Competition authorities in foreign jurisdictions have recently adopted or are considering guidelines on applying competition law to intellectual property rights (IPR). A common concern that certain exercises of IPR can restrict competition underlies IPR provisions that would enable competition authorities to compel holders of IPR to license their IP at regulated royalties. The experience of telecommunications regulation in the United States, from the AT&T divestiture in the early 1980s to the implementation of the Telecommunications Act of 1996, illustrates the potential harm to competition and innovation that such forced-sharing policies would cause. The AT&T divestiture was a costly exercise that prevented or delayed the introduction of new services. Forced sharing of incumbents' network elements at regulated rates under the Telecommunications Act reduced investment by both incumbents and entrants. Ironically (yet predictably), the competition for local telephone service that the Act sought but failed to foster was provided by wireless and cable operators, which were deliberately left unregulated and thus had both the incentive and means to upgrade and expand their networks to handle mass volumes of voice and data communications. The failure of forced sharing to promote competition and innovation counsels competition authorities to proceed with caution when using competition law to regulate IPR.
Some antitrust enforcement agencies, particularly those in rapidly growing economies, have suggested that it would benefit competition to compel the owner of a valuable patent to license it at non-market-based fees set or approved by the government, or to prohibit the integration of diverse functionalities into a single product (for example, a computer chip). More broadly, the threat exists that domestic competition law in these nations will be used to create an expansive version of the "essential facilities doctrine"1 that would be applied not only to tangible property, but to intangible intellectual property rights (IPR). The essential facilities doctrine provides that a monopolist's refusal to deal may be unlawful because the "monopolist's control of an essential facility (sometimes called a 'bottleneck') can extend monopoly power from one stage of production to another, and from one market into another."2 Although IPR guidelines may not explicitly refer to the essential facilities doctrine, the logic behind application of competition law to IPR is the same as that of the essential facilities doctrine. For example, the IPR guidelines of the Korea Fair Trade Commission (KFTC) establish that "[c]ompetition in the relevant market is likely to be limited . . . when the intellectual property is recognized as powerful technology such as an essential element necessary for production."3
The lessons learned in the United States from 1984 to 2010 from the AT&T divestiture, its aftermath, and the experience with the implementation of the Telecommunications Act of 19964 are highly relevant to other nations that are currently developing competition law principles concerning rights to intellectual property and other valuable assets owned by successful businesses. The breakup of AT&T reflected a distrust of product integration (local and long-distance telephony), particularly when the integrated products use a common asset or interface (that is, wireline "loops" connecting customer premises to the "public switched network," which are used to place and receive "long distance" in addition to "local" calls). Later, the Telecommunications Act reflected a belief that government-mandated access to local telephone networks at regulated prices was both administratively feasible and a necessary condition for competition to develop in local telecommunications services.5 Congress and the Federal Communications Commission (FCC) were not content to wait for the combination of market forces and technological developments to direct private investment decisions and render feasible facilities-based competition for local telephony.
The IPR guidelines recently adopted or currently under consideration in the EU, Korea, and China share with the AT&T divestiture and the Telecommunications Act a common concern over firms using market power over essential inputs to restrict competition in other markets. In the context of IPR, the European Commission's Guidelines on the Applicability of Article 101 of the Treaty on the Functioning of the European Union to Horizontal Cooperation Agreements-known more succinctly as the Horizontal Cooperation Guidelines (HCG)-principally concerns IPR in the context of standard setting.6 The KFTC's Guidelines on Undue Exercise of Intellectual Property Rights principally concerns the notion of "unfair" licensing practices,7 which the KFTC believes would violate Korea's Monopoly Regulation and Fair Trade Act (MRFTA).8 Under draft Guidelines for Anti-Monopoly Law Enforcement in the Area of Intellectual Property Rights,9 refusals to license, cross-licensing, tying, and other restrictive licensing practices would violate China's Anti-Monopoly Law (AML)10 when those practices are found to restrict competition.11 The final or draft IPR guidelines of the EU, Korea, and China each state that competition law and IPR protection pursue the common objective of promoting innovation.12 They all have no presumption of market power for IPR holders.13 However, although they all recognize that refusing to license is a core right created by patent law, the IPR guidelines reflect the view that competition law agencies may and should eliminate or limit that right based on their assessment of its effect on competition. Such an open-ended policy would profoundly diminish incentives to engage in costly and risky R&D by denying inventors and their investors confidence that they will be permitted to collect whatever fees the market will bear if their efforts are successful.
The U.S. telecommunications experience counsels other nations to proceed cautiously when applying competition law to prohibit product integration by successful enterprises, or to require the sharing of IPR or other valuable property at rates mandated or approved by government. The AT&T divestiture generated substantial costs and inefficiencies. Any slight increase in competition in longdistance services came at a huge cost. The divestiture certainly did not advance competition in local telephony. Consumer demand for bundled long-distance and local services (prohibited by divestiture), along with the enormous costs of maintaining divestiture regulations, drove Congress to enact the Telecommunications Act of 1996.
The new legislation (1) eliminated state and local laws prohibiting local competition;14 (2) compelled the incumbent local telephone companies (the largest of which were the former AT&T affiliates, the Bell operating companies (BOCs)) to lease ("unbundle"15) their local networks to competitors at "reasonable and nondiscriminatory" rates subject to regulatory approval;16 and (3) upon compliance with those leasing obligations, authorized the BOCs to provide long-distance service. The forced-sharing provisions for incumbent wireline networks were a policy failure that consumed billions of dollars in implementation and administration costs, that discouraged investment in facilities by the Bell companies and new entrants alike, and that created virtually no meaningful or enduring local competition.17 Instead, technological innovation and local telephone competition came from wireless and cable television, which-not coincidentally-were deregulated or unregulated. Due to the absence of regulation compelling sharing of property at rates set by government agencies, wireless and cable television providers had both the means and incentive to invest heavily to increase the speeds of their networks and, in the case of cable, to make the network bidirectional so as to support voice, internet, and voiceover- internet services.
This sixteen-year experiment in regulatory intervention into wireline telecommunications from 1984 to 2010 showed that technological advances that depend on market incentives for innovation generate more robust competition than do incentive-stifling sharing requirements. That lesson demonstrates that markets are better suited than government interventions to create and maintain competition. It is doubtful, for example, that the technologies essential to the advancement of the wireless industry and to the provision of telecommunications services over cable television networks-the real sources of local competition- would have developed as rapidly, if at all, had the government set license fees to ensure equivalent market outcomes among rivals and short-term reductions in retail prices.
In Part II, I explain the implications of the AT&T divestiture for competition policy that would restrict product integration. The antitrust consent decree that broke up the Bell System, known as the Modification of Final Judgment (MFJ), required AT&T to divest its local networks from its long-distance operations.18 The separation of the MFJ rested on the concern that the Bell operating companies would use their purported market power over local networks to suppress competition in long-distance, manufacturing, and information services. The legal barriers to the BOCs' supplying of downstream services caused substantial delay in their ability to introduce new services, and prevented them from offering consumers the efficiency of obtaining and receiving all of their telephone service from a single company. Economists have estimated the reduction in consumer surplus resulting from the delay alone to be in the billions of dollars. Particularly in the high-technology industries in which many IPR holders operate, dynamic competition should mitigate competition authorities' similar concerns, which in any event are outweighed by the impact on innovation of restrictions on product integration and the exercise of core rights to intellectual property.
In Part III, I explain how the U.S. experience of forced sharing under the Telecommunications Act of 1996 suggests the probable consequences of competition law policies that would mandate that holders of essential patents license their IP at regulated rates. Forced sharing was intended to promote investment and facilitate competition in telecommunications. However, the FCC's pricing rules for incumbent telephone companies to lease their network elements to competing telephone companies19 distorted the incentives of both incumbents and entrants. In a voluntary, bilateral negotiation occurring in an unregulated market, a firm will willingly sell (or lease or license) a valuable asset to another firm if the price reflects the seller's opportunity costs of that asset. In this respect, voluntary exchange preserves a firm's incentives to invest in new goods. Because the FCC's pricing rules, which were based on the novel concept of "total element long-run incremental cost" (TELRIC), did not allow incumbents to recover their historical costs, much less their full opportunity costs of leasing their network elements to rivals, forced sharing reduced incumbents' investment incentives. Empirical evidence shows that incumbents decreased capital investments in network infrastructure during the regime of forced sharing. At the same time, because forced sharing enabled entrants to receive access to valuable infrastructure at below-market prices, those entrants increasingly relied on the incumbents' unbundled networks as their mode of entry instead of investing in construction of their own networks.
Analogous provisions under global competition law that would mandate licensing of IPR at regulated royalties would similarly prevent IPR holders from recovering their opportunity costs of licensing their patents. Firms would consequently reduce their investments in valuable inventions. Moreover, the added potential for IPR holders to face antitrust penalties would exacerbate that outcome. The failure of forced sharing under the Telecommunications Act of 1996 underscores the difficulties of relying on government intervention to replicate competitive outcomes. Using competition law to regulate IPR licensing and royalties would likely cause even greater harm to innovation and consumer welfare than did the forced sharing of telecommunications networks at regulated prices.
II. THE AT&T DIVESTITURE
Before 1984, most consumers and businesses in the United States received their wireline telephone service from AT&T and its subsidiaries, collectively known as the "Bell System." The Bell System's customers used its network to place and receive "long-distance" as well as "local" calls.
The modern era in U.S. telecommunications policy began in 1984, when the U.S. Department of Justice (DOJ) broke up AT&T pursuant to the settlement of an antitrust suit that the DOJ had filed a decade earlier. The terms of the settlement were reflected in a court order entitled the "Modification of Final Judgment" (MFJ). The MFJ required AT&T to divest its subsidiaries, the Bell Operating Companies (BOCs), that provided long-distance service, and forbade the BOCs from, inter alia, providing long-distance service. The court-imposed divestiture was very costly to implement and oversee, prevented the introduction or increased the cost of new BOC services, and denied consumers the efficiencies of obtaining all of their telecommunication services from a single carrier.
J. Gregory Sidak is an Expert Economist in the fields of Antitrust, Telecommunications Regulation, Commercial and Investment Arbitration, and Intellectual Property Law. Prof. Sidak is the Ronald Coase Professor of Law & Economics at Tilburg University and the Chief Economic Expert at Criterion Economics in Washington, DC. The focus of his research has been regulation of network industries, antitrust policy, the Internet and electronic commerce, intellectual property, and constitutional law issues concerning economic regulation.
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