to encourage innovation and constrain prices.

Moreover, Congress has specifically given the Federal Communications Commission ("FCC") the power not to apply any provision of the Act if it makes certain findings. (Act, [[section]] 401(a).) In so doing, the FCC must consider whether forbearance would promote competition and, if it finds that to be the case, forbearance may be appropriate. (Act, [[section]] 401(b).) Thus, Congress explicitly found that promoting and enhancing competition should be an overriding policy which guides the FCC in its interpretation and implementation of the Act.

Hence, the FCC's overriding goal should be to maximize consumer welfare by encouraging competition -- to exercise a bias in favor of an open, competitive telecommunications market, rather than an intrusively regulatory one, at every decision- making point.

1. The Consumer Interest in Fostering Competition.

A strong and principled policy basis underlies the Congressional decision to rely on competition rather than regulation to spur innovation and constrain prices. The social benefits of competition result from what economist Joseph Shumpeter called a "creative destruction" that keeps firms innovative and responsive to consumer demands. In Shumpeter's words, what really counts is --

"the competition from the new commodity, the new technology, the new source of supply, the new type of organization ... competition which commands a decisive cost or quality advantage and which strikes not at the margins of the profits and outputs of the existing firms but at their foundations and their very lives."[2]

"Competition coordinates decentralized economic choices by individuals so they will

2 Shumpeter, Joseph A., Capitalism, Socialism and Democracy, 3d ed. (New York: Harper & Row, 1950), p. 84, quoted in Stone, Alan, Public Service Liberalism: Telecommunications and Transitions in Public Policy (Princeton, NJ: Princeton Univ. Press, 1991), p. 46.

serve a community well."[3] Competition is also more effective and efficient regulator of economic activity than is explicit regulation.

"[C]ompetition forces the suppliers of goods to keep the cost low.... In competitive markets consumers have many suppliers, and so if one does not satisfy them they will turn to others. Entry is unlimited, too, so a new firm may come into a market and force an inefficient one out of business. Thus, one side effect of competition, whether from within or from outside a market, is that firms fail. But consumers can be well served when the competitive process weeds out less efficient firms and imposes efficiency in those remaining."[4]

2. The National Interest in Fostering Competition and Innovation.

The transformation of the telecommunications market to a competitive one is also a necessity for the country. The marriage of telecommunications, computers, consumer electronics, entertainment, and publishing means that the public telecommunications system must renew itself much more rapidly if the industry and the economy it supports are to avoid becoming obsolete. If we are to continue on "the leading edge," our businesses must be free to innovate and provide better and less costly alternatives to obsolete technologies. Without this, consumers in all of their capacities will suffer. Our history of regulation of telecommunications has reflected "concerns for orderly national economic growth, the more or less even social distribution of telecommunications benefits and the political accountability afforded, at least in theory, by state involvement." However, Professor Miller has concluded that there are certain costs: specifically, "lessened

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3 Sherman, Roger, The Regulation of Monopoly (New York: Cambridge University Press, 1989), p. 4.

4 Sherman, Roger, The Regulation of Monopoly (New York: Cambridge University Press, 1989), pp. 54-55.

economic efficiency, laggard technological innovation and unresponsive bureaucracy.[5]

"In the long run, it is the efficiencies and network externalities of a high-technology telecommunications infrastructure that keep a nation or a region competitive in the contemporary world. It is in the context of telecommunications as infrastructure that the USA is beginning to lose ground to other nations which were late starters but are now economically and technologically advanced....[6]

"Telecommunications constitute the core of, and provide the infrastructure for, the information economy as a whole. From the standpoint of the user, telecommunications facilitate entry to the market, improve consumer service, reduce costs, and increase productivity.... Countries and firms that lack access to modem systems of telecommunications cannot effectively participate in the global economy."[7]

The questions the FCC must ask are whether a proposed interpretation or implementation of the Act will allow the competitive market to function as well as it might and must; whether private entrepreneurs will be willing to provide the energy and investment that are needed to fuel the Information Age for the nation; and whether the long-term best interests of the "whole consumers" of our country will really be served.

3. Avoiding Perversely Counterproductive Regulation.

In implementing Congress' mandated policy to promote the development and use of advanced telecommunications services, it would be perversely counterproductive to impede deployment of innovative services by forcing the providers to overprice them. That is particularly so if the rationale for overpricing such services is to lower the price of other

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5 Miller, James, ed., Telecommunications Equity: Policy Research Issues (New York: Elsevier Science Publishers, 1986), 49.

6 Dholakia, Ruby Roy, and Nikhilesh Dholakia, "Deregulating markets and fast-changing technology: Public policy towards telecommunications in a turbulent setting, Telecommunications Policy (1994), 21-31, p. 25.

7 Saunders, Robert J., et al, Telecommunications and Economic Development (Baltimore, MD: Johns Hopkins University Press, 1994), p. 305.

services. The new technologies, if they are allowed to be implemented and to mature at the level determined by market demand, are likely to provide a much greater impetus to lower prices for consumers and promote universal service goals than any foreseeable program of mandated cross-subsidies.

By adopting the Act, Congress has opted in favor of the most powerful path that government can take to encourage investment, innovation, diversity and fair prices for telecommunications customers: greater reliance on the competitive market. Professor Bruce L. Egan suggests that telecommunications infrastructure development can best be encouraged by government in two ways: (1) "by pursuing a policy of deregulation and open market competition, which is government getting out of the way and allowing the private pursuit of profits though productivity and innovation;" and (2) by "government pro-investment initia- tives such as flexible allocation of radio spectrum, tax breaks, universal service subsidies, and seed funding for achieving a critical mass for fledgling but promising technologies."[8] It is important that the FCC not put a damper on that potentially dynamic process in the guise of protecting consumers or prospective competitors, since in this market, at this time, the best interests of consumers of all income levels call for the maximum feasible support from the market process.

For these reasons, the burdens of the universal service subsidy on the public telecommunications system should be kept as low as possible, consistent with providing access to the telecommunications networks by persons who would not otherwise have access.

4. The Regulatory Options

The goals of universal service are at least partly achievable without explicit government

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8 Egan, Bruce L., "Building value through telecommunications: Regulatory roadblocks on the Information Superhighway, Telecommunications Policy (1994), 573-587, at p. 576.

intervention, provided that the dynamics of competition are fostered and mobilized. Therefore, first and foremost, the FCC should seek to transform the industry into one in which competitive forces operate to their fullest. As viewed by Professor Egan --

"If policy makers truly want to stimulate private investment in the public telecommunications network via market forces, they should do it the old-fashioned way by eliminating restrictions on the market entry, profits, and the scope of operations of all market players."[9]

"Managed competition is an oxymoron, kind of like 'efficient regulation'. Regulators, in trying to have the best of both worlds at once, namely regulation and competitive entry, end up getting the benefits of neither, and the costs of both. They should have taken the high road of market discipline and promoted entry."[10]

"The real linchpin to achieve the vision of the so-called Information Age for the mass market is the adoption of government policies which promote private investment in public network technology..." [11]

In interpreting and implementing the Act, the FCC and the Joint Board should strive to foster a telecommunications market where "consumer necessity" regulation makes consumer welfare the driver in the new telecommunications age. In a regulatory regime of of consumer necessity," competition is only a means to an end:

"It [competition] supplies a method for promoting consumer sovereignty through a dynamically evolutionary process of discovery and selection in the economic marketplace. The proper measure of the effectiveness of that process is how good a job it does meeting consumer requirements. Satisfaction of consumer tastes and preferences is the most basic and compelling measure of economic performance. Thus the question that should be relevant for public policy making is not how well

____________________

9 Egan, Bruce L., "Building value through telecommunications: Regulatory roadblocks on the Information Superhighway, Telecommunications Policy (1994), 573-587, p. 573.

10 Id., at p. 574.

11 Id., at p. 574.

competitors make out in the competitive struggle, but how well consumers fare."[12]

5. Guiding Principles.

In summary, there are at least three principles that the FCC and other regulatory bodies should use to guide the transition from today's regulated telecommunications market to a competitive one. First, the spirit of all regulatory efforts should be pro-competitive. Insofar as regulation is necessary, it should be viewed as a means to facilitate and encourage active competition, including competition in innovation, services, quality and price. Second, where intrusive regulation is needed, the scope of the activity subject to regulation should be as narrow as possible. Third, subsidies to users should be limited to those necessary to enable users to purchase essential services that are beyond their economic means.

C. States Should Interpret and Implement the Act with Respect to Intrastate and Local Exchange Issues.

The United States is a large melting pot of peoples and governments. The differences

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12 Haring, John R., and Dennis L. Weisman, "Dominance, nondominance and the public interest in telecommunications regulation," Telecommunications Policy (March 1993), 98-106. at p. 105.

13 Id., p. 105.

in peoples' goals, values, needs, wants and desires are as varied and diverse as the country's topography. Our dual system of government -- federal and state -- can sometimes be a source of conflict, particularly where, as here, there is some measure of justification for both a national and a local policy on telecommunications issues.

The DCA believes that the FCC should allow the individual states maximum flexibility in implementing the Act as it relates to intrastate and local exchange competition. The division of jurisdiction which has been applied up to this point -- with the FCC regulating interstate interexchange services and the states regulating intrastate and local exchange services -- has worked well and should be continued.

There are at least two reasons for continuing that approach. First, it does not overburden federal government. The interpretation and implementation of the Act will be extremely complex -- evidence the 65 pages and over 175 issues of the NPRM generated by only four of the Act's over 100 pages. When faced with managing a complex issue with a diverse population, the best approach is simple and broad-based, delegating as much authority as possible to the individual states.

Second, some issues, such as those relating to provision of services to schools, libraries and health care providers, are both highly complex and truly "local" in character. The needs of one state are likely to be quite different than those of any other.

Hence, the FCC should establish broad standards, principles, and rules, and allow the states as much flexibility and authority as possible to interpret and implement them.

III. APPLICATION OF THESE PRINCIPLES TO THE UNIVERSAL SERVICE SUBSIDY PROGRAM.

A. Design Universal Service Subsidies to Carry out the Policies Which Justify Them.

Certainly not all goods and services in the economy justify the application of universal service concepts. While there are principled reasons for adopting a universal access policy, any program of universal service should be designed with the purposes and goals of universal access in mind. Therefore, the questions that need to be asked include the question of what public purposes are served by promoting universal access.

While formal economic and social studies seem to be lacking, there are well-known and well-articulated social reasons that support the goal of universal service in telecommunications. They include the benefits that accrue from people being a part of a community and society: from being able to connect with others, and others being able to connect with us; and from entertainment, education, work-at-home, and many other uses.

There also are purely economic reasons that support a universal service subsidy paid by other telecommunications customers. One is that the value of telecommunications services to those who purchase and fully pay for the services increases with the number of customers on the network. As Colin R. Blackman has stated:

"There is value just in having people connected to a network, the so-called network externality argument. And the uneconomic customer of today may well turn out to be a competing operator's economic customer tomorrow. So there is a value to incumbent operators in keeping uneconomic customers connected. Indeed it is argued by some that providing universal service is not an obligation at all but rather an opportunity and a privilege."[14]

The indirect value of universal access includes the value to government and other public and private organizations whose operations are facilitated by widespread deployment of telephone services, which redounds to the economic benefit of people as both taxpayers and owners, employees and customers of those organizations. Another economic reason that supports universal service is that maximizing

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14 Blackman, Colin R., "Universal service: obligation or opportunity?" Telecommunications Policy (1995, Vol. 19, No. 1, 177-176, at 173.

participation by customers who can be added to the network at little marginal cost makes the most efficient use of fixed plant. This is a market incentive that is fully compatible with a competitive market in telecommunications services, and it also is the exact function that a well-designed universal service program performs.

The universal availability of telephone service also fosters a broader showcase for the sale of services such as new applications, related customer premises equipment, information services, and others. The resulting synergies create value for everyone.

B. Financing Universal Service Subsidies.

The current concept of "universal service" is a public policy to spread telecommunications to virtually all members of society. Since the early 1970s, making the funds available to support that public policy has been accomplished through a system in which some services are overpriced in order to provide others below cost. However, competitive inroads are limiting the ability of a monopolist to generate the funds for such internal cross-subsidies.

"Since the demands for funds for maintaining universal service have not declined, the old system has been propped up with great complexity. . . . {T}herefore, the question must be faced squarely: if we want to continue to assure the electronic interconnectivity of all members of society, how will we pay for it in a competitive environment?

of . . . . This question will not go away by the invocation of competition, but is actually made more urgent by it since monopoly profits would no longer be available for funding."[15]

"The economic pressures ... have convinced many regulatory authorities and telecom monopolies that it is in their interest to move to cost-based pricing."[16]

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15 Noam, Eli, M., "Beyond liberalization III: Reforming universal service," Telecommunications Policy (1994, Vol. 18, No. 9), 687-704, at p. 687-688.

16 Feketekuty, Geza, "Negotiating the world information economy," in Sapolsky, Harvey M.,' et al, eds., The Telecommunications Revolution: Past, Present, and Future (London and New York: Routledge, 1992), p. 182.

Moreover, Brookings Institution economist Robert W. Crandall has concluded that cross-subsidies are costly.

"[T]he attempt to use telephone rates as mechanisms for redistributing income is costly, reducing social output by more than two dollars for every dollar transferred from upper-income to lower-income households. It is far better to target subsidies to very low-income households through Universal Service funds or other mechanisms than to distort rates for all telephone subscribers."[17]

Promoting universal service by cross-subsidies also can be arbitrary. The current system of cross-subsidies makes assumptions that often do not square with the facts, and the results often are inequitable, if not perverse:

* Affluent residential customers are subsidized by low-income customers who make toll calls.

* Affluent residential customers in rural areas are subsidized by low-income residential customers and low-income merchants in the inner cities.

* The sons and daughters of affluent customers who are attending college or taking time off from school are subsidized by other customers.

While the social policies that depend upon statewide and nationwide averaged rates and other internal and external cross-subsidies were beneficial to both the industry and consumers when they were implemented, their necessity and validity have diminished now that infrastructure is in place to connect virtually all consumers to the public network.

C. Targeting Universal Service Subsidies.

While it is not true that a universal service subsidy and a competitive market cannot coexist, the task of reconciling the two competing values is a difficult one. It is the DCA's position that the universal service subsidy must be designed in a way that universal service can co-exist with competition; that means it must be a limited and carefully-crafted subsidy.

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17 Crandall, Robert W., After the Breakup (Washington, D.C.: The Brookings Institution, 1991), p. 164.

In order to moderate the economic impact of any subsidy on the public telecommunications system, and also achieve equity among different classes of consumers, the DCA believes that the universal service subsidy should be targeted on consumers who would not have access to the networks without the subsidy. That means that the subsidy: (1) should not be available to those who do not need it to achieve access; (2) should not be needlessly large for those who are entitled to receive it; (3) should be deployed in ways that are most beneficial to the short- and long-term interests of all of society, including those who bear its burden and those who receive it; and, (4) should be deployed in ways that will accord its recipients the maximum feasible flexibility in using it.

The function of the subsidy should only be to achieve universal service -- a broadening of access to include virtually everyone -- and not just a means to redistribute income among classes of customers or geographical areas. This is so because there are important trade-offs to consumers. The larger the universal service subsidy, the greater is its cost, and the greater is its negative impact on the speed with which the, telecommunications age advances, both for those customers who receive the subsidy as well as for those customers who fund it.

Also, those who elect to live in rural areas recognize, when they make that choice, that rural living results in a variety of cost savings for some things (e.g., auto insurance), but that it also creates cost increases for other things (e.g., property taxes, commuting, and food). Hence, it is not inequitable that consumers who choose to live in rural areas pay the true cost of providing their telecommunications services.

Each of the economic reasons which the DCA has identified above supports some level of a universal service cross-subsidy, but each has inherent limits: at some point, as the amount of the subsidy increases, its economic rationale disappears. Since the cost accounting that would establish that point probably is unavailable, no one can determine precisely at what point a subsidy of this kind becomes uneconomical. In a competitive market, competitors would make these decisions subject to marketplace constraints, and ultimately, the market itself would make those determinations. Now, it usually is a regulatory decision. The DCA believes that to the extent possible, this should be a marketplace decision; and to the extent that it must remain a regulatory decision, it should be made with an eye to the market, limiting the subsidy to the amount that providers would probably allocate in a competitive market with all participants knowledgeable about and mindful of their interests.

IV. SUGGESTED INTERPRETATION OF SPECIFIC PORTIONS OF THE ACT RELATING TO UNIVERSAL SERVICE.

The DCA believes that any geographic high-cost subsidy program should be structured around three important policies: (1) that all subsidies should be focused on those who really need them (that is, those who otherwise could not afford the services); (2) that those who receive the subsidy should be aware of the amount of subsidy they receive; and (3) that those who fund the subsidy should be aware of the amount they are contributing to it.

The DCA is concerned that a broad interpretation of the Act by the FCC could result in an unfocused subsidy to all customers in high-cost geographical areas. It would provide subsidies to affluent residential customers, and its funding would not be explicit. We are concerned that without a focused subsidy, low-income, inner-city customers might subsidize affluent rural customers, and telecommunications providers could be deterred from offering more efficient, lower-cost technologies in high-cost areas. Ultimately, unless the high-cost area subsidy is focused, it could become a monstrous albatross around the necks of the nation's average consumers and businesses. The FCC must be careful not to apply the Act in ways which make low-cost telephone service an "entitlement."

A. What Are "Reasonably Comparable" Rates?

-The Act requires that the FCC and the Joint Board base the policies and principles for advancing universal service on several principles, one of which is that telecommunications and information services, including interexchange and advanced telecommunications services, be available to consumers in all regions of the nation, including low-income consumers and those in rural, insular and high-cost areas, at rates that are "reasonably comparable" to the rates charged for similar services in urban areas. (Act, [[section]] 254(b)(3).)

The manner in which this provision is interpreted will have a profound effect on the extent to which competition and innovation in the telecommunications and information services industries are encouraged and promoted. The DCA believes that while it may be appropriate for the FCC to establish some broad-based policy on this issue, the FCC should allow the states to determine what constitutes reasonably comparable intrastate and local exchange rates. To the extent that the FCC deems it necessary to interpret this provision, the DCA provides the following suggestions and guidance.

Rate regulation and rate averaging significantly influence the speed and extent to which competition will emerge. The greater the restriction on a market participant's ability to respond to customer demand with flexible pricing, the more competition will be deterred and delayed. Less competition means there is less pressure to be efficient and reduce prices.

In determining how to interpret and implement Section 254(b)(3), we note that it does not require that the rates for rural customers be identical to those for urban customers. If that had been Congress' intent, it would have written this provision as it did Section 254(g), where Congress requires that interexchange and interstate service rates for customers in rural and high-cost areas be "no higher than" rates charged for the same services in urban areas. Hence, it seems logical to conclude that Congress intended that "reasonably comparable" rates are something less than "no higher than" rates, and that under a proper interpretation of Section 254(b)(3), some rates will be higher than others. The question that still must be answered is -- what range of rates constitutes "reasonably comparable" rates?

As a general rule, the reasonable price of a product is the true cost of providing it to the purchaser. In evaluating the reasonable cost of manufactured goods, most people agree that the manufacturer is morally entitled to receive the cost of manufacturing the product, including a margin for profit.

When circumstances create additional costs for some but not all purchasers, those costs usually are passed on to the customers that necessitate the increased cost. For example, virtually no one argues that it is unreasonable for the price charged for products transported to. and sold in, remote areas to reflect the additional cost of transporting them to that area. As another example, car insurance usually costs less in rural areas than in more densely populated areas where the risk of losses are increased by the number of drivers on the road, the types of traffic in which they drive, and other factors that increase insurers' costs.

The same rules should apply to telecommunications, particularly as it becomes the subject of a truly competitive market as Congress envisions. In that new market, the reasonable price of a service should relate closely to the cost of providing the service. Applying that analysis, a rate for services provided to rural customers is "reasonably comparable" to the rate for services provided to urban customers if the rural customers' rate includes the additional costs (if any) incurred by the telecommunications provider to provide service to the rural customers.

B. What Are "Just, Reasonable and Affordable" Rates?

The Act also requires the FCC and the Joint Board to base the policies and principles for advancing universal service on the principle that "[q]uality service should be available at Lust, reasonable, and affordable rates." (Act, [[section]] 254(b)(1). [Emphasis added.]) In fact, the only "consumer protection" relating to universal service required by the Act is that the FCC ensure that universal service is available at rates that are just, reasonable, and affordable. (Act, [[section]] 254(i).)

The manner in which this provision is interpreted also will have a profound effect on whether the U.S. will have, and benefit from, a truly competitive telecommunications market which offers advanced telecommunications services. The DCA believes that while it may be appropriate for the FCC to establish some broad-based policy, the FCC should allow the states to determine what constitutes just, reasonable and affordable intrastate and local exchange rates. To the extent that the FCC interprets this provision, the DCA provides the following suggestions and guidance.

With respect to the first requirement -- that rates be "just" -- probably everyone can agree that "just" is normally defined as fair, and consistent with moral right. (American Heritage Dictionary (2d college ed. 1985) page 694.) As a general rule, our society's view of fairness requires that each person pay for his or her share of the cost of something he or she uses, or from which he or she benefits. Most people agree that it is "unfair" to impose that burden on other customers. While we make exception for the poorest in our society, that exception is narrowly tailored and strictly limited.

For example, food is necessary to sustain life. Food purchased near the places where it is grown usually costs less than food that must be transported to remote areas, as do gasoline and other products. Some people who live in areas remote from farms are in great economic need. Nonetheless, we have not found it necessary to create a complex universal service subsidy program to subsidize the price of food or gasoline in those areas. Perhaps that is because society considers it "just" and "fair" that the people who cause that additional cost should be the ones who pay it. Although we provide some assistance through the food stamp program, it is focused only on those who need economic help, and the amount of the assistance is not increased based on the cost of food in a given region of the country.

Applying this rule to telecommunications, "just" rates are rates that, to the extent possible, reflect the true cost of providing service. Where those costs differ based on geography or some other factor, it is just and fair that those customers who cause the increased cost to provide service should pay that increased cost.

As to the remaining two requirements, many consider the terms "reasonable" and "affordable" to be synonymous. It is very significant that the Act recognizes that those terms are not synonymous. Recognizing and appropriately applying the difference between the two terms is critical to the proper interpretation of the Act.

In Section IV.A., the DCA discussed the meaning of "reasonable" in the context of telecommunications rates. The DCA believes that same interpretation also should apply here. Thus, a "reasonable" rate presumptively is one which reflects the true cost to provide service -- a cost which may differ based on density, geography, climate or other factors.

The real question then becomes -- when is the reasonable price of providing basic service not an affordable rate. In the DCA's view, the answer to that question must depend on the income of particular customers -- their economic ability to purchase the service. For example, assume that there is a geographic service area ("GSA") where the cost to provide basic service to customers within the GSA is $100 per month. If a customer's income is in excess of $100,000 per year, then $100 may be both a reasonable price for basic service and also an affordable rate for that customer. However, if the customer's income is only $20,000 per year, then, even though the reasonable price for basic service remains $100, it probably is no longer an affordable rate. In short, affordability depends on the capacity of people to purchase the service, while reasonableness has a lot more to do with the actual cost of providing it.

Need is a foundational tenant of a subsidy program, particularly one linked to affordability;" geography is not. The DCA urges the FCC to carefully craft the high-cost area subsidy fund so that it is focused on those who, without the subsidy, probably could not afford the services. There is no basis on which the government could justify supporting the subsidization of telephone service to a movie star's beach house, a wealthy business executive's ranch, or the separate telephone line for the 16-year-old of affluent parents living in a secluded community.

The DCA is concerned that competition for residential customers is likely to develop at a much slower pace than competition for business customers. The DCA firmly believes that geographically averaged rates will be a strong disincentive to competition. While that result might be mitigated somewhat by reliance on a high-cost area subsidy, the DCA believes that such reliance is undesirable, from both an economic and a moral perspective. So long as the regulatory scheme for a unfocused subsidy exists, the economic forces of a competitive marketplace will not fully and freely respond to the market.

The DCA believes that properly phased-in geographically deaveraged residential rates will be perhaps the most potent incentive for competitors to enter residential markets which previously were not cost-effective to serve. The competing local exchange carriers' entry into residential markets should put pressure on all providers to reduce their rates to the most cost-effective levels, and to apply new technologies in order to do so. Thus, geographically deaveraged residential rates should increase competition and incent innovation.

The DCA urges the FCC to focus the high-cost area subsidy on those customers who truly have an economic need for the subsidy, and to focus its regulation on providing incentives for reduced reliance on subsidy programs through competitive marketplace responses. The ultimate goal of the FCC, consistent with a competitive marketplace, should be elimination of the high-cost area subsidy -- a result which will occur only if providers have sufficient incentives to compete for profits, rather than rely on subsidies.

The DCA recognizes that immediate, full geographic rate deaveraging for the more high-cost rural areas probably would result in rate shock, and believes that geographically deaveraged rates should be phased-in over a period of time in order to avoid that unacceptable result. The DCA also recognizes that a geographic high-cost subsidy may be necessary for some period of time for a small minority of telecommunications customers. However, as competition develops and drives down prices, and as rates are allowed to rise to the level of the cost of providing service, the amount of the subsidy and the number of eligible customers should become quite small and, hopefully, the subsidy eventually will be eliminated.

C. Subsidies Must be "Explicit."

To the extent that universal service subsidies are necessary and justified by reasoned principles, Section 254(e) mandates that they be "explicit." The Joint Conference Statement confirms that "[t]o the extent possible, the conferees intend that any support mechanisms continued or created under new section 254 should be explicit, rather than implicit as many support mechanisms are today" (Joint Conference Statement, p. 16.), and that it is "the conferees' intent that all universal service support should be clearly identified (Id., at p. 17). "

The DCA believes this mandates both that the subsidy's payor should be aware of the amount the payor is paying to support the subsidy, and that the subsidy's recipient should be aware of the amount of subsidy the recipient is receiving. It is important for customers to have that information because people cannot judge whether the subsidy is cost-effective, or whether the public policy underlying the subsidy is sufficiently important to justify the cost, if they cannot quantify that cost. To the extent that society decides that the subsidy is not cost-effective, it can develop new, creative ways to respond to the public policy underlying the subsidy.

D. Serving Schools, Libraries, and Health Care Providers.

An important aspect of assuring that the advent of competition in telecommunications does not result in a society of information "have nots" is assuring that new information technologies are available in America's schools and libraries. That will help ensure that every student, and the public at large, have the opportunity to obtain the training essential to participate in the new Information Age.

Perhaps the most beneficial action the FCC can take to assist in the availability and deployment of advanced telecommunications and information services to schools, libraries and health care providers -- to all of society -- is to provide incentives for the telecommunications market to deploy a fiber optic, broadband network platform. A broadband platform will be essential for deployment of many new and yet-to-be-developed technologies that schools will need in order to train our children for productive employment.

Once a broadband platform is in place, the DCA believes that the market can and will respond to provide schools, libraries and health care providers with many of the services they will need, without the additional intervention of regulation. We believe that the competitive market has an enormous potential to deliver these to the public at large, as witnessed by its success in the consumer electronics market, which is serving the entire world, and persons of all income levels, abundantly and well. Only where telecommunications and information services providers fail to offer adequate services -- where the competitive marketplace fails to operate as it should -- should the government interject itself into the process to require provision of services. Even then, it should be aware that its efforts will be crude, and somewhat unresponsive to need, at best.

The DCA believes that adding new telecommunications and information technologies to the definition of the subsidized basic service could prove wasteful and unaffordably expensive to the paying customers and society. Yet, there is justification and wide-spread support for a social policy which encourages low-income consumers to gain familiarity with and use those new technologies. One way to meet this challenge may be to provide those new technologies to schools and libraries at reduced rates, allow consumers to have access to those services for a modest fee which covers the cost of providing them, and possibly provide low-income households with lifeline-rate vouchers that would allow them to obtain access at reduced rates.

In the past few years, California has critically examined these issues through bodies such as the Governor's Council on Information Technology and the SB 600 Task Force. California is in the process of implementing recommendations made by those bodies. The needs of citizens will vary from region to region, even within a state. The states are better equipped to address the different needs of their citizens on a more focused basis than the federal government could do. Therefore, the DCA believes that these types of policies decisions should be made at the state, rather than the federal, level, insofar as possible.

E. Special Services for Low-Income Customers.

Paragraphs 50 through 58 of the NPRM discuss what services should be supported through the universal service subsidy for low-income customers. The FCC's suggestions include: (1) toll limitation and toll restriction services; (2) reduced service deposit; and, (3) services other than conventional residential services for those low-income individuals who do not have access to residential service, such as seasonal workers and homeless persons.

The DCA believes that toll limitation services, toll restriction services, and reduced service deposit charges are services which are beneficial to such consumers. The DCA also believes that one possible means to address the needs of those who do not have access to residential service may be to make available to those customers a universal service voucher which they could use to purchase services such as voice mail or pre-paid telephone cards.

However, the DCA also believes that there may be an effective demand for some or all of those services without a subsidized rate, if the services are properly designed and promoted. To the extent possible, the competitive marketplace should be allowed to provide those services.

The best solutions for these types of problems, and the need for these types of services, may vary from state to state. If the competitive marketplace does not respond sufficiently, then state regulators should step in to consider the least intrusive ways to incent the competitive market to provide those services.

V. CONCLUSION.

There are several guiding principles which the DCA believes should be applied when interpreting and implementing the Act. The Act should be interpreted and implemented in a manner which carries out the policy and intent of Congress in enacting it. Congress has mandated that the FCC interpret the Act in a manner which promotes competition, encourages innovation, and reduces regulation to the greatest possible extent. The DCA believes that the FCC should delegate to the states the interpretation and implementation of the Act as it relates to intrastate and local exchange issues.

There is a public policy basis for some form of universal service subsidy program. Applying the principles identified by the DCA means that the subsidy program should be efficiently designed to carry out the policies which justify it. The FCC should avoid financing universal service by overpricing some telecommunications services. Universal services should be targeted to those in economic need who otherwise could not afford telecommunications services. To the greatest extent possible, the marketplace should be allowed to operate so as to identify the appropriate level of universal service subsidy needed.

The DCA believes that application of the principles it has identified above are especially important to several key provisions of the Act. Applying those principles, the Act's requirement that rates in rural areas be reasonably comparable to those in urban areas means that the rural area rates should reflect any increased cost of providing services to those areas. Similarly, the Act's requirement that rates be just, reasonable and affordable, also means that rates in rural areas should reflect any increased cost of providing service to those areas. However, as to those few persons who truly cannot afford the cost to provide service, including those in rural areas where the cost to provide service may be greater than in urban areas, the rate is not an "affordable" rate, and a universal subsidy may be appropriate in those cases. The Act's requirement that subsidies should be explicit means that consumers are aware of (1) the amount they pay to support the subsidy, and (2) the amount of subsidy they receive.

The DCA believes that perhaps the most beneficial action the FCC can take to assist in making advanced telecommunications and information technologies available in schools, libraries and health care facilities is to provide incentives for the telecommunications market to deploy a fiber optic, broadband network platform, and let the market take care of the rest.

The DCA supports the concept of innovative solutions to the difficulties of low- income consumers in obtaining telecommunications services. However, it believes that the decisions about which services to provide should be made first by the market, and to the extent the market does not adequately respond, by state regulators.

DATED: April 10, 1996
Respectfully submitted,

Virginia J. Taylor Staff Counsel

Richard A. ELBRECHT
Supervising Attorney
Attorneys for
CALIFORNIA DEPARTMENT OF
CONSUMER AFFAIRS
400 R Street, Suite 3090
Sacramento, CA 95814-6200
(916) 445-5126

Certificate of Service

I hereby certify that on April 11, 1995, 1 served a copy of the "Comments of the California Department of Consumer Affairs on the Federal Communications Commission's Notice of Proposed Rule Making and Order Establishing Federal-State Joint Board on Universal Service" on all parties on the service list for CC Docket No. 96-45 by mailing a properly addressed copy by first-class mail with postage prepaid to each party named in the official service list, a copy of which is attached.

Executed on April 11, 1995, at Sacramento, California.

Susan L. Rosenblatt
Sr. Legal Typist
Department of Consumer Affairs