With the advent of the New Deal, many communities in rural America banded together to form electric and natural gas cooperatives in areas the private sector would not, or did not, serve. A number of co-ops around the country have ventured into the broadband Internet business, bringing high-speed Internet service, often for the first time, to their rural service areas. In some states, however, co-ops are prohibited from providing Internet service, to varying degrees. A number of states are now acting to eliminate such prohibitions (or the appearance thereof). In 2017, a Tennessee law permitted co-ops to offer broadband service outside their service area. Mississippi passed a law this year allowing co-ops to provide broadband service. Legislatures in Georgia and Oklahoma are looking at similar bills.
A desire for expanded broadband access in rural areas is universal, so these legislative efforts generally receive broad support. Some legislators, while supportive, recognize that these bills pose certain risks. Fortunately, such concerns need not be deal breakers, subject to some legislative protections—protections that generally appear in the enacted and proposed legislations.
Broadband Internet service is available to about 95% of Americans, a consequence of hundreds of billions in private investment. It is typically rural areas that lack service; a natural consequence of the challenging economics of building networks in sparsely-populated areas. Since co-ops typically operate in rural areas, some of them would like to add broadband service to their product mix. It seems a sensible option, as these co-ops are willing to do what no other private company will—build a network in unserved areas.
While serving the unserved is a noble social goal, what happens when co-ops seek to overbuild existing private networks in rural markets—markets that often can barely support only one provider? Therein lies the concern.
Private companies do what it is profitable to do, and serving many rural areas is unprofitable. As Bill Verner, president of Georgia’s Electric Membership Co-Op, observed, “the numbers aren’t there for for-profit companies to make a profit.” A non-profit co-op, however, is not exempt from having to pay its bills. Profit maximization may not be the objective of the non-profit co-op, but the co-ops must still earn sufficient revenue to cover all costs. A co-op’s objective, in effect, is zero economic profits. That is, revenues should be sufficient to cover their costs and no more. This balance of revenue and cost is little different from the profit maximizing private firm in the least-profitable market it serves. Consequently, in some cases, these bills do little more than permit co-ops to offer a money-losing service.
While a local presence may give co-ops advantages over other private companies, history suggests the greatest advantage of unregulated utilities is the ability to exploit the captive utility customer to cover the financial losses from the broadband service. This abuse is pervasive for municipal utilities that offer broadband, but still these government-owned networks typically end in disaster, burdening electric customers with higher rates, and the municipalities with millions in losses and debt. Investor-owned utilities, prohibited by regulation from cross-subsidies, are not building broadband networks, so it appears the locational advantages are small.
This subsidy burden falls particularly hard on low-income households that need utility services but cannot afford computers and Internet connections. Utility consumers are forced to pay for a service they may not buy, forcing the poor to subsidize the Netflix habit of the rich. Making matters worse, economic research shows that the mere threat of a cross-subsidized entrant discourages private investment in broadband networks. No private firm will commit capital to markets where a future entrant unconcerned about making sufficient income to cover costs may overbuild its network.
In many instances, the co-op’s broadband service, even if it requires no cross-subsidy, will compete with private sector providers. These same co-ops, as electric utilities, also provide access to poles to their competitors. Such costs can amount to 20 percent of the cost of deploying and operating a broadband network. The anti-competitive risks cannot be ignored, especially when the pole attachment rates of unregulated utilities are often much higher than those charged by investor-owned utilities. The potential for the co-op to squeeze its competitors with higher pole attachment rates is real.
Still, the inclusion of two sorts of important protections in legislation may permit states like Georgia and Oklahoma to eat their cake and have it too.
First, any legislation should prohibit a co-op’s ability to have their electric (or gas) business cross-subsidize their broadband offerings. Options include, but are not limited to, a requirement that broadband be provided by a separate affiliate or an outright ban on cross-subsidization. Mississippi’s new law, for instance, states that an “electric cooperative shall not use its electric energy sales revenues to subsidize the provision by an affiliate or unaffiliated broadband operator of broadband services to the public.”
In Mississippi, however, such protections are somewhat weak, permitting co-ops to make and guarantee loans of the broadband affiliate. Co-ops, like municipal electrics, will no doubt claim the utility will use the broadband network for service monitoring, shifting costs onto electric customers. Perhaps monitoring is a valuable service, but audits confirm that only a small portion of the investment is useful for such purposes. An independent audit in one city determined that no more than 6% of the cost of a broadband network is rightly allocated to such monitoring. Co-op bills might limit impose a 5% (or so) limit on the allocation of network costs to the utility.
Furthermore, in light of common practice and incentives, subsidy prohibitions must be enforced. These bills should require monitoring by an independent agent such as the state’s utility regulator, thereby protecting utility customers and private competitors from outright or cleverly disguised subsidy schemes.
Second, to remedy the pole attachment problem, co-op broadband bills should require the use of the Federal Communications Commission’s formula to set pole attachment rates of any co-op in the broadband business. Additionally, the bill should explicitly assign a third party (again, the state regulator might do) to address disputes over access to poles.
Expanding broadband access in rural areas is a sensible goal. With a few modest protections, co-ops should be permitted to participate in a state’s broadband future.
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Dr. George S. Ford is the Chief Economist of the Phoenix Center for Advanced Legal & Economic Public Policy Studies (www.phoenix-center.org), a non-profit 501(c)(3) research organization that studies broad public-policy issues related to governance, social and economic conditions, with a particular emphasis on the law and economics of the digital age.