Wheeler Responds Regarding USF High-Cost Subsidies

The Universal Service Fund subsidies now require consumers to pay a 17.4% surcharge on all of their interstate telephone calls. So adhering to some semblance of cost-control regarding USF fund expenditures ought to be a pro-consumer objective.

While I have found plenty to criticize recently regarding FCC Chairman Tom Wheeler's actions, especially with respect to the agency's Title II reclassification order, I am always happy to find some area of agreement. I was pleased to see Chairman Wheeler's response to Kansas Senator Jerry Moran regarding the FCC's implementation of reforms to the USF "high-cost loop support" provided to rural telephone companies. Here is the letter to Senator Moran.

Without here going into all the intricacies of the high-cost part of the USF program, the gist of Mr. Wheeler's response, at least as far as I can discern, appears to resist changing the high-cost support formula in a way that will prevent realization of the FCC's claimed objective "to provide better incentives for carriers to curb waste." Mr. Wheeler says that he believes "it is important to move forward with implementation of this  [reform] mechanism to ensure that universal service funds are being used as cost-effectively and efficiently as possible."

Please don't get me wrong. In my view, the USF program should be reformed in more substantial ways than anything the FCC has yet envisioned, so that subsidies can be targeted more narrowly and efficiently to those truly in need. But in the meantime, given the traditional pressures to expand support in the high-cost fund regardless of efficiency or effectiveness considerations, I was heartened to see Mr. Wheeler seemingly committed to resisting back-sliding regarding the modest reforms already adopted.

Meaningful reform of the USF program in a way that substantially reduces the 17.4% USF tax would be a tangible pro-consumer move.

Remarks from FCC Commissioners Pai and O’Rielly at FSF’s “Future of the Internet” Conference

The videos are up from the Free State Foundation’s seventh annual telecom policy conference entitled “The Future of the Internet: Free Market Innovation or Government Control?” The distinguished series of panels and speakers delivered wonderful discussions and statements on various issues within telecommunications policy.

In one of the panels, Free State Foundation President Randolph May had the privilege of speaking with FCC Commissioners Ajit Pai and Michael O’Rielly. The conversation covered many aspects of the FCC’s Open Internet Order and its preemption of state laws restricting municipal broadband in North Carolina and Tennessee.

When asked which part of the FCC’s Open Internet Order is most troubling, Commissioner Pai said the reduction in broadband competition that will result from massive cost increases is most concerning. Commissioner O’Rielly, on the other hand, finds the uncertainty resulting from the general conduct standard most troubling.

About 10 minutes into the video, Commissioner Pai spoke out against the advisory opinions of the Open Internet Order:

The key to American entrepreneurship and innovation, I would think, is the fact that we’ve generally had an approach of permissionless innovation - that entrepreneurs don’t have to go to regulators, who stand as gatekeepers, who decide ultimately which business models are going to be allowed to proceed and which are not allowed to proceed.

I think the danger of this enforcement bureau advisory opinion is twofold. Number One - that it represents the very essence of innovation by permission. And secondly, it is also done by delegated authority. The five commissioners themselves will never have a chance to weigh in on some of these innovative services and products that may come before us.

The two Commissioners not only expressed concern that this Order went beyond the FCC’s authority, but they questioned the need for Internet regulations in general. Around the 17 minute mark, Commissioner Pai stated:

The predicate for regulation should be the existence of a problem that can be demonstrated with some specificity and it, generally speaking, should be industry-wide to the extent that we are adopting industry-wide regulations. But if you look at the Order, all you see is isolated niche examples that don’t suggest anything about a current market failure.

Commissioner O’Rielly added that the FCC has gone way beyond its authority and that the Order lacks any limitations to that authority:

[The order] is a double layer [of Title II and Sec. 706]

with no limitation.

In terms of wireless regulation, Commissioner O’Rielly questioned the consistency of the FCC. He mentioned that the FCC generally would not include wireless in its broadband statistics because it did not consider wireless a broadband service. Yet, when it came to rulemaking, the FCC thought wireless should be regulated with wireline broadband services.

Many of the Order’s opponents have expressed concern about how these rules will shape the perception of the United States on the international stage. Now that the United States has adopted strict Internet rules, it likely could lead to other countries, who have not done so already, adopting similar Internet regulations. Of course, violations of free speech and content control are some of the foreshadowing consequences of government regulation of the Internet. Approximately 30 minutes into the video, Commissioner O’Rielly said he is “very worried about the international implications of this decision.”

Around the 36 minute mark, the conversation changed to the forbearance process. Commissioner O’Rielly described why he thinks this Order does not allow for a forbearance process, but instead a “fauxbearance” process:

The Commission is saying - the only thing we really need is 201…because we can doing anything we want under 201, under just and reasonable. And in that scenario, there is no forbearance. Every situation that they can envision being tripped up in another provision can be dealt with in 201. So I don’t see any argument that this is light touch. It’s the opposite.

Finally, around the 45 minute mark, the conversation switched to the preemption of state laws restricting municipal broadband in North Carolina and Tennessee. Commissioner Pai stated that the FCC does not have the legal authority for preemption:

To me, the most problematic aspect was that it was

unlawful.

I think it’s pretty clear that if Section 253 didn’t serve as a sufficient basis for having clear statement that Congress intended giving the FCC preemptive authority, there is no way Sec. 706 did.

Commissioner O’Rielly, on the other hand, said that the idea of the government acting as a competitor in the broadband service market does not sit well with him:

On the policy merits, I do not agree with municipal broadband. I think it’s an affront to capitalism. I do not think it should be allowed, but that is not my decision to make. That is for states and others to make.

The FCC’s Open Internet Order was a popular topic at the conference but other topics such as video policy, spectrum auctions, and universal service were also discussed. Check out and subscribe to the Free State Foundation’s YouTube page for more videos from the conference and past events.

USF Surcharges: How High Will They Climb?

On March 13 the FCC issued a public notice announcing another Universal Service Fund (USF) rate hike for voice telephone service consumers. For the second quarter of 2015, voice consumers will be stuck with what is effectively a 17.4% tax on the interstate long distance portion of their phone bills. Federal USF surcharges typically appear as a separate line-item on consumers' monthly telephone bills.

USF is a multi-billion dollar subsidy system. The surcharges imposed on voice consumers are given to telephone companies in rural or high-cost areas, as well as schools, libraries, and some health care facilities. And, in some instances, the surcharge subsidizes providers serving qualified low-income consumers. The USF subsidy system has also grown exponentially over the last dozen years. Program subsidy disbursements for telecommunications service in high-cost areas grew from $2.6 billion in 2001 to $4.17 billion in 2013. According to the FCC's 2014 USF Monitoring Report, in 2013 additional USF subsidy disbursements for low-income voice consumers totaled $1.8 billion. Health care facilities received $159 million. Also, $2.2 billion in school-related subsidies were disbursed. 

Corresponding to the steady ballooning of USF subsidy spending are USF surcharges on consumers. The charts below show the spike in the effective tax rate on consumers over the last several years.

As I described in a prior blog post, "USF Surcharge Hikes Hit Over-Taxed Wireless Consumers Hardest," the FCC treats 37.1% of a wireless consumer's calling plan as interstate long distance, and hence subject to the USF surcharge. The FCC does permit wireless providers to classify a lower percentage of consumers' calling plans as interstate long distance if providers supply the FCC with supporting network-wide traffic studies. Nonetheless, the hit to wireless consumers from federal USF surcharges is especially hard. Wireless consumers are subject to multiple state and local wireless taxes, fees, and surcharges, piled one on top of the other. And wireless is often taxed at a higher rate than other services subject to general sales taxes.

The FCC has begun implementing comprehensive USF reforms. We have supported those reforms and also urged the FCC to go further. But questions remain as to the FCC's follow-through.

What's more, the FCC's December E-Rate Modernization Order (2014) authorized an increase in school-related subsidies to the tune of $1.5 billion annually. Given a subsidy spending jump of that magnitude, it's hard to expect voice consumers will avoid even heavier USF surcharge burdens in the future.   

Protecting consumers should be an FCC imperative as USF reforms and modernization continues. But rising USF surcharge rates are a sign that the FCC is failing to protect consumers. Reducing USF surcharges should go hand-in-hand with comprehensive reforms that reduce the overall size of the USF subsidy system and improve its efficiency. Reforms should be implemented – and the overall size of the USF program should be capped – before any additional subsidies are extended to broadband services.

Watch What We Do, Not What We Say

"Watch what we do, not what we say.” This was the advice President Richard Nixon’s first Attorney General, John Mitchell, gave the press early in Nixon’s presidency in 1969.

It turned out that it was worth watching what those in the Nixon Administration did as well as what they said.

The same is true with respect to FCC Chairman Tom Wheeler over at the Federal Communications Commission, especially with regard to the FCC’s recent decision to impose Title II public utility regulation on Internet providers. Watching what Chairman Wheeler has now done does not always square with what he previously said.

Here are a few examples:

• In 2011, Mr. Wheeler wrote in his blog that “the regulatory oversight of wireless carriers will continue to atrophy as the digital nature of the wireless business separates it from the legal nexus with traditional analog telecom regulation.” [The link is to a New York Times article quoting Mr. Wheeler’s blog posting, which has been removed.]

Under the FCC’s March 12, 2015 Internet Regulation order, instead of regulatory oversight atrophying, as it should given the competitive environment in the wireless marketplace, wireless broadband will be subject to much stricter regulation. Rather than acknowledging that the “legal nexus” does not exist to impose Title II regulation on wireless broadband providers, Mr. Wheeler resorts to a contorted legal analysis in an attempt to apply the “traditional analog telecom regulation” regime to wireless digital broadband services.

• In December 2013, The Verge reported that Mr. Wheeler said this:    "I think that we're seeing the market evolve in such a way that there will be variations in pricing, there will be variations in service…Netflix might say, 'I'll pay in order to make sure that my subscriber might receive the best possible transmission of this movie.'"

In the March 2015 order, Mr. Wheeler insisted on an absolute ban on so-called “paid prioritization,” preventing the evolution of Internet services in a way that might allow the development of – or even the experimentation with – two-sided market models involving “variations in pricing” and “variations in service.” This despite widespread agreement among economists that such two-sided market models might well benefit consumers by reducing end-user prices and improving service quality. As prominent regulatory economist Robert Crandall, a member of FSF’s Board of Academic Advisors, explained in his recent Perspectives: “Collecting fees from content providers for better, more reliable connections is likely to induce the ISPs to compete more aggressively for customers, thereby reducing consumer subscriber fees. As a result, it is difficult to demonstrate that ISPs would profit materially from collecting interconnection fees from content networks or that such a practice in two-sided markets is economically less efficient than having ISPs rely solely on subscriber fees for their revenues.”

• In May 2014, at the time the agency issued its rulemaking proposal, Mr. Wheeler assured the public that the Commission’s proposal did not cover interconnection arrangements between Internet transit networks and the Internet providers that provide Internet services to consumers. He said: “This is a different matter that is better addressed separately.”

In the March 2015 order, the FCC subjects interconnection arrangements to Sections 201 and 202 of the Communications Act, the core provisions of public utility regulation. Although the Commission doesn’t apply the full panoply of Title II rules, it invites complaints to be filed under Sections 201 and 202 which it will adjudicate on a case-by-case basis, almost certainly resulting in rate regulation (which the Commission simply will call by another name.)

My purpose here is not to make a legal argument concerning the sufficiency of the FCC’s May 2015 rulemaking notice under the Administrative Procedure Act requirements, although there are certainly several credible grounds for making such an argument. My purpose instead, to put it gently in terms that John Mitchell may have understood, is simply to show the extent to which it would be a mistake to rely on what Mr. Wheeler earlier said as opposed to what he ultimately did.

I think the foregoing also serves to demonstrate why it would not be wise for all those entities which comprise what we now often call the Internet ecosystem – in other words, including those “edge providers” and others thought not to be immediately subject to the FCC’s new mandates – not to put too much stock in whatever Mr. Wheeler or his fellow commissioners say at the moment about not regulating this or that business in this or that way.

And, of course, no one in the Internet ecosystem should put much stock in the notion that future commissioners will be bound by whatever present commissioners now say about their intentions.

We will surely need to watch what they do and not just what they say.

Remarks from "The Future of the Internet: Free Market Innovation or Government Control?"

The videos are up from the Free State Foundation’s seventh annual telecom policy conference entitled “The Future of the Internet: Free Market Innovation or Government Control?” The distinguished series of panels and speakers delivered wonderful discussions and statements on various issues within telecommunications policy.

Congressman Greg Walden, Chairman of the House Subcommittee on Communications and Technology, delivered an outstanding opening keynote address. Chairman Walden expressed concern about the unintended consequences of the FCC’s recent Open Internet Order:

I think that applying these outdated utility-style regulations will ultimately lead to increased uncertainty, leading to depressed investment, decreased innovation, reduced consumer choice, and a slowdown of our exceptionally vibrant Internet economy. And all that will ultimately hurt consumers.

Free State Foundation President Randolph May sat down with the House Majority Whip, Representative Steve Scalise, to discuss the FCC reclassifying broadband under Title II. Representative Scalise stated that such Internet regulation is ill-advised and concerning to the American people:

This is a solution looking for a problem. The Internet is working really well. You don’t want to the Federal government coming in and “fixing it.” 

There are millions of Americans that have a real concern and fear of the Federal government starting to regulate the Internet.

The FCC’s Open Internet Order was a popular topic at the conference but other topics such as video policy, spectrum auctions, and universal service were also discussed. Check out and subscribe to the Free State Foundation’s YouTube page for more videos from the conference and past events.

Roadie May Be Another Beneficial "Sharing Economy" Service

It is interesting to think about the historical evolution of mail service in the United States. For many decades, people had no choice but to mail packages through the United States Postal Service (USPS). But the government-operated service proved to be sufficiently lethargic and inefficient that new entrants into the package delivery market were able to emerge and thrive. United Parcel Service (UPS) and FedEx provided consumers with alternatives that stressed faster delivery options, more accountability, and more transparency, especially as online tracking emerged.

But still, it can be time consuming to go to the local USPS, UPS, or FedEx office to deliver a package, so wouldn’t it be convenient if there was an additional option that incorporated picking packages up and other features? Well, there is.

Roadie, which describes itself as “the first neighbor-to-neighbor shipping network,” is the Airbnb and Uber version of mail service. In other words, like Airbnb and Uber, Roadie is another manifestation of the new “sharing economy” business models that are providing new options for consumers. These new services not only provide service options for consumers, but they also provide new sources of revenue for those “Roadies” carrying the cargo.

At the touch of a smartphone, with this new online application, users can find Roadie drivers who will pick up packages and deliver them to the desired destination. On its website, Roadie says: “Today 250 million passenger vehicles will hit the road with more than a billion square fit of unused cargo space. At Roadie, we wonder what would happen if we put just a fraction of that wasted capacity to good use.”

While the new service may seem feasible for only small trips, as opposed to cross-country shipping, you will be surprised. Check out Roadie’s footprint below just three weeks after its launch in November 2014.

Additionally, Waffle House recently partnered with Roadie to offer free waffles and coffee to Roadie drivers, according to a TechCrunch article. Because Waffle House restaurants are primarily located along interstate highways, this may incentivize additional productivity from the drivers. For example, a driver may be willing to work earlier hours or deliver a package to a faraway location if he or she knows coffee and a waffle are waiting for them along the way.

The addition of a new competitor in the delivery service market generally means consumers will enjoy the benefits of lower prices and higher quality service. Whether the new “sharing economy” competitor happens to be competing with the government (the USPS) or with legacy private sector businesses (FedEx or UPS), such new competition benefits consumers through lower prices and/or improved service offerings.

For example, with UPS and FedEx, consumers can track their packages through a series of checkpoints. This feature is certainly useful to many consumers and was an advance at the time it was introduced. But with Roadie, consumers can track their packages every second of the trip through GPS. There is also more accountability and transparency about issues such as damaged packages, driver backgrounds, and shipping costs because the information is accessible through Roadie’s application and website.

As my colleague, Michael Horney, and I wrote in a Perspectives from FSF Scholars entitled “The Sharing Economy: A Positive Shared Vision for the Future:”

Instead of worrying about the worst possible outcomes that could happen from using the applications of these new emerging business models, public policymakers should focus tightly on addressing any real-world problems in the least intrusive, least costly way. If the focus of public policymakers is on the worst possible outcomes, entrepreneurs and consumers will be too afraid to try new things. Innovation will be stifled.

A positive shared vision for emerging technologies in the rising sharing economy requires a market-oriented perspective. This will foster the greatest amount of consumer welfare and consumer satisfaction among willing buyers and sellers.

This is applicable to the mail service market and the new Roadie application. If drivers do not perform adequately or if they engage in unsafe activity, consumers can opt for more traditional mailing services, such as UPS or FedEx. Similarly, any economic inefficiencies that exist in Roadie’s service likely will create an opportunity for other companies to emerge within the new “sharing economy” to offer similar delivery services.

With each day, the new “sharing economy” business models are providing more innovative choices to consumers in ordinary markets that have existed for many decades, whether with respect to Airbnb in the lodging market or Uber in the local transportation market.

It is exciting to see new online alternatives emerge in a number of markets as the “sharing economy” continues to grow. Ultimately, this benefits consumers who avail themselves of the services, those who provide the services, and the economy as a whole.

Crediting State Common Law’s Role in Protecting Intellectual Property Rights

American law stands for the proposition that people have a right to acquire and use property. Private property is therefore protected by statutes and judicial doctrines. Copyright is a unique kind of property protected primarily by federal statutes.

Yet copyright is a kind of property that is also protected by unwritten state common law. A federal court ruling in February on state copyright protections for owners of pre-1972 sound recordings provided a reminder of that vital point. The ruling also marked the fourth straight judicial vindication of state copyright protection in pre-72 sound recordings. 

At issue Flo & Eddie, Inc. v. Pandora Media, Inc. (Cal. 2015), is Pandora’s Internet-based digital transmission of sound recordings made prior to 1972 without paying public performance royalties to the copyright holders. Flo & Eddie, a corporation owned by two founding members of the music group “The Turtles,” filed suit against Pandora, seeking damages for alleged copyright violations. 

On February 23, Judge Philip S. Gutierrez of the U.S. District Court for the Central District of California, ruled that California law recognizes public performance rights in sound recordings made prior to 1972. (The federal Copyright Act of 1976 affords public performance rights in sound recordings made on or after 1972.)

Specifically, the Court rejected Pandora’s claims that transmitting pre-72 sound recordings was protected speech regarding matters of public interest. The Court concluded that Flo & Eddie brought legally sufficient claims based on California’s copyright statute, its unfair competition law, as well commercial misappropriation and conversion doctrines.

Flo & Eddie, Inc. v. Pandora Media, Inc. (Cal. 2015) is now the fourth court ruling in the last several months to recognize state law copyright protections in pre-72 sound recordings. The ruling tracks with those issued in three cases I have written about previously:

• Flo & Eddie, Inc. v. Sirius XM (Cal. 2014) – The U.S. District Court for the Central District of California ruled that the plain meaning of California’s statute specifically directed to pre-1972 recordings grants authors of original works in sound recordings “exclusive ownership,” which includes “the right to use and possess the recording to the exclusion of all others.” It also ruled “exclusive ownership” includes the exclusive right of sound recording authors to publicly perform their recordings. The District Court held the California statute’s legislative history and two prior court decisions offered additional support for public performance rights in pre-1972 sound recordings. (See “Court Ruling Reaffirming State Copyright Protections Should Prompt Congress to Consider RESPECT Act.”)

• Capitol Records v. Sirius XM (Cal. 2014) -  A California Superior Court deemed the reasoning in Flo & Eddie v. Sirius XM to be “persuasive.” It found that “the legislature intended the only limitation on ownership rights of pre-1972 recordings to be the ‘cover’ exception.” The California Superior Court concluded that “the exclusive ownership right in pre-1972 recordings includes a public performance right, as not specifically excluded.” (See “Another Court Recognizes State Copyright Protections in Pre-72 Sound Recordings.”)

• In Flo & Eddie, Inc. v. Sirius XM Radio, Inc. (2014) - The U.S. District Court for the Southern District of New York ruled that “New York unquestionably provides holders of common law copyrights in sound recordings with an exclusive right to reproduce those recordings.” The Court answered “Yes” to the question of first impression it faced: “Whether New York provides holders of common law copyrights in sound recordings with an exclusive right to publicly perform those recordings.” (See “Yet Another Court Reinforces State Law Copyrights in Pre-72 Sound Recordings.”)

Judge Gutierrez previously issued the Court’s ruling in Flo & Eddie, Inc. v. Sirius XM (Cal. 2014). But Flo & Eddie, Inc. v. Pandora Media, Inc. (Cal. 2015) builds on the logic of that earlier ruling. The Court rejected a nuanced argument presented by Pandora that was not raised by Sirius XM. In particular, Pandora argued that California’s 1982 copyright statute only protected unpublished sound recordings made prior to 1972, and that published songs recorded prior to 1972 went into the public domain.

“Pandora’s misstep is that it ignores the California common law’s role in maintaining property rights,” concluded the Court.  Importantly, the ruling in Flo & Eddie, Inc. v. Pandora Media, Inc. (Cal. 2015) reiterated that state common law includes vital protections for property rights, including copyrights. As the Court wrote, “historically, California recognized and protected property rights in sound recordings not only through its copyright statutes…but also through common law property concepts.” Further: “The case law indicates that sound recordings never dropped into the public domain so that people could freely exploit them…California still protected these recordings post-publication through the common law.” The Court determined that California statute law was intended to maintain those copyright protections recognized by common law doctrines.

Pandora has filed an appeal of the decision to the U.S. Court of Appeals for the Ninth Circuit. A future ruling by the Court of Appeals could supply binding judicial precedent on the issue of state copyright law protections in pre-72 sound recordings.

The foundation for federal protection for copyrights is provided in Article I, Section, Clause 8 of the U.S. Constitution, which empowers Congress “to promote the progress of science and useful arts, by securing, for a limited time, to authors and inventors, the exclusive right to their respective writings and discoveries.” The First Federal Congress passed the first federal copyright act in 1790, which President George Washington signed into law. Copyright’s constitutional pedigree is impressive. But state law copyright protections pre-date the Constitution of 1787. The thirteen American states protected property through their own common law and law of equity, and twelve of the thirteen states had copyright statutes in place by the time Constitution was ratified.  

The Constitution’s design calls for federal law to provide primary protection to copyright holders. Even so, this recent sweep of four judicial rulings recognizing state law protection for copyrights in pre-1972 sound recordings reflects the deeply rooted connection between state common law and private property rights. What’s most important is that both sources of legal authority share the same central purpose: protecting the rights of authors to the fruits of their labors.