[*]Senior Economist, Revenues and Public Affairs Department, Southwestern Bell Telephone Company, St. Louis, Missouri. The opinions expressed in this article are those of the author and do not necessarily represent the opinions, policies, or business plans of SBC Communications Corp. or any of its subsidiaries. The author wishes to thank Tom Pajda, Margret Starkey, and Terry Schroepfer for their assistance in the preparation of this Article. Chris Graves served as research assistant to the project. This Article has been adapted from Alexander C. Larson, Optimal Resale Policies in Telecommunications Regulation (unpublished manuscript)(Nov. 1995).

[1] The Federal Communications Commission has defined resale as "an activity wherein one entity subscribes to the communications services and facilities of another entity and then reoffers communications services and facilities to the public (with or without 'adding value') for profit." In re Regulatory Policies Concerning Resale and Shared Use of Common Carrier Services and Facilities, 60 F.C.C.2d 261 (1976), modified 62 F.C.C.R. 2d 588 (1977), aff'd sub nom. AT&T Co. v. FCC, 572 F.2d 17 (2d Cir.), cert. denied, 439 U.S. 875 (1978) (involving private line resale); See also In re Regulatory Policies Concerning Resale and Shared Use of Common Carrier Domestic Public Switch Network Services, 83 F.C.C.R. 2d 167 (1980), aff'd sub nom. National Ass'n of Regulatory Util. Comm'rs v. FCC, 746 F.2d 1492 (D.C. Cir. 1984) (involving switched network services resale).

[2] Resale involves at least two distinct scenarios: (1) the resale or leasing of unbundled network components and functions of the local exchange carriers (LECs); and (2) "rebranding." The resale of unbundled network components and functions is an arrangement in which alternate local service providers are given the ability to purchase network functions performed by an LEC as a wholesale service. This type of resale involves the leasing of LEC facilities or service elements to enable other carriers to combine them with their own facilities. The network functions involved could include, for example, the local loop, local switching, dedicated transport, common transport, and SS7 call setup, as Ameritech proposed in its "Customers First" plan. Petition for a Declaratory Ruling and Related Waivers to Establish a New Regulatory Model for the Ameritech Region (filed Mar. 1, 1993), at 13. The wholesale service could also include call detail and on-line access to all account-related databases and operational support systems, including directory assistance and operator services databases, so that customers can establish service with a reseller on the same basis as with the LEC (i.e., service order and provisioning parity). The reseller would perform all retail functions, such as marketing, sales, and customer billing. Generic unbundling issues are discussed in Alexander C. Larson & Margarete Z. Starkey, Unbundling Issues and U.S. Telecommunications Policy, 6 STAN. L. & POL'Y REV. 83 (1994). Rebranding is an arrangement in which the incumbent LEC makes available its local exchange telephone services at wholesale prices to other providers of telecommunications services. This arrangement allows firms to offer local telephone services packaged with long distance and other services. As such, they would be able to market themselves as full service providers offering an alternative to the extant LEC's local telephone services. Rebranding involves "one-stop shopping," where a carrier is simply packaging under its own brand name its own long distance service and a LEC's local exchange service, without making any local network investment. See Effect of Resale on Facilities-Based Competition in the Local Exchange Market (Teleport Communications Group)(Nov. 1995), at 1-2 (on file with the author).

[3] In re Rochester Telephone Corporation, Opinion and Order, Cases 93-C-0103 & 93-C-0033, Opinion No. 94-25, 160 PUB. UTIL. REP. 4th (PUR) 554, 1994 WL 728535 (N.Y.P.S.C. 1994).

[4] Telecommunications Act of 1996, Pub. L. No. 104-104, 110 Stat. 56 (1996), at §251.

[5]. See, e.g., Comments to the FCC, In re Telephone Number Portability (CC Docket No. 95-116) (filed by LDDS WorldCom on Sept. 12, 1995).

[6] As an illustration, consider the analogous example of a market for bottled soft drinks. Assume that producing the raw flavored syrup for the soft drink is the "manufacturing" aspect of production, and that mixing the syrup with water, bottling it, advertising it, and selling it is the "marketing" aspect of production. Assume that an antitrust authority has deemed the competitive process in the retail market to be deficient, but that in reality it is not. Given this, it improves neither the competitive process nor consumer surplus in such a market if the regulatory authority forces the incumbent firm(s) to resell the beverage itself to bottler franchisees. The end result may appear to be an increase in the number of vendors and may have the look and feel of "competition," but ultimately consumers are still getting the same soft drink, at a retail price that is no lower. The same soft drink is offered to consumers merely via a larger variety of bottled brands, and at additional cost to society to do so.

[7] This has been estimated at -.04 or less. See generally LESTER D. TAYLOR, TELECOMMUNICATIONS DEMAND IN THEORY AND PRACTICE (1994).

[8] Consumer surplus is an economic measure of consumer welfare defined as the difference in what a consumer is willing to pay for a given good, service, or commodity, minus what he must pay. See e.g., DAVID L. KASERMAN & JOHN W. MAYO, GOVERNMENT AND BUSINESS: THE ECONOMICS OF ANTITRUST AND REGULATION 49-50 (1995).

[9] In re Application for Certification to Provide Facilities Based and Resold Exchange Telecommunications Service in Those Portions of MSA-1 Served by Illinois Bell Telephone Company d/b/a Ameritech Illinois and Central Telephone Company: Hearings on Docket No. 95-0197 Before the Commerce Commission of the State of Illinois, at 34 (Jun. 21, 1995) (prefiled direct testimony of AT&T Communications of Illinois, Inc. witness Lee L. Selwyn).

[10] See, e.g., WILLIAM J. BAUMOL & J. GREGORY SIDAK, TOWARD COMPETITION IN LOCAL TELEPHONY (1994) [hereinafter cited as BAUMOL & SIDAK, COMPETITION]; William J. Baumol & J. Gregory Sidak, The Pricing of Inputs Sold to Competitors, 11 YALE J. ON REG. 171 (1994)[hereinafter cited as Baumol & Sidak, Input Pricing]; and JEAN-JACQUES LAFFONT & JEAN TIROLE, A THEORY OF INCENTIVES IN PROCUREMENT AND REGULATION 255-258 (1993). The efficient component-pricing rule is also known popularly as the Baumol-Willig rule, the Baumol-Sidak rule, or the parity principle.

[11] To make the discussion less complicated, this assumes that opportunity costs arising from other cross-elastic effects are not present.

[12] This optimal method of setting wholesale prices for resold services is very close to what the Telecommunications Act of 1996 requires: "For the purposes of section 251(c)(4), a State commission shall determine wholesale rates on the basis of retail rates charged to subscribers for the telecommunications service requested, excluding the portion thereof attributable to any marketing, billing, collection, and other costs that will be avoided by the local exchange carrier." Telecommunications Act of 1996, Pub. L. No. 104-104, 110 Stat. 56 (1996), at §252(d)(3).

[13] BAUMOL & SIDAK, COMPETITION, supra note 10; Baumol & Sidak, Input Pricing, supra note 10.

[14] Common costs are shared costs which result from products or services being produced jointly, but in variable proportions. Common costs often are unattributable costs which are incurred in common for all the services supplied by the firm, and which do not vary with the level of output. They are frequently understood to be only company-wide overheads that cannot be attributed to any one service or group of services, though overheads are not the only type of common cost a firm may incur. As an example, consider training for telephone operators, who may provide multiple services; their training is a common cost of the services they provide.

[15] Residual ratemaking is the setting of the "residually priced" service rates so as to yield closure to an authorized revenue requirement after the rates for all other services have been determined. Thus, for a given service priced residually, its price is set so as to cover the "residual" revenue requirement not recovered by all the other services whose prices have already been determined. Residual pricing is typically used as a means of setting basic local exchange rates at low levels to foster universal service.

[16] These include the Universal Service Fund, Long Term Support, Yellow Pages imputation, Lifeline offerings in the various states, the Link-Up America program, and Telecommunications Relay Services. For a more detailed description of the various sources of universal service funding, see Alexander C. Larson, Pricing Principles in Telecommunications, in TELECOMMUNICATIONS LAW, REGULATION AND POLICY (William H. Read & Walter Sapronov eds., forthcoming 1996).

[17] Alfred E. Kahn, A Free Ticket to Rich Telecom Markets, WALL ST. J., Nov. 10, 1995, at A15.

[18] Id.

[19] Carl Christian von Weizsäcker, A Welfare Analysis of Barriers to Entry, 11 BELL J. ECON. 399, 400 (1980) ("A barrier to entry is a cost of producing which must be borne by a firm which seeks to enter an industry but is not borne by firms already in the industry and which implies a distortion in the allocation of resources from the social point of view."). Von Weizsäcker's analysis indicated that under some simple assumptions (e.g., linear demand, Cournot entry, scale economies in all firms' cost functions), the socially optimal number of entrants can be smaller than the equilibrium number of entrants. The fact that entrants beyond the socially optimal number may be precluded from entry does not harm economic efficiency. See Alexander C. Larson, William E. Kovacic & Douglas R. Mudd, Competitive Access Issues and Telecommunications Regulatory Policy, 20 J. CONTEMP. L. 419 (1994) (discussing the von Weizsäcker entry barrier and its relation to the concept of essential facilities).

[20] PHILLIP AREEDA & HERBERT HOVENKAMP, ANTITRUST LAW ¶ 736.2 (1989 Supp.). This constitutes broader criteria for essentiality than the economic criteria proposed above, since the failure of competitors to survive may not impair a market's economic efficiency.

[21] Florida Fuels, Inc. v. Belcher Oil Co., 717 F. Supp. 1528, 1533 (S.D. Fla. 1989) (ruling that a facility is not essential where ". . . construction of [the upstream market's fuel] storage tanks and pipelines is expensive. But, as both parties note, the [downstream South Florida bunker fuel] market is burgeoning and potentially lucrative . . . The potential economic gains to be reaped from an investment are substantial.").

[22] Florida Cities v. Florida Power & Light, 525 F. Supp. 1000, 1007 (S.D. Fla. 1981).

[23] City of Anaheim v. Southern California Edison Co., 955 F.2d 1373, 1381 (9th Cir. 1992).

[24] Baumol & Sidak, Input Pricing, supra note 10, at 185.

[25] FRANKLIN M. FISHER, Can Exclusive Franchises Be Bad?, in INDUSTRIAL ORGANIZATION, ECONOMICS AND THE LAW: COLLECTED PAPERS OF FRANKLIN M. FISHER 154 (1991).

[26] Id. at 160-61.

[27] Id. at 161.

[28] Id.

[29] Id. at 163.