Session 3: TLMN 602

Alexander Graham Bell is remembered most, of course, for the invention of the telephone. His tinkering in 1876 led to a revolution in the way that business was to be conducted and the way people would be able to communicate on a global scale.

In the beginning, the way the system would grow was not so clear. Bell envisioned a system that would be akin to a sort of cable radio. Phones would be connected for groups to listen to with a point to multipoint distribution. Since the phone was to always be connected, and people to go to it, he urged that the caller shout "Ahoy" to get the attention of the recipient. He always disliked the greeting "hello" and never wavered in correcting callers to say "ahoy."

Bell’s business acumen was also somewhat limited. The best thing he did for his business was to hire a strong businessman to run it. Theodore Vail became the prime mover of what was to become the Bell System.

In the early 1890’s, Bell’s original patents were beginning to expire. At the same time, enforcement of patent law was lax. Hundred of competitors had copied Bell’s designs to produce telephone service in local markets. Bell aggressively sued to protect his patents, filing some 600 suits and them all.

But winning lawsuits is a difficult—and expensive—way to stay in business. Vail began to use Bell’s technology to eliminate competition. The "loading coil" and "audion" are curiosities today, but from 1905-1907, they were the leading edge of telephony. Leveraging the improvement in long distance connectivity that these two technologies provided, Vail was able to acquire or eliminate most of the competition in telecommunications. The American Telephone & Telegraph Company was created to serve as the holding company which owned the local operating companies, the long distance unit, and a manufacturing company acquired some years before known as Western Electric.

Vail created an organizations structure that emphasized the physical plant and the cohesion of the network. Vail also proclaimed the somewhat radical (for its day) notion that everyone should have a telephone. These twin pillars were consolidated in the motto "One system, one policy, universal service" By 1913, the Bell System served 80% of the U.S. population.

In that era of "trustbusting", there was understandable concern about the size and the growing power of the Bell System. The Postmaster General of the United States saw telephony as an important national interest and of the scale which demanded government involvement. Following the Post Office-Telephone-Telegraph model used in Great Britain, the postmaster general sought to nationalize the U.S. telephone system. This plan was narrowly defeated when Nathan Kingsbury, AT&T vice president personally persuaded the President and cabinet to allow the Bell System to continue to provide telephone service, with the proviso that AT&T would stop anti-competitive practices.

Three years later, the U.S. joined the war in Europe, and the phone system was nationalized for the war effort. In fact, the Bell System personnel donned uniforms and managed the network for the duration. In 1919, it reverted to civilian status. Nervous about these government attempts to control the system, Bell executives next went to Congress to obtain a specific exemption from antitrust laws for the Bell System and AT&T. The resulting Graham-Willis Act of 1921 declared the public policy goal of "universal service" and declared telephony to be a "natural monopoly" for which the Bell System would be the authorized provider.

But the Bell System could be its own worst enemy. In 1928, the president of Western Electric declared patents to be "weapons" in the "war" against competition. This rhetoric, directly opposite the commitments in the Kingsberry accord and uttered by a statutory monopoly, triggered a strong backlash. Over the next few years, the Bell System retrenched, divesting itself of a number of businesses and industries outside of telephony, but which it had entered because of its laboratory capabilities and scale. These included International Telephone & Telegraph, a spin off organized to sound like it was part of the system; RCA and NBC and all of its other radio holdings; and Square D, the manufacturer of electrical boxes and fuses. In short, urged by politics and prodded by the Depression, the Bell System consolidated operations around its core business, telecommunications, including manufacturing and long distance.

The activism that accompanied the New Deal was applied to telephony. The adoption of the Communications Act of 1934 codified and standardized the regulation of two types of communications. First, Common Carriers, such as the Bell System, would have both opportunity and obligation in order to receive the writ to be the nation’s primary supplier of telephone services. Competition would take place in parallel. That is, other companies such as General Telephone would exist to provide a basis for regulators to compare the behavior of the Bell system with these other companies. But they would not compete head to head. Since telephony was still perceived to be a "natural monopoly", there would only be one provider in each geographical area. "Competition" would not mean customer choice, but a simple basis of comparison between two different companies. The Act also created the Federal Communications Commission (FCC) to regulate the industry.

The Act created certain obligations for carriers and defined terms, as outlined on the following slides:

The regulatory system created by the Communications Act of 1984 proved pretty resilient in dealing with issues arising from carriers and technologies over the next six decades. But it was not perfect. There continued to be a substantial concern about the size and power of the Bell System as a whole. The first Chairman of the FCC, named Walker, determined that ownership of Western Electric was part of the firm’s monopoly abuse. He drew up a report of findings on this issue in 1937, but the FCC as a whole never acted upon it. Two years later, the beginning of the Second World War in Europe preempted any discussion of major changes until the war ended. The organization of the Bell System remained as it had been since Vail’s days.

In 1947, the U.S. Department of Justice won a major antitrust lawsuit in another industry—one nearly as large as the breakup of the Standard Oil trust thirty years before. This was the breakup of ALCOA, the aluminum monopoly. Buoyed up by this victory, the department began to aggressively pursue other antitrust lawsuits. High on its list, was the Bell System. The Justice Department filed a lawsuit seeking the divestiture, that is the spin off, of Western Electric.

For several years, the lawsuit languished in court. In 1952, the election of Dwight Eisenhower, a Republican, to replace Harry Truman, a Democrat, in the presidency, seemed to presage an attitude more favorable to the Bell System. The Bell lawyer began to negotiate a solution to have the lawsuit dropped. What evolved from those negotiations was quite critical to today’s telecommunications industry. For the first time, the issue of the relationship between telecommunications and computing was addressed.

In the 1956 Consent Decree (which simply means both sides in the case agreed to the settlement), the Bell System remained intact. It agreed to focus exclusively on the business of telecommunications. In a move widely regarded in 1956 as offering "the sleeves out of its vest", the company agreed to stay out of computing.

Predictably, Republicans applauded the settlement and Democrats decried it. In 1959, the Democratic controlled House Judiciary Committee declared the agreement "totally without merit", the strongest possible condemnation the committee could make.

In the next decade, technological change began to work against the Bell System monopoly. Microwave technologies developed during World War II became available as means to transmit voice messages. Cheap transistors—first developed at the Bell Labs—made it possible to create smaller, less expensive switches, particularly at the level of the private branch exchange (PBX). But new entrants with new products trying to enter the market often found their way thwarted by the Bell System. And the "arrogance" of the Bell System became a frequent complaint.

Now the parts begin to fit together for the modern industry. An upstart long distance company known then as "Microwave Communications, Inc." sought regulatory authority to trunk long distance calls between Chicago and St. Louis. A company called Executone sought authority to provide small switches to business customers. Regulators began a long series of inquiries into Bell business practices and the technologies. Competition was emerging all around the telecommunications industry.

But regulatory processes grind slowly and regulators decisions are limited by their statutory authority. Increasingly, the players looked to the Congress to change the law, the Bell System to get the monopoly confirmed, the new competitors to accelerate and improve their market entry. And the Justice Department intervened.

In 1969, the Justice Department had filed an antitrust lawsuit against IBM, alleging that IBM was in restraint of trade because of its dominance of the computing industry, which was then exclusively in mainframes. IBM responded by filing depositions, documents, and testimony, almost by the pound. Every legal device to delay, defer, and defeat the suit.

In 1976, Phil Verveer, the Assistant Attorney General for antitrust, approached the Attorney General, William Saxbe, with a novel idea. The IBM lawsuit, said Verveer, was going nowhere fast. And besides, what IBM needs is competition. Only one company is big enough and has the expertise to provide that competition, and that’s the Bell System (who had by this time been building electronic switches which were mainframe computers by another name.). There is only one catch in letting Bell and IBM go head to head and tow to tow, and that is the 1956 Consent Decree which bars Bell from entering computing. And the only way provision can change, is if the other problems of leveraging the monopoly in equipment and long distance are resolved.

So, in the ways of lawyers, the Justice Department filed a lawsuit against AT&T. AT&T reacted by trying to get Congress to pass a law. The competitors flocked to court and Congress to put their own spin on the issue which was, to prevent the Bell System from restricting market entry.

Through the Carter years, the lawsuit languished, as still more depositions and testimony were collected. Then in 1980, Ronald Reagan was elected president and the judge hearing the case retired for reasons of health.

With the Republican return to power, the Bell System believed it would be in position to have the suit thrown out. Newly appo9inted cabinet members, including The Secretaries of Defense and Commerce and the Attorney General, seemed favorable to the idea.

The new judge assigned to the case, a newly appointed unknown named Harold Greene, wanted to prove that a major antitrust case could be completed. That is, most antitrust trials lasted for years, until more damage had been done or market conditions changed such that the original issues in the case were long over. Results like the ALCOA and Standard Oil cases were rare exceptions to the rule that antitrust cases went on forever.

The Bell System sought intervention from the Reagan Administration, and became increasingly fearful of Judge Greene. At the same time, they continued their initiatives in Congress, now dominated in the Senate by Republicans and in the House by Democrats.

There was another small detail that assumed gigantic proportions. Reagan had appointed a fairly obscure legal scholar from Stanford to the position of Assistant Attorney General for antitrust. This man, Bill Baxter, understood the theory of law expressed by Verveer and that the end game in this lawsuit was not to create the end of the Bell System, but to stimulate a new era of competition between the giants AT&T and IBM. Competition, in Baxter’s conservative view, was more desirable than regulation, which had proven itself too rigid to deal with the issues of competition in the face of major technological change.

Further, Baxter’s superiors had all had contracts with the Bell System at one time or another. They were therefore forbidden to deal with the case and must "recuse" themselves from it.

In June 1981, a cabinet meeting was planned in which the Secretaries of Defense and Commerce had lobbied their fellow cabinet officers in favor of dropping the lawsuit. The Attorney General could not participate. Baxter, a relatively low level appointee for such a meeting as this, would attend for the Attorney General and would, presumably, accept the President’s decision placidly. But Reagan lapsed into a story, and the time for discussion of the issue passed. The meeting ended with the President declaring "I guess we know where we stand on this one." But with no real discussion, each of the participants took from the meeting their own interpretation of the vague consensus in the room. Baxter took the consensus as a license to aggressively pursue the suit, and did. He also lobbied Congress. When the Senate passed the Bell Systems version of a "reform" telecommunications bill, it contained 2 crucial amendments Baxter had proposed.

To the Bell System, the democratic control of the House presaged a worse bill. As they began to seek a way to maintain the status quo, they increasingly found the doors closed. Finally, in December 1981, the Bell lawyer called Baxter and agreed to a deal. The plan was that the Bell System would be divided between "monopoly" local exchange companies (the so-called "Baby Bells" or Regional Bell Operating Companies [RBOCs]) and the "competitive" businesses of long distance, manufacturing, and "information services", at that time largely understood to mean electronic yellow pages. In exchange, the competitive portions would be admitted to the computing industry and markets.

The deal, announced on January 8, 1982, was accompanied that afternoon by the termination of the lawsuit against IBM. The Divestiture of AT&T would occur on January 1, 1984. The legal instrument which would create this action would be a modification of the 1956 Consent Decree known as Modification of Final Judgment, or MFJ. This document would be the paramount form for addressing competitive concerns in telecommunications for nearly 15 years.