The Breakup of AT&T

The institutional relationship between government and business can be best defined as a marriage of convenience. That is, the amount of regulation, control, and attention paid to business by the federal government has historically depended on both the political climate and the amount of impact the business has on the public good, as well as the national economy. Since the advent of the railroads as the first “big business” in the early 1900s, government has employed, for the most part, a fairly case-specific approach to the regulation and control of these corporations.

Only when these corporations became so large that they enjoyed a monopoly over their competitors, or when they dealt in unscrupulous business practices, then the government intervened and began to regulate business. The Sherman Anti Trust Act of 1890 and the Clayton Act of 1914 represent this fear of unabated business growth and abuses of power that could not be controlled or regulated on the state level alone. Herbert Knox Smith, U.

S, director of corporations, best described the overriding governmental attitude towards the rise of big business when he said that “it is not the existence of industrial power, but rather the misuse, that is the real problem. ” While federal legislation attended to these power issues for a time, the overall governmental approach to big business was just that – if power was not misused or abused, the size and scope of corporate reach and control was not something that needed to be addressed and regulated by the federal government.

This was the overarching theme of the relationship between government and business for the large part of the 20th century, one of laissez-faire control and regulation in return for proper use of power and an adherence to the laws governing businesses. One corporation that enjoyed this relationship was the American Telephone and Telegraph Company, or AT&T. For over a hundred years, not long after the invention of the telephone, “a single enterprise, American Telephone and Telegraph, built, operated, and coordinated the flow of long-distance telephone calls” (Chandler, 189).

Up to its infamous breakup in 1984, AT&T was the single most dominant corporation in the telecommunications industry, and provided an excellent example of the business-government relationship, in which the two parties shaped the strategies, structures, and development of one another. The relationship between AT&T and the federal government was essentially a relationship between a private, profit-seeking company and a regulating government who set its rates and pricing. This often tenuous relationship contributed to the ongoing structure of American business in several ways.

First, the success and longevity of the Bell System as a privately owned, profit-seeking organization, partially controlled and regulated by the federal government, is the seminal example of the ways in which some regulation by another body can yield both a successful and lucrative corporation while at the same time provide a fair, widespread, and essential “service” to the populace. Secondly, the success of the Bell System when compared to those other telephone companies that were completely run by the federal government also speaks to some advantages to this give and take relationship.

The equilibrium of power and fairness that AT&T enjoyed weathered the harshest years of public and governmental opposition to business power proved to many that even some regulation by the government is better than none at all. On the other hand, AT&T also shaped the institution – the federal government – that attempted to shape AT&T as the “universal” telephone company. Following the AT&T divestiture, the role of the government in public utility rate policies has greatly decreased with the creation of hundreds of new companies, all providing similar services.

The existence of only one company that provided these services – including the entire Defense system of telecommunications – prompted (and perhaps forced) the government to play some role in shaping the corporation as a tool to serve the public good. Moreover, the government’s “nurturing” of AT&T as a “natural monopoly” which served the public good merely created a corporation so large that those other companies with newer, more cost-effective technologies and services could not even put a dent in the market, disproving the validity of the “natural monopoly” ideal.

In essence, then, the relationship between AT&T and the federal government was one of balance and necessity. A private company with a mission to service the public good, AT&T maintained rates set by the government, and, in return for its rate setting, the government virtually ignored and perhaps even encouraged the growth of AT&T as a monopoly. This relationship was essentially an “equilibrium” of sorts, and the structure of both AT&T and the federal government were dictated by this balance between power and the public good. The history of the Bell System can be broken into three parts.

In the first years of its existence, the Bell System flourished as a monopoly protected by patent laws. Starting in 1894, the Bell System struggled with competition from other smaller companies, and depended heavily on the development of its long-distance telephone service and its managerial experience to retain its competitive advantage. It was during this period that the Bell System (which was now formally known as AT&T), developed its structural relationships with its associated companies and began to formalize the organizational pattern that allowed them to survive in this period of “unbridled competition.

” After the harshest of governmental invention ended in 1913, AT&T then began their complete control over the telephone and telecommunications market, ending in 1984. From 1913-1984, AT&T enjoyed a fairly comfortable organizational and strategic equilibrium with a “regulated monopoly” environment under federal and state regulation as a result of its “universal service,” ideal, defined as “one system, one policy. ” This idea of universal telephone service spanned social and economic realms, and in doing so shaped the government’s response to the power of AT&T as a kind of “regulated monopoly.

” Monopoly in the telephone industry simplified the processes of standardization and so provided the basis for uniform nationwide connectivity. Moreover, the absence of competition also made it easier for regulators to make telephone companies’ rates conform to social policy goals, becoming the natural and defendable approach to making telephone service readily available and affordable to larger numbers of people.

While AT&T survived several attempts by the federal government break up its “natural monopoly” over the telecommunications industry, this comfortable arrangement between AT&T and the federal government ended in 1983, when the so-called “deal of the century” occurred with the breakup of AT&T, effectively ending its reign as the paramount long distance service in the US. The invention of the telephone in 1875 was perhaps the most important and significant achievement of modern history.

No longer did it take weeks for businessmen on one side of the country to communicate with their colleagues on the other; the telephone increased the speed and efficiency of business transactions, and impacted the national economy significantly. Coupled with the advent of the railroad as the fastest and most reliable means of transporting goods, the telephone made those cross country transactions and flow of goods that were once unreliable and sluggish into a solid and efficient means of commerce.

With the creation of the American Bell Company in Boston in 1879, the importance and durability of the telephone as a key component in both commercial and domestic affairs was established, as well as the beginning of the influence and importance of the telephone on the telecommunications industry. Since American Bell, as it was called at the time, was the first telephone company to be established after the invention of the telephone in 1875, company executives needed to determine the most efficient and profitable organizational structure possible.

During the first nineteen years of the company’s existence, Bell used the current U. S. patent laws to shield the company from competition. When chronic shortages of capital inhibited Bell’s ability to market and develop the telephone, an innovative organizational structure was created. To increase the scope of the Bell Company, Bell managers arranged for agents to provide service and collect revenue under temporary licensing agreements with investors and bankers outside of the confines of Boston. One of these early associates of American Bell was Theodore Vail, experienced in the similarly innovative telegraph system.

Vail’s natural ability to organize and structure these innovative technologies into substantial money making ventures set the stage for the eventual dominance of the telephone and telecommunications industry by AT&T (Chandler, 200-201). Vail believed that the “system established in connection with the telephone, more than the telephone itself… makes the value of the telephone. ” Vail encouraged Bell to combine its loose arrangement of temporary licensees into permanent telephone exchanges, in return for 30 to 50 percent of the licensee stock.

Additionally, Vail encouraged Bell to buy up the new patents for the emerging switchboard and exchange technologies, so that American Bell would have full and total control of these innovative new technologies, similar to the techniques used by future railroad executives. By guaranteeing complete ownership and rights of these technologies and licensees, Vail wanted to “get possession of the field in such a way that, patent or not patent, we could control it” (Paine, 147).

Similarly, Vail saw the need to secure a steady stream of equipment for the emerging business. Thus, in 1882 he arranged the purchase of the Western Electric Company, an important electrical equipment producer in the Midwest, which formerly supplied equipment to Western Union, the current telegraph monopoly (Chandler, 201). By the early 1880s, then, American Bell was a vertically organized company, with centralized management and strong equipment, distributor, and research and development (R&D) sections.

After Bell’s hold on patents dissolved in 1894 with the introduction of competition from other telephone companies, their innovative organizational structure needed to be changed to fit and to adapt the growing telecommunications industry in a way that would both increase efficiency and allow Bell to maintain its competitive advantage, as well as resisting total control by the federal government, which was, at the time, a virtual death sentence for businesses (Paine, 157).

Even with the introduction of eighty-seven entrants in the telephone business in 1894, American Bell was still able to maintain this edge over their competition due to their long-distance service, a service that no other company provided at the time (Chandler, 202). While it was not extremely difficult to start up a business in such a bourgeoning and exciting industry like the telephone industry, creating, installing, and maintaining a long distance service required large amounts of capital, innovative new

technologies, and, most importantly, managerial skill, to grow and expand beyond states and regions. Because Bell had these capabilities and – perhaps most importantly – was the only company to offer long-distance service, they were able to curtail competition from these new businesses, but only after an organizational restructuring in the 1890s (Chandler, 202). This reorganization was marked by the inception of the American Telephone and Telegraph Company (AT&T), as the parent company of the American Bell Company.

AT&T, which up until 1899 ran Bell’s long-distance services, bought out its parent company and moved company headquarters from Boston to New York. This location change was critical for two reasons. The first, and perhaps most obvious reason, was the close proximity to key capital markets that New York offered, which would enable AT&T to further increase its distance between its competitors. Secondly, New York’s corporation laws were rather liberal in comparison to those American Bell enjoyed in Boston, yet another attractive aspect of moving the company.

Here we see the first instance of this business-government relationship – the capability to grow and flourish while still under some regulatory control. Consequently, these two advantages allowed AT&T to stay true to Vail’s antipathy to competition by growing its system by acquiring rather than by cutthroat competition and duplication of service (Paine, 163). While AT&T’s business practices were wholly legal and not typical of the “robber barons” in the railroad industry, AT&T’s image at the turn of the century was, still, that of a “ruthless, grinding, oppressive monopoly.

” At the time, there was no one else who had the technology, the money, or the resources to start a competitive telephone business, so in that respect AT&T already was a “natural” monopoly. The only other type of telecommunications competition was the telegraph, and in a compromise between Western Union and AT&T in 1879, AT&T had agreed to stay out of the telegraph industry and solely focus its efforts and monies on its telephone service. However, when AT&T purchased Western Union in 1909, the era of separate entities in the communications industry was now over (Brooks, 122).

This brash acquisition raised complaints that AT&T had become a trust, an illegal corporate monopoly organized to eliminate competition, and here the federal government took their first notice of the power and scope of the AT&T Corporation. In 1913, four years after the acquisition of Western Union, the U. S. government forced AT&T to sell the telegraph giant, and additionally grant independent local telephone companies the right to connect to its long-distance lines.

AT&T, however, still maintained its monopoly on long-distance service and retained control of Western Electric. In return for these caveats, AT&T president Vail agreed to accept government regulation (Paine, 175). This give and take between the government and AT&T provides another example of the symbiotic relationship between the two parties. Growing too large in power and control, AT&T fell victim to the public and governmental hysteria of corporate scandal and mistrust during these early years of the 20th century, and were forced to loosen its control on the phone industry.

Conversely, since AT&T was the indisputable leader and most innovative telephone company in existence, to completely wipe out the corporation was something that the government could and would not do in the public interest (Coll 136). This idea was clear in the government’s decision to only force AT&T to sell Western Union and merely “allow” other companies to connect to AT&T’s long distance lines, while allowing AT&T to retain its long-distance monopoly and control over the powerful Western Electric.

Vail’s agreement to accept government regulation of the company was, therefore, insignificant in comparison to the damage the corporation could have suffered, and marked the beginning of the “equilibrium” AT&T would maintain for the next seventy years (Brooks 123). AT&T was a prime example of “bureaucratization” by government interference of one type or another. The Bell System is an example of the most bureaucratic types of private organizations, those whose prices or activities are regulated and who engage in a great deal of government business or depend on the government for the right to carry on their business.

In a sense, AT&T had to serve two masters: it had to be profitable, and yet it had to carry out rules and regulations which might inhibit its ability to compete. This balance between profit and regulation was one that the Bell System achieved for longer than most other similarly managed organizations. Eventually, The Bell System became a victim of this type of “bureaucratized management,” as even though it was a privately owned corporation and operated on a profit-seeking basis, its profit-seeking activities were carefully monitored and restrained by authorities, which consequently led to the corporation’s demise (Paine 174).

While most private companies encounter some political interference with heir profit-seeking activities, those companies who receive the most direct controls are public utility organizations, as they, to a certain extent, owe their very existence to government favors. AT&T was an excellent example of a “public good” company, regulated by the government while remaining private and profit-seeking. Theodore Vail invented this unique way of organizing the telephone system under private ownership when he drew government approval of the concept of a “natural” monopoly, one that would be operated in the “public interest” (Stone 35).

Vail strongly disapproved of the structure of other telephone business in the early part of the century, in which people served by one system could not be connected with people hooked to another, even in the same area. Viewing this structure as “wrong” and inefficient, Vail did not believe that market forces would solve this problem, and after many of these companies fell under the complete control of the government and eventually floundered, he emphasized the ideal of “One Policy, One System, Universal Service,” stating that a “public utility giving good service at fair rates should not be subject to competition at unfair rates.

” This philosophy fit in well with the general public opinion at the time, which was wholly indignant about the profits of huge corporations and the shady dealings of trusts (Paine 180). The concept of giving good service and accepting only “fair” rates in return seemed, at the time, to show remarkable restraint and honest concern for the well-being of the consumer. Moreover, the idea of governmental regulation in such a corporation also seemed reasonable, considering the necessity of the telephone as a tool to serve the public good.

In a speech in 1915, Vail noted that “Society has never allowed that which is necessary to existence to be controlled by private interest,” and that the consequently monopolistic control of the Bell System should be defended due to its efficiency and devotion to service and the public interest, provided that men “of the highest standard” could be appointed to these regulatory bodies, with careful provisions made to safeguard their independence from corporate or political pressures (Paine, 181).

The government’s acceptance of AT&T’s monopoly control on the telephone industry was, again, both out of necessity and – using a word that had a significantly different meaning in that era – a sense of trust. The telephone was and still is an essential service, and although AT&T clearly had a monopoly control over the industry, the effects of dissolution of the company because of this power would be much more devastating than a breakup of a non-public utility corporation.

Some regulation, thus, was necessary to limit AT&T from becoming an uncontrollable monopoly while retaining this essential public service. In response to this regulation, AT&T also had to structure its approach to telephone service. With more “eyes” watching its every move, presenting a unified theme of “universal service” for the public good allowed the company to stay afloat, as well as continue to be profitable and appease its shareholders (Stone, 36-37). This equilibrium was the relationship AT&T and the government maintained until the breakup in 1984.

Along the way, however, government did increase its regulation of AT&T as the company grew to massive proportions. To his credit, Vail’s “prescription” for the Bell System worked well for many years. AT&T built the best telephone system in the world, often winning cooperation from both federal and state officials and, for the most part, left to manage the telephone business free from intense regulation. AT&T carried out their mission of universal service with great skill, while at the same time taking care not to flaunt their monopoly position.

However, this balance would be tested in 1934 when AT&T came under fire for its ratemaking and cost policies, leading to the creation of the Federal Communications Commission, or FCC (Brooks 162-163). In 1934, Congress passed the Communications Act which gave the newly formed Federal Communications Commission (FCC) jurisdiction over AT&T. This jurisdiction allowed the FCC to set the rates for AT&T’s basic telephone services, and is one of the first examples of how AT&T contributed to the development and structure of the federal government.

Due to the complete lack of any competition during the 1930s, this rate-setting policy initially was not regarded as a big issue for AT&T, since no other company could offer lower rates than AT&T could. Moreover, the policy most importantly shows how far the Bell System had been able to stray from the usual constraints that face business organizations in the marketplace (Coll 28). AT&T had the ability to virtually ignore the FCC’s pricing control because of the telephone company’s monopoly position, which the government still protected.

Company officials knew that certain parts of its markets were tempting targets for potential competitors, but both Bell policy and public policy, backed by the police power of the government, kept raiders out of these markets (Coll 28). Furthermore, in the absence of open market competition, AT&T’s extraordinarily high operating costs seemed necessary and appropriate, and were thus “naturally” included in rate-setting decisions.

As the Bell System lacked incentives to develop or adopt new technological methods or cost-efficient production processes due to the almost complete lack of competition, AT&T could also keep its local telephone service rates low just by overcharging its long-distance customers (Coll 29). To AT&T, thus, the new rate policy really meant that long distance and business users were now heavily taxed, with AT&T as the collector, to subsidize the “universal” and standard residential telephone service that had made the company so appealing to the federal government in the first place (Coll 28).

Because of the complexity and interdependence of the telephone business as both a private business and a public utility, public policy makers had difficulty comprehending or controlling the underlying operations or cost structure of the Bell System (Brooks 164-166). Therefore, AT&T was still able to maintain its “equilibrium” position with its investors and with the federal government.

AT&T management had no need to restructure its research and development and marketing sectors when no outside competition threatened AT&T’s profits with new technologies or different services, and, since there were no other companies that offered comparable services, no red flags were raised by Congressional members or other governmental officials (Coll 148). There thus begins a trend by AT&T to skirt governmental regulations by exercising its monopoly control over the industry, by using its leverage as the only telephone service to its advantage.

The new local and long distance pricing policy AT&T now utilized showed – surprisingly to many – how responsive the Bell System actually was to political moods and trends. The practice of holding down residential rates (generally used by working class citizens who dominate the vote), and overcharging long distance users (almost completely big business owners and investors who are still in the minority), really was a subtle form of the anti-greed and power attitudes that had come to dominate government thinking in the 1930s (Brooks, 166).

On the surface, therefore, AT&T’s new rate policy seemed to benefit its regulators more than the company itself, when in reality the gains AT&T reaped in the short term were tremendous This balanced regulatory process, which largely confined itself to setting rates, remained fairly constant from year to year, and continued to support this elaborate system of cross-subsidies to benefit residential customers in the name of providing “universal” telephone service. Under this traditional form of regulation, AT&T did not have to contend with shortened product cycles (Chandler’s “throughput”), changing products, or a changing industry environment.

With the seminal Caterfone decision in 1969, however, AT&T’s relationship with the government would be forever changed, and the title of AT&T as the only long-distance telephone service in the country would also be tested with the introduction of Microwave Communications, Incorporated, or MCI (Coll, 104-105). Before 1970, AT&T was the nation’s only long distance company. However, in the early seventies, new long distance companies began to form, most notably Microwave Communications, Incorporated, or MCI, run by the energetic and forward-thinking Bill McGowan.

Allowed to enter the specialized, private-line long-distance market by the 1969 FCC decision known as Caterfone, MCI looked to capitalize on the use of microwave towers for intercity, “private line” connection between Chicago and St. Louis, two cities then exclusive to AT&T service (Coll 104-105). By building microwave towers between Chicago and St. Louis, McGowan and other MCI executives planned to “beam” telephone calls in between the two cities, and essentially “broadcast” communications across its series of microwave towers (Coll 104).

MCI would sell private long-distance lines to companies in each of the two cities for a flat monthly rate, and while AT&T’s research and development arm, Bell Laboratories, had actually been the ones to design the innovative microwave system, MCI capitalized on the new technology by using microwave towers as its exclusive form of intercity, specialized private-line service. The high price of upkeep of AT&T’s basic wire and cable telephone network enabled MCI to reap the savings of its exclusive microwave network, and thus pass the savings along to the consumer by charging a lower rate than AT&T (Coll 104-105).

Although the Caterfone decision allowed, for the first time, competition in the historically AT&T dominated private line service, AT&T executives did not believe that such an “embryonic, underfinanced, and aggressive company” like MCI could raise the money for such a service, or, even if they somehow did come up with enough capital for the highly expensive microwave system, could only penetrate the Chicago to St. Louis connection (Coll 10).

Additionally, this brash new entrant into the market could not possibly affect AT&T’s relationship with the federal government – the Caterfone decision did not even allow MCI enter the “regular” long distance market, the service that AT&T completely dominated (Coll 10). For a time, then, the relationship between AT&T and the federal government did not completely fall apart, even with the Caterfone decision now in place.

However, the ideal of universal and public service championed by both Vail and the federal government now potentially could be damaged with the entrance of MCI. Moreover, the structure of AT&T came into question. AT&T had never before had faced competition in any aspect of telephone service, and they were woefully under prepared and highly unmotivated to respond to the threat of MCI taking away some of their profits (Coll 104).

With these reasons n mind, AT&T executives thought it best to go head to head with MCI – which was currently selling its services for around $100 less than AT&T was – and try to drive them out of the Chicago-St. Louis market by lowering AT&T’s private line prices between the two cities. However, McGowan and MCI did not intend to become complacent in their emerging market in the private line system; they now looked towards building on its Chicago to St. Louis route and build other private-line microwave tower networks (Coll 10-11).

Such a network would, essentially, have the potential to severely damage AT&T’s system of pricing, which kept the cost of basic telephone service low for the average customer, and especially for the poor and elderly. AT&T’s “delicate system of ‘public service’ subsidies” (Coll 10) would change dramatically if MCI expanded its operations to other cities, as the price of basic local service would shoot up to account for a new entrant in the long-distance (albeit specialized), private-line market.

However, for McGowan and MCI to provide this extended service, they would have to use the local phone lines that were then owned by the regional Bell operating companies – a proposition that McGowan deemed implausible (Coll 19). It would be impossible for MCI or other infant telephone and telecommunication companies to even stay afloat if their only available entry into the market was by only “nibbling off the edges” of AT&T’s regional services and taking away some of their customer base in hub cities such as Chicago and St.

Louis (Coll 19-20). Realizing that that these regional Bell companies were favoring AT&T, McGowan – calling AT&T an “outrageous monopoly” (Coll 32) during his early days of lobbying Congress – realized that in order for MCI to survive in the telecommunications industry, the company would “have to do nothing less than tear down the existing order in America’s telephone industry and reconstruct a new system based on competition” (Coll 26).

Critics of the Bell System approved of these moves and there was widespread agreement that it was about time AT&T faced some “real competition. ” Dismayed, AT&T officials tried to fight back by accusing MCI of “cream skimming,” or taking the most lucrative markets and ignoring other (and often more essential) phone services (Coll 13). AT&T used court hearings and delays to help stall decisions that might help new competitors like MCI, as well as giving AT&T time to reformulate its organizational strategy and its research and development capabilities.

Ironically, the potential entrance of competitors into the telephone and telecommunications industry helped the company learn new “methods” of operating in a competitive environment,