Productivity of the Regional Bell Operating Companies Under Rate-ofReturn and Price-Cap Regulation

In 1991, the FederalCommunications Commission beganregulating the tariffed rates of thenations largest local exchangecarriers under a new regulatoryscheme: price-cap regulation. Pricecaps were intended to "remedy" theills of traditional rate-of-returnregulation. They were to provideincentive for the telephonecompanies to adopt innovativetechnology, cost-cutting measuresand provide telephone services moreefficiently. To test the effectivenessof this incentive, this study examinedproductivity of the regional Belloperating companies (RBOCs)under both rate-of-return regulationand price-cap regulation. A totalfactor productivity model wasdeveloped and productivity gainswere calculated under bothregulatory regimes. The assumptionof total factor productivity was thenrelaxed and value-addedproductivity and labor productivitymeasures were also examined. Thepoint estimates of productivity gainsindicate that price caps have led togreater productivity gains. Althoughproductivity gains varied greatlyacross individual RBOCs, use oftotal RBOC data indicated thataverage productivity gains improved1.3 percent under price caps usingthe TFP model. Similarimprovements under price caps wereestimated using the value-added (1.1percent) and labor productivitymeasurements (1.3 percent).However, because of the variabilityof the annual estimates, none of theproductivity improvements arestatistically significant. In conclusion,calculations of RBOC productivitygains suggest that price caps haveled to more efficient use ofinputs--labor; materials, rents andservices; and capital--in theproduction of telephone companyoutput. Yet, the statistical evidence isnot strong enough to unequivocallysupport the assertion that price capregulation has led to greaterproductivity gains.