New York Views

Thomas W. Hazlett
The Case for Cable Competition
Winter 1992

Two years ago, when residents of the South Bronx finally had a cable television service to sign up with after a twenty-year wait, they were delighted. At long last, the folks across the street from Yankee Stadium could tune in Yankee games on their television sets. (Across the Harlem River, in Manhattan, cable had been available since the mid-1960s.) Urban Cable Systems, the enterprising firm that offered residents a forty-channel menu of news, sports, and entertainment, was doing a booming business.

There was just one problem: Urban was operating illegally. In 1987, the company had applied for a franchise—the certificate giving it the city’s permission to run wires through the streets—but the Board of Estimate never acted on its request. Frustrated, Urban began to wire the district in 1989 anyway. When its service was discovered by city officials, the company was forced to rip out its wires, leaving some of its customers without service until 1995, when Cablevision, the official Bronx franchise holder, is expected to start providing service to the neighborhood.

Obtaining a cable franchise is an expensive and politically demanding task, and the effect of the franchise system has been to restrict competition in the cable industry. New York City is forbidden by the New York State Constitution from giving any applicant an exclusive franchise, one which prevents another party from operating a competitive system on the same streets. But the city’s practice of ignoring requests for competitive cable licenses has granted incumbent operators de facto monopolies. It has also fueled an unseemly rivalry for the political clout to obtain these monopolies and spurred allegations of corruption.

Most U.S. cities have cable monopolies. Of the approximately nine thousand U.S. cable franchises, only about 120 compete head-to-head with a rival company for subscribers. In those cities, subscribers get a cheaper and better deal than in the great majority of noncompetitively franchised cities. But local officials argue that exclusive franchising is good for consumers because it gives local governments the leverage to demand that companies offer universal service, making cable available to all parts of the city, including those less profitable to serve.

Local officials have less altruistic motives as well. In exchange for the franchises, they are able to extract valuable concessions from cable companies, such as subsidies for community and government programming and even cash. (Federal law restricts municipalities from imposing a franchise fee in cash that exceeds 5 percent of the franchisee’s gross receipts from cable service.)

When Time Warner renewed its two Manhattan franchises in 1990 (the only cable franchises in that borough), the company made concessions to the city worth over $20 million. This included $8 million to build a studio for public use and $3 million to build the city its own television studio. Time Warner also agreed to spend $13 million to finance an “institutional network” for the city’s courts, police, and firemen, but the state stepped in and reduced the amount to $8 million, a decision the city is challenging.

In addition to ensuring universal service, municipalities claim that franchising is necessary in order to protect public rights-of-way (the public spaces in which trenches must be dug or utility poles installed to carry the cables) and to shield consumers from high prices. But rights-of-way are already protected by laws that apply to other utilities, and the Cable Communications Policy Act (Cable Act) passed by Congress in 1984 made it illegal for most local governments to regulate prices.

The Cable Act deregulated every cable system in areas where viewers could receive at least three regular television channels over the air. (In 1991, the number was increased to six.) As a result, 97 percent of U.S. cable systems were deregulated in 1986; their prices can no longer be regulated, nor can franchises be denied renewal upon expiration. Secure in their monopoly status, cable companies have limited incentives for keeping prices low.

The rationale for government regulation has been further undermined by the growing popularity of “wireless cable,” in which television signals are carried by microwave broadcast rather than over a cable line. There are limitations in this technology: Waves travel in straight lines and are blocked by structures in the path between the sending and receiving stations, and channel capacity is capped at 33 by current federal policy. Still, such systems require no franchising, offering the possibility of wider competition even in areas with monopoly cable policies.

New York City’s Department of Telecommunications takes its obligation to encourage competition very seriously, according to Christopher Collins, general counsel for the agency. He points out that the city favors giving telephone companies, which are among the companies most likely to compete, the right to offer cable service with the “appropriate safeguards” to protect telephone customers. He is skeptical about cable companies’ desire to compete with established rivals, however. “The cost of constructing a cable television system is so high that in order for it to be economically feasible to have direct head-to-head competition, there would have to be a penetration rate of 70 percent, and each company would have to get 35 percent,” he says. Yet the average penetration rate nationally is 64 percent and is increasing each year. While only 50 percent of the homes in the Manhattan franchise areas currently subscribe to cable, experience elsewhere indicates that the introduction of competition in similar markets often results in an immediate jump in the penetration rate to about 70 percent.

The “natural monopoly” argument—that it is not economically possible for two companies to compete and stay in business—is frequently used in defense of both exclusive franchising and practices that discourage competition. But the history of competition in places that do have more than one cable company suggests that the natural monopoly argument is weaker than it looks. In Sacramento, for instance, competition developed after several years of monopoly service. Until 1987, when they lost a suit filed by Pacific West Cable Company, the city and county governments had strenuously protected the exclusive franchise granted to Sacramento Cable Television. Pacific West argued that monopoly franchises were an unconstitutional abridgement of its right to publish under the First Amendment. A federal jury found that the local government’s rationale for its exclusive franchise, particularly the notion of a “natural monopoly,” consisted of “sham arguments.” Under court order, Pacific West was granted a franchise.

Pacific West, however, ended up switching to the wireless cable system, which offered advantages in marketing. Local officials are delighted: “Consumers are using the threat of switching companies to get better service and prices,” the chairman of the local cable commission told the Wall Street Journal. “Pacific West has gone from being a foe to a friend.”

Competition followed a far smoother course in the Allentown, Pennsylvania, area, including nearby Bethlehem and Easton. Cable companies there have competed since the mid-1960s. No franchises specifically tailored to control cable operations are required in most of the more than fifty townships and cities involved; existing rules governing all types of rights-of-way on public property were found adequate to protect the public interest. Joe Rosenfeld, assistant to the mayor of Allentown for telecommunications, has described the competition in glowing terms: Prices are lower than elsewhere, while service is far friendlier and more reliable. Not only do both firms offer state-of-the-art channel menus, but they are also extremely responsive to consumer requests.

The advantages to consumers of competition have been confirmed by a number of studies. A 1990 Consumers’ Research article found that 26 noncompetitive cable systems charged rates 18 percent higher than similar competitive systems ($17.31 per month for basic service versus $14.13). This mirrors my own finding that for a typical subscriber purchasing basic service plus one premium channel, charges are 23.5 percent higher for the monopoly system. In a July 1990 report, the Federal Communications Commission (FCC) noted that in a telephone survey of 13 competitive systems, rates per channel were 34.1 percent lower for basic service than for noncompetitive systems.

Monopoly franchising has been singled out as grossly anticonsumer in a series of studies by federal agencies. Last year the FCC issued a major study harshly criticizing exclusive franchises and calling for new federal laws to encourage competition. The agency urged that local authorities be forbidden from unreasonably denying franchises to potential competitors or imposing rules whose intent or effect is to stifle competition. The Federal Trade Commission likewise has expressed concern that local governments, together with incumbent operators, may have used the cable franchising process to illegally restrict competition.

The benefits of competition in cable are similar to those found in other industries. The interests of the cities in thwarting competition are also similar to those that often drive government regulation, where the public interest falls prey to entrenched economic interests. Urban Cable’s bid to champion the competitive solution to the consumer’s choice problem is just one more battle in the long war between the consuming public on one side and regulatory boards beholden to the regulated companies on the other.

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