[BETA] Fortnightly

Does a monopolist aim to maximize profit, or simply to hide from the antitrust laws?

AT&T's absolute monopoly in the switched long-distance telephone market ended in 1976 when MCI rolled out its Execunet service. Twenty years later economists still question whether AT&T can influence the market price of long-distance services.

Recent empirical studies are split on the question, sometimes finding AT&T has considerable market power, and sometimes finding it has none.

It appears that economists studying the long-distance industry may be misinterpreting the historical record. Rather than manipulating price for the sake of building profits, AT&T may have manipulated its market share for the sake of avoiding renewed regulatory and antitrust intervention.

The persistence of market power in deregulated markets is an important issue. Policymakers are engaged in transforming the local telephone monopoly into a competitive industry, a plan even more adventuresome and potentially more costly than opening the long-distance market. Couple that with efforts to restructure the electricity industry and the significance of the market-power issue becomes apparent.

Between 1990 and 1994, AT&T filed tariffs that other carriers quickly matched, avoiding in the process the sort of price wars that followed deregulation in airline and trucking industries. Market shares in each long-distance sector stabilized at roughly 60 percent (for AT&T), 20 percent (MCI), 10 percent (Sprint), and 10 percent (all other carriers). Industry concentration stabilized at a high level, with Herfindahl-Hirshman Index values ranging between 0.4 and 0.6 across long-distance services.

It is against this factual background that two recent empirical studies reach opposing conclusions on the question of AT&T's market power. This difference of opinion would not be surprising if the conclusions had been deduced from a priori oligopoly theory. Economics has something to say about oligopoly markets, but does a poor job of predicting the behavior of prices, quantities and market shares within them. Accordingly, economists regard oligopoly theory as indeterminate, %n1%n and so have sought other approaches to benchmarking economic performance in the long-distance market.

In one study, %n2%n Paul MacAvoy concludes that AT&T retains considerable market power. Moreover, he finds that the long-distance industry has performed as a tacitly collusive, three-firm oligopoly, with AT&T exercising market power to propel itself, MCI, and Sprint to super-competitive profits. MacAvoy shows that industry concentration and market shares stabilized around 1990, while prices and profit margins converged and then rose in lock step. Profit margins increased as industry concentration initially decreased (a divergence contrary to most a priori expectations), and continued rising as concentration stabilized. MacAvoy shows also that margins settled near 70 percent (i.e., estimated marginal cost equals 30 cents of the average revenue dollar), and compares these values with margins of 35 percent in other highly concentrated industries. He finds an unexpected absence of price shading among high-volume customers, who ordinarily would be expected to whipsaw competing carriers into making price concessions. The gravamen of MacAvoy's thesis is that long-distance markets never performed competitively under continued regulatory and antitrust constraints, they have moved systematically away from competitive performance. %n3%n

Another contemporary study reaches exactly opposite conclusions. %n4%n Rather than