Exhibit (TZ-Testimony) BEFORE THE WASHINGTON UTILITIES AND TRANSPORTATION COMMISSION In the Matter of the Pricing ) DOCKET NO. UT-960369 Proceeding for Interconnection, ) Unbundled Elements, Transport and ) Termination, and Resale ) . . . . . . . . . . . . . . . . . . . . . . . . . . .) ) In the Matter of the Pricing ) DOCKET NO. UT-960370 Proceeding for Interconnection, ) Unbundled Elements, Transport and ) Termination, and Resale for ) U S WEST Communications, Inc. ) . . . . . . . . . . . . . . . . . . . . . . . . . . .) ) In the Matter of the Pricing ) DOCKET NO. UT-960371 Proceeding for Interconnection, ) Unbundled Elements, Transport and ) Termination, and Resale for GTE ) Northwest Incorporated ) . . . . . . . . . . . . . . . . . . . . . . . . . . .) TESTIMONY OF DR. THOMAS M. ZEPP Submitted on behalf of TRACER August 20, 1998 Page 1 - TESTIMONY OF DR. THOMAS M. ZEPP I. INTRODUCTION Q. PLEASE STATE YOUR NAME AND BUSINESS ADDRESS. A. My name is Thomas M. Zepp. My business address is 1500 Liberty Street, S.E., Salem, Oregon, 97302. Q. WHAT IS YOUR PROFESSION AND BACKGROUND? A. I am an economist and Vice President of Utility Resources, Inc., a consulting firm. I received my Ph.D. in Economics from the University of Florida. Prior to jointly establishing URI in 1985, I (1) was a consultant at Zinder Companies, (2) was a senior economist on the staff of the Oregon Public Utility Commissioner and (3) taught business and economics courses at three different colleges and universities. I have been deposed or testified on various topics before regulatory commissions, courts and legislative committees in eighteen states, before two Canadian regulatory authorities and before four Federal agencies. I have prepared many economic studies and analyses of telecommunication issues and services. This experience includes estimates of the incremental costs of providing several types of local and interoffice telecommunications services, negotiations of cost-based pricing of E-911 services, analyses of the competitive status of private line services, determination of proper depreciation rates, estimates of costs of capital facing several different telecommunications companies and examination of ways to establish efficient pricing of interconnection services. Q. HAVE YOU BEEN INVOLVED IN REGULATORY PROCEEDINGS IN WASHINGTON IN THE PAST? A. Yes. I testified in a large number of telecommunications cases to include UT-970766, UT-950200; UT-941464, et. al.; UT-930957, et. al.; UT-911488, et. al.; UE-911008; UT-901029; UT-89-2698-F; U-88-2417-F; U-87-796 and U-85-52; and U-86-40 on behalf of the Washington State Department of Information Services, the Washington Telecommunications Ratepayers Association for Cost-based and Equitable Rates ("TRACER"), the City of Bellevue, VIACOM Cable, Enhanced TeleManagement, Inc. and MCI. I also represented the Washington State Department of Community Development Emergency Management Office in its negotiations with telecommunications companies regarding E-911 rates and have testified before the Washington legislature on behalf of TRACER. I have also testified in recent arbitrations and cost dockets to include Phase 1 of UT-960369, et. al. on behalf of AT&T Communications and MCIMetro Transmission Access Services. Exhibit___(TZ-1) provides a more complete resume of my past professional activities. Q. PLEASE STATE THE PURPOSE OF THIS TESTIMONY AND OUTLINE YOUR TESTIMONY? A. TRACER has asked me to address the proper pricing of UNEs and to review and respond to the testimony of Mr. Page Montgomery for TCG, Mr. Mark Reynolds for U S WEST, and Mr. Michael Doane for GTE. I have also been asked to put in perspective U S WEST's response to Bench Request 102, dated August 5, 1998. Q. HOW IS YOUR TESTIMONY ORGANIZED? A. In Section II of my testimony, I discuss the requirements of the 1996 Telecommunications Act as they relate to pricing of Unbundled Network Elements ("UNEs") and mark-ups above the costs the Commission adopted in Phase 1 of this docket. As part of that testimony I respond to the testimony of Mr. Montgomery and Mr. Reynolds. In Section III, I respond to the testimony of Mr. Doane related to alleged stranded costs. In Section IV, I put the U S WEST response to Bench Request 102 in perspective. I introduce the results of a 4-wire circuit cost study which shows the costs of such circuits are a fraction of the costs U S WEST implied in response to Bench Request 102. II. MARKUPS Q. HOW SHOULD THE COMMISSION DETERMINE THE MARKUPS ABOVE COSTS DETERMINED IN PHASE 1? A. The Commission determined costs in Phase 1 of this docket which may not include the variable support costs (costs some analysts have called common costs) from the HAI Model cost estimates and may not include common costs from the other costs models. To determine the markups in Phase 2, I have three recommendations: (1) The markup(s) that are determined should be consistent with duties Congress specified in the 1996 Telecommunications Act ("the Act"). Specifically, the Commission has a duty to set markups that are independent of the incumbent LECs' revenue requirements under rate base rate-of-return ("RB/ROR") regulation. To be consistent with duties in the Act, the WUTC must determine markups to produce prices that give the incumbent LECs a reasonable opportunity to earn the profit an efficient firm in a competitive industry would earn. Those normal profits are a component of forward-looking economic costs. Such a markup applied to Phase 1 costs may produce UNE prices that are higher or lower than would be produced under rate base/rate-of-return regulation. But Congress has specifically stated RB/ROR regulation should not be the basis for prices. Thus, such comparisons are not relevant to the pricing of UNEs. (2) For each incumbent LEC, the same percentage markup should be applied to each UNE. There should be no difference in markup for the different LECs, nor difference in markup for the various UNEs. (3) I recommend the Commission adopt loop prices of $16.25 for U S WEST and $18.75 for GTE, unless Mr. Montgomery’s interpretation of the Commission’s determination of Phase 1 costs is correct. If Mr. Montgomery is correct, the prices should be equal to the Phase 1 costs reduced to incorporate the cost saving benefits of deferred income taxes. Other UNE prices should be based on the same considerations. A. MARKUPS SHOULD BE CONSISTENT WITH DUTIES SPECIFIED BY CONGRESS IN SECTION 252 OF THE ACT. Q. WITH RESPECT TO YOUR FIRST POINT, WHAT MARKUPS ARE CONSISTENT WITH DUTIES SPECIFIED IN THE ACT? A. The markups should produce prices that are consistent with prices that would be expected in a competitive market. The 1996 Act specifically required adoption of prices for interconnection and unbundled network elements which were based on costs ". . .determined without reference to rate-of-return or other rate-based proceedings". Sect 252(d)(1). The Congress has given the WUTC a duty to base prices for UNEs (and, thus, the markups to achieve those prices) on economic costs instead of embedded costs. With passage of the Act, the paradigm has changed from one in which regulators set prices designed to give LECs a reasonable opportunity to recover costs determined with RB/ROR regulation to one in which regulators, without regard to RB/ROR considerations, set UNE prices which assume firms are efficient price-takers in a competitive market. In such a competitive market, no regulator or firm would have the power to set a price. Instead, all firms would be price takers who sell services into a market in which prices are determined by supply and demand. Q. IN YOUR LAST ANSWER, YOU SAID THAT RATE BASE/RATE-OF-RETURN CONSIDERATIONS SHOULD PLAY NO ROLE WHEN THE WUTC SETS THE MARKUPS AND PRICES OF UNES. HOW SHOULD THE UNE PRICES BE RECONCILED WITH RETAIL PRICES AND RESALE PRICES DERIVED FROM APPLYING A DISCOUNT TO RETAIL PRICES? A. There should be no reconciliation. As I read the Act, the duty of the WUTC is to set UNE prices based on a consideration of forward-looking economic costs. Such prices may be above or below the prices that would be "consistent" with RB/ROR regulation. They should be independent of any and all rate base/ rate of return considerations. To the extent that the retail rates and resale rates derived from retail rates are derived from prices established by RB/ROR regulation, there should be no reconciliation. Q. MR. REYNOLDS OF U S WEST STATES THAT THE MARKUPS SHOULD BE APPROPRIATELY ADJUSTED TO ALLOW FOR AVOIDABLE COSTS AND AN ALLOWANCE FOR RECOMBINATION COSTS TO ENSURE THAT UNE CUSTOMERS MAKE AN EQUITABLE CONTRIBUTION FOR USE OF THE U S WEST NETWORK. HOW DOES HIS PROPOSAL DOVE-TAIL WITH REQUIREMENTS OF THE ACT? A. They come together about as well as oil and water. In effect Mr. Reynolds advocates recovery of a "fair share" of embedded costs from sales of UNEs. Recovery of embedded costs from the sale of UNEs is inconsistent with requirements of the Act and will only further delay the emergence of competition in Washington. The 4.05% markup above Phase 1 costs that I have proposed will allow efficient LECs to recover the forward-looking common costs from UNE sales. No more than that is required or allowed under the Act. Q. ARE THERE BENEFITS FROM FOCUSING ON FORWARD-LOOKING COSTS INSTEAD OF EMBEDDED COSTS? A. Yes. In truly competitive markets, firms consider the effects of their decisions on current and future revenues and costs, not the past -- even if good decisions were made in the past. Application of the duties specified in the Act induce incumbent LECs to focus on those types of forward-looking decisions instead of decisions aimed at producing the maximum amount of profits from decisions made in the past. Q. GTE HAS PROPOSED THAT THE MARKUP ADOPTED SHOULD GIVE IT AN OPPORTUNITY TO RECOVER ITS ACTUAL COSTS INSTEAD OF FORWARD-LOOKING SHARED AND COMMON COSTS. THE DOUBLE-MARKUPS (FIRST FOR ATTRIBUTED AND COMMON COSTS AND THEN BY 18%) PROPOSED BY U S WEST WOULD ALSO APPEAR TO ACHIEVE THE SAME RESULT. SHOULD THE MARKUPS BE DESIGNED TO RECOVER ACTUAL COSTS? A. No. Such an approach to costs and pricing would be inconsistent with the 1996 Telecommunications Act. Interconnection and UNE prices are to be tied to forward-looking economic costs. It would be just an accident if costs incurred by ILECs in the past were the same as such economic costs. There is also the problem that such "actual costs" may have been incurred to provide a wider variety of services -- now and in the future --than are recognized in computing revenues. In such a case, the limited revenues recognized in the attempt to allow GTE and U S WEST to recover such costs would be mismatched with the "actual" sources of revenues those costs allow the incumbent LECs to provide. Q. AT PAGE 4, LINE 23 OF HIS TESTIMONY, MR. DOANE OF GTE STATES THAT IF AN ILEC OFFERED ONLY UNES AND NO RETAIL SERVICES, THEN THE UNE PRICES WOULD HAVE TO RECOVER TOTAL ACTUAL COSTS. DO YOU AGREE? A. Yes, if by "actual costs" Mr. Doane means forward looking economic costs. If he means cost on the books or costs resulting from rate base rate of return regulation, I do not. His proposal would violate requirements of the Telecommunications Act as well as be economically inefficient. B. THE COMMISSION SHOULD ADOPT THE SAME MARKUP FOR EVERY INCUMBENT LEC AND FOR EVERY UNE. Q. PLEASE TURN TO YOUR SECOND POINT. WHY SHOULD THE COMMISSION ADOPT A SINGLE MARKUP FOR ALL UNES SOLD BY ALL LECS? A. The primary reason is that AT&T and MCI have demonstrated that the "common costs" needed to get from Phase 1 costs to an appropriate level of Phase 2 prices are not fixed but vary with the size of the firm. In effect, those costs are "variable support costs" which get bigger (smaller) as the firm gets bigger (smaller). As more UNEs are sold, the variable support costs would increase no matter what UNE is purchased. Cost causation then requires that each UNE be marked up by the same percentage to be consistent with the way such costs are expected to change. Q. IF SUPPORT COSTS VARY WITH THE SIZE OF THE FIRM, HOW SHOULD THE MARKUP TO RECOVER THOSE COSTS BE COMPUTED? A. The costs should be computed as a percentage of underlying direct costs, as is done in the HAI Model. Also, those costs should be estimates of the forward-looking common costs (also called variable support costs) and not some reconstituted version of embedded costs. There should be no assumption that the "common" costs are fixed and must be recovered from the residual level of sales. If such an approach were adopted, it would provide a mechanism for an incumbent LEC to recover its revenue requirement even if it lost sales to competitors. Also, it would allow the incumbent LEC to recover those costs without attempting to cut back on them. Such a mechanism would be anti-competitive. It also would violate the duties laid out in the Act which separate the pricing of UNEs from the costs an incumbent LEC would be allowed to collect under the RB/ROR paradigm. Q. HOW DOES YOUR PROPOSAL FIT IN WITH A CLAIM THAT A MARKUP IS NEEDED TO RECOVER COMMON COSTS EXPECTED WHEN THERE ARE "ECONOMIES OF SCOPE" WITH THE PROVISION OF TELECOMMUNICATION SERVICES? A. Economies of scope are achieved when common plant is used to provide several types of services. Those who argue that there must be a markup to recover economies of scope recognize that the long run incremental cost of providing each of those services will not reflect all of the costs of providing the combination of services. That concept does not apply when the costs of elements are determined instead of the cost of services. This is one of the many benefits of computing the costs of elements and not the cost of services. When U S WEST, for example, used to compute Average Service Incremental Costs (“ASICs”, a form of long run incremental costs), there, indeed, were shared costs among services resulting from economies of scope. But with TELRIC estimates, the full cost of the element is derived by the HAI Model, and the economies of scope become direct costs of elements instead of shared costs of services. There is no need for a markup to recover shared or joint costs resulting from economies of scope, because the costs of concern have already been included as direct costs of the elements and, thus, are already in the TELRIC estimates. C. PRICES IN PHASE 2 SHOULD BE SET NO HIGHER THAN THE COSTS DETERMINED BY THE WUTC IN THE EIGHTH ORDER Q. PLEASE TURN TO YOUR THIRD POINT. WHAT IS MR. MONTGOMERY'S TESTIMONY ON THIS ISSUE? A. Mr. Montgomery points out that the Commission considered three loop costs for U S WEST, which indicate consideration of average loop costs for U S WEST of $14.84 or $13.65, but notes we do not know exactly how the information for the three costs was used to compute the adopted cost of $17.00. If the Commission had considered those averages of costs in setting the $17.00 adopted cost, there would already be markups of 15% to 25% in the adopted costs. The Hatfield Model (now HAI Model) includes only a 10.4% markup to convert direct costs into TELRICs, and, thus, the adopted $17 cost may already be at or above TELRIC. In such a case, no further markup is required. Note, however, that the $17 loop cost has not been revised to reflect deferred income taxes ordered in the Tenth Order. Thus, if Mr. Montgomery's interpretation of the costs reported in the Eighth Order is correct, those costs and implied prices for Phase 2 should be reduced to reflect the proper inclusion of deferred income taxes. Q. ASSUME, HOWEVER, THAT THE COMMISSION DID NOT INTEND THE $17 COST TO INCLUDE MARKUPS, WHAT THEN IS YOUR RECOMMENDATION? A. My recommendation is for the Commission to set prices in Phase 2 equal to $16.25 for U S WEST and $18.75 for GTE. In the USF docket, TRACER has reported runs of the HAI Model with the changes in deferred income taxes ordered by the Commission and found costs drop by approximately 8.7% to 9.3% for U S WEST and GTE, respectively. Application of those percentages to the costs found to be reasonable in Phase 1 would reduce those costs to approximately $15.50 for U S WEST and $18.00 for GTE. Those revised costs include shared costs and attributable costs because they are computed with TELRIC concepts but do not include a markup for common costs (costs called variable support cost in the Hatfield Model). I recommend that if Mr. Montgomery's interpretation of the Phase 1 costs is not correct, that the Commission markup the revised costs by 4.05% to $16.25 for U S WEST and to $18.75 for GTE. I also recommend that the Commission make similar reductions for deferred income taxes and markups for common costs to determine the prices for the other UNEs. Q. HOW DID YOU DETERMINE THE 4.05% MARKUP? A. Generally, I would urge the Commission to markup direct UNE costs by 10.4%, the variable support factor which AT&T and MCI have demonstrated is sufficient to markup direct UNE costs to determine the total forward-looking cost of UNEs. The 10.4% markup is comparable to the current actual ratio of corporate operations expense to total revenues for AT&T, and this ratio is an appropriate indicator of the markup which would bring direct UNE costs up to a reasonable level of UNE prices. Not only does this markup represent an actual markup for a competitive company, but it also falls within a range of similar ratios for incumbent LECs. Available evidence shows that some LECs have markups below 9.0%. Thus, it is not unreasonable to expect an efficient LEC to have a markup of 10.4% or less if it were in a competitive marketplace. Additionally, U S WEST and GTE have actual ratios of corporate operations expense to total revenues of 13.6% and 15.6%, respectively. That evidence indicates a reasonable markup is much closer to 10.4% than to the huge markups proposed by the incumbents. But, the adopted markup in Phase 2 should be one that is consistent with the costs adopted in Phase 1. Because the $17.00 loop price is above the direct costs computed with the Hatfield Model, it appears the average price adopted by the Commission already includes some of the costs the 10.4% markup is designed to recover. The 4.05% markup is the markup for common costs that U S WEST claimed was all that was required to convert its direct cost of loops (which included shared and attributable costs) into a measure of forward-looking economic costs. Because I do not know how the Commission determined the weights it has given the various cost estimates discussed in the Eighth Order but know the 10.4% markup is too large when it is applied to the average direct cost of loops, I recommend the 4.05% markup be adopted. If that markup is sufficient for U S WEST, it should be sufficient for GTE, too. III. STRANDED COSTS Q. MR. DOANE CLAIMS GTE HAS POSITIVE STRANDED COSTS AND THAT THE WUTC SHOULD ALLOW GTE TO COLLECT THOSE COSTS USING A COMPETITIVE TRANSITION CHARGE. PLEASE PUT HIS CLAIM IN PERSPECTIVE. A. Mr. Doane defines stranded costs as the current dollar value of prudent investments no longer recoverable as a result of a change in policy, e.g., the Act. And he states the measurement of stranded costs is the difference between (1) the present value of the ILEC's expected earnings under fair regulation (i.e., the incumbent's actual (embedded) costs) and (2) its expected earnings after competitive entry. He argues that he expects the stranded costs to be positive and recommends that GTE be allowed to impose a Competitive Transition Charge to collect those stranded costs. Q. SUPPOSE THERE ARE INDEED POSITIVE STRANDED COSTS AS MR. DOANE DEFINES THEM. SHOULD GTE BE AUTHORIZED TO COLLECT THEM? A. No. First, I disagree with his definition of stranded costs. In the electric industry to which he refers a number of times, stranded costs are the result of restructuring the industry in which electric utilities sell off generation assets or lose the ability to recover other costs in a competitive market that are more easily passed through when the firm is a vertically integrated monopoly. The "stranded" costs occur when generating assets are sold at prices below book value (presumably because the new means of generation are more efficient and less costly) or when other generation-related costs cannot be recovered in a competitive generation supply market. By sharp contrast, there is no such potential loss for telecommunications companies. If GTE wants to sell off some of its exchanges, there is little doubt it could gets bids for those lines that far exceed book value. The Act did not destroy the value of having access to customers. If anything, it increased it. Mr. Doane's definition which attempts to narrowly define how "stranded costs" should be determined is inappropriate. Second, unless GTE can demonstrate that it has a burden from "stranded costs", as it would define them, that exceeds the benefits it also received by passage of the Act, it is only telling part of the story. In making that showing, GTE should be required to demonstrate the net benefits and costs from interstate and intrastate jurisdictions, as well as from competitive and regulated services. If GTE chooses not to make such a showing based on legal arguments, such as Mr. Doane offers at pages 25-26, it should be assumed that the benefits outweigh the costs. The Act changed the paradigm which regulates prices set by incumbent LECs. It removed RB/ROR regulation (at least in the pricing of UNEs and interconnection) and substituted economic costs as the appropriate basis to set prices. But at the same time, the Act opened the door for GTE to generate far more revenue from approximately the same assets. Of special note, it authorized GTE to get into the lucrative long distance business without having to go through Section 271 hearings. Q. DO ARGUMENTS OF HISTORICAL "CARRIER OF LAST RESORT" AND "OBLIGATIONS TO SERVE" JUSTIFY RECOVERY OF STRANDED COSTS? A. No. At page 6, line 12, Mr. Doane states that GTE has made investments that would otherwise be uneconomic without regulatory controls. First, it should be recognized that such "obligations" are less a burden than an opportunity, and those "obligations" are, in fact, a potential source of competitive advantage for incumbent LECs. In addition to receiving substantial subsidies in the form of access charges, such opportunities to serve many customers give ILECs substantial market power. Q. DO ILEC CLAIMS OF A "REGULATORY COMPACT" JUSTIFY RECOVERY OF PAST COSTS WHICH EXCEED TELRICS? A. No. First, the regulatory paradigm changed with the passage of the Telecommunications Act of 1996. The Act specifically stated that prices for UNEs and interconnection should be based on costs determined without regard to the old paradigm, rate base rate of return regulation. If there ever was a "regulatory contract" with obligations to U S WEST and to GTE, it was changed with the passage of the new law. Second, contrary to his testimony at page 16, lines 5-8, the courts in Washington have determined that exchanges were always open to competition. No LEC had exclusive monopoly rights to a service territory. Thus, Mr. Doane's analysis is based on a false assumption. Third, Mr. Doane ignores the benefits of new marketing opportunities offered by the Telecommunications Act. The ILECs supported passage of the Act, presumably because they expected to gain something with the new regulatory paradigm. Having gained these new benefits, the ILECs now apparently want the assurance of embedded cost recovery afforded by the old regulatory paradigm as well. Q. WOULD YOU EXPECT STRANDED COSTS FOR GTE TO BE POSITIVE OR NEGATIVE? A. I would expect the stranded costs to be negative based on the prices telecommunications companies have been willing to pay each other for the lines in existing exchanges in Washington and other states. If, indeed, there were expected positive stranded costs, one would expect sales of exchanges to be at distressed prices, such as prices at or below book value, not prices several times net book values. Market values substantially above book values provide a clear indication that, if there are indeed positive stranded costs based upon some peculiar definition of the term, that definition does not reflect the full net income stream of costs and benefits. Q. MR. DOANE REFERS TO STATEMENTS BY A NUMBER OF EXPERTS AND A FEDERAL REPORT TO SUPPORT GTE's PROPOSED RECOVERY OF STRANDED COSTS. DO YOU HAVE A RESPONSE? A. Yes. First, the cites for many of those statements show they were made prior to passage of the Act and were publicly available. Congress enacted the legislation anyway. Ultimately, Congress determined that the benefits of competition would outweigh any of those concerns. Q. MR. DOANE REFERS TO ACTIONS TAKEN BY REGULATORS IN THE ELECTRIC UTILITY INDUSTRY TO SUPPORT HIS PROPOSED RECOVERY OF STRANDED COSTS. DO YOU HAVE A REPLY? A. Yes. First, the electric utilities and the telecommunications companies face substantially different situations. Electric utilities are primarily seeking to recover costs associated with generation assets or programs designed to avoid the construction of generation assets. These assets have no significant economies of scope and will face substantial competition when the electric utility industry is restructured. By contrast, in the telecommunications industry there are significant economies of scope. Even if an incumbent telecommunications LEC could identify stranded plant, any "burden" of such stranded plant could be more than offset by marketing opportunities and the economies of scope. If the incumbent LEC did not have the ubiquitous reach which presumably has left it with stranded plant, it would not have the market power and marketing opportunities that such a reach provides. Second, our office has been involved in a number of stranded plant cases involving electric utilities providing service in the western United States. Our analyses have shown that when the claims of stranded plant are thoroughly examined, there are little, if any, net stranded costs. In part, this finding is based on the fact that, as the electric utility industry has moved toward restructuring and utilities have sold off generating plants, those plants have been sold at prices above book values. Mr. Doane has quoted the California Commission decision in his discussion of stranded costs of electric plants in California. Value Line (May 22, 1998), however, has reported that Pacific Gas and Electric (a large California utility) has sold off generating assets at prices that are 35% above book values. Such sales will substantially mitigate any need for stranded cost recovery. If GTE were really concerned about the recovery of stranded costs, it too could sell off exchanges at prices above book value to offset them. Sales of telephone exchanges have been selling at prices that are far higher than 35% above book value. Q. DOES HISTORY PROVIDE OTHER EVIDENCE THAT SHOWS STRANDED PLANT SHOULD NOT BE RECOGNIZED IN "TRANSITIONAL" PRICES THE ILECs WOULD LIKE TO CHARGE? A. Yes. That history is the history of AT&T. As competition developed, it had to write off millions of dollars in plant and, due to competitive pressures, had to install fiber optics many years in advance of scheduled installation dates. This is instructive and provides perspective on the claims now being made by the ILECs. Consumers throughout the United States benefited from the increase in the quality of service without being required to pay "transitional prices" for the write-offs. Also, AT&T is alive and financially healthy today, and consumers benefit not only from the higher quality of service but also the diversity in supply resulting from competitive markets. The ILECs proposals for collection of "transitional" prices to recover stranded costs should be rejected. Q. ARE THERE ANY SPECIFIC PROBLEMS WITH THE STRANDED COST RECOVERY MECHANISM MR. DOANE HAS PROPOSED? A. Yes. If his definition of stranded cost were adopted, if stranded costs under that definition are determined to be positive, and if recovery of such costs were authorized, it would stifle the pro-competitive goals of the Federal Act and harm consumers in Washington. Mr. Doane's proposal would restore any loss of earnings resulting from price reductions or loss of market share by charges imposed on competitors and by denying rate decreases to consumers. Such a proposal is designed to protect GTE from competition, while placing a barrier to entry for competitors and a burden on the citizens of Washington. I recommend it be rejected. IV. FOUR-WIRE LOOP COSTS AND RECOMMENDED PRICE Q. WHAT INFORMATION WAS REQUESTED IN BENCH REQUEST 102? A. The Commission asked U S West to reconcile (a) its position that if the costs of 4-wire cards are considered, the result is that the 4-wire loop cost is more than 200% of the 2-wire cost" with (b) the testimony of GTE filed by David Tucek, which showed lower costs. U S WEST explained that the costs of 4-wire DLC cards were higher than the per circuit costs of 2-wire DLC cards. It also explained that the GTE study focussed on the cost of demuxing loops off DLC, which is different than the focus of the U S WEST study. Q. DO HIGHER CARD COSTS MEAN 4-WIRE LOOPS COST 200% MORE THAN 2-WIRE LOOPS? A. No, that is not true. But that is the way we read the U S WEST response to the Commission. The U S WEST response to BR 102 implies that the long run incremental cost of 4-wire circuits is more than double the cost of 2-wire circuits when it is not. The costs of the DLC cards is but a fraction of the costs of the services at issue. The bulk of the long run incremental costs of loops do not change very much if 4-wire instead of 2-wire service is provided. Q. HAS TRACER OBTAINED EVIDENCE TO SUPPORT THAT CONCLUSION? A. Yes. TRACER asked HAI Consulting, Inc. (“HAI”), to compute how much more it would cost to provide 4-wire instead of 2-wire circuits in the state of Washington for U S WEST. HAI modified the Distribution and Feeder Modules in its cost proxy model to respond to this request. It found that, if loops were assumed to require two wire pairs per line instead of one (i.e., loops were 4-wire circuits) and if the 4-wire circuits provided on Digital Loop Carrier were assumed to require DLC channel units at a price of $300 per 2-line card, costs for 4-wire circuits would be approximately 28% more expensive than for 2-wire circuits. This study indicates that, using the information in U S WEST's response to BR 102, the 25% difference between the cost of 2-wire and 4-wire circuits found by the Commission in Phase 1 of this docket is reasonable. Q. WHAT DO YOU CONCLUDE FROM THIS? A. I conclude the price o