How Strong is the Bond? Research by Austan D. Goolsbee and Amil K. Petrin
A new study shows that cable companies have a greater degree
of market power than satellite companies.
Home satellite systems provide the only alternative to local
cable television companies for most Americans. The number of
satellite customers has grown from 400,000 in 1994 to 10 million
in 1999, making satellite dishes one of the fastest adopted
consumer products in U.S. history. Despite the popularity of
this new product, just how much competition is there between
cable and satellite?
During the last two decades, economists have devoted increasing
attention to the importance of new goods and their role in enhancing
competition. In a new study, "The Consumer Gains from Direct
Broadcast Satellites and the Competition with Cable TV,"
two University of Chicago Graduate School of Business professors,
Austan D. Goolsbee and Amil K. Petrin, examine Direct Broadcast
Satellites (DBS) as an alternative to cable television, and
the subsequent impact this new product has had on consumers.
In a market with very few players, DBS is cable's only serious
competitor, currently holding a 15 percent market share, 5 percent
higher than in 1999, when data for the study was collected.
The degree of competition between cable and satellite is a
central issue in debates over the regulation of cable prices.
The study is also relevant to two of the biggest proposed telecommunications
mergers in history, which are currently awaiting Federal Communications
Commission and Department of Justice approval: the merger of
the two biggest satellite providers, EchoStar and DirecTV, and
the sale of AT&T Cable to Comcast, which would create the
largest cable company in the world.
Using detailed data on the television choices of 45,000 people,
Goolsbee and Petrin measured consumer demand for four television
options: satellite, basic cable, premium cable, and local antenna
only. The study focuses on how sensitive consumers are to changes
in price, as shown by changes in demand. A key question the
study tries to answer is how much of a check on DBS prices does
cable provide, and vice versa.
"Consumer sensitivity to changes in price reflects how
much competition there is in the market," says Petrin.
"If consumers view cable and satellite as being close substitutes
to each other, a small change in the price of one will cause
consumers to switch to the other. That puts a check on what
competitors can do in terms of charging higher prices."
Contrary to popular assumptions that cable and satellite are
very similar products, the study shows that satellite dishes
are not easily substituted for cable, despite satellite's growing
popularity with consumers.
"We find that if you raise the price of cable, not that
many people switch to satellite," says Goolsbee. "This
suggests that cable is not very price sensitive and therefore
has a fair degree of market power. Satellite, on the other hand,
is extremely price sensitive, and looks like a pretty tough
business to be in at the moment."
A Love Affair with Television
In 1999, 97 percent of U.S. households had a television and
almost 75 percent had cable or a satellite dish. That same year,
the average household watched more than seven hours of TV per
day, making it the nation's top leisure activity. Total TV advertising
in 1999 exceeded $45 billion and consumers spent $37 billion
on cable subscriptions.
"There are a lot of businesses that want answers to important
questions about cable and satellite," says Goolsbee. "People
in the media business and advertisers want to know what consumers
think, how much they watch DBS, and what happens if cable prices
Cable TV rose to prominence over the past three decades, beginning
with rural consumers, and became a major alternative source
of programming by the 1980s. Since it is very costly to lay
cable, regulators at first treated cable companies as a natural
monopoly in each local market.
In 1984, the government began deregulating cable prices. Over
the next seven years, the average price of cable rose two to
three times faster than the overall rate of inflation, though
it is not certain whether the price increases were due to quality
improvements or increased markups, the authors note.
Public outcry over rising prices led the government to re-regulate
cable in 1992. However, dissatisfaction with this solution resulted
in government deregulation in the Telecommunications Act of
1996, which encouraged direct competition as an alternative
check on prices. This effort has largely failed. Currently,
consumer advocates are calling on Congress to regulate cable
prices again, until there is viable competition. However, the
National Cable Television Association has argued that the rapidly
growing market for DBS provides enough competition, so the cable
industry does not warrant additional regulation.
Like cable, home satellite systems first began with rural TV
viewers who could purchase nine-foot C-band satellite receivers
for a few thousand dollars in the 1970s and 1980s. By the mid-1990s,
improvements in satellite receiver and digital compression technology
set the stage for the next generation of home satellite systems.
Starting in 1994, Americans could purchase a small satellite
dish for their home, pay a monthly subscription fee, and receive
multichannel video programming without having to subscribe to
cable. The new dishes are as small as 18 inches in diameter,
and much cheaper than the C-band dishes. Popular systems at
the time of the survey were DirecTV, the DISH Network (currently
a division of EchoStar), and Primestar (later bought by DirecTV).
These DBS systems offer hundreds of channels, more extensive
sports, movies, and pay-per-view options, and typically superior
digital video and sound when compared with most cable. Despite
the high installation costs (on average $232 in 1999, including
equipment), and slightly more expensive programming packages,
consumers embraced the product.
At the time of the survey, regulatory restrictions prevented
DBS systems from broadcasting local network content to anyone
who could get these channels with a regular TV antenna, a restriction
that was later lifted. Other restrictions included the 1996
Satellite Home Viewer Act, still in effect, which allows homeowners
to put up satellite dishes but does not give renters clear rights
to do the same.
The most notable problem with DBS systems is that a user must
have a clear line of sight to a broadcast satellite's location
in the sky. Buildings, geography, and even trees can interfere
with the signal, so the quality of the satellite product varies
depending on the user's location. Goolsbee and Petrin's calculations
take into account these differences in the physical properties
of DBS systems.
Goolsbee and Petrin obtained detailed information on consumer
behavior from the Technographics 1999 survey conducted by Forrester,
a leading market research company focusing on the information
economy. The survey provided demographic information on household
size, gender, family income, marital status, education, living
accommodations, geographic state, and television market. Households
reported whether they had cable or satellite, the amount they
spent on premium television, and whether or not their local
cable company was owned by one of the seven largest national
cable companies: AT&T/TCI, Adelphia, Americast, Cablevision,
Cox Communications, Media One, and Time Warner.
The authors matched information on the cable system prices
and characteristics of each household with household data on
consumer choices, using cable system data from Warren Publishing's
1999 Television and Cable Factbook.
To calculate demand for satellite, expanded basic cable, premium
cable, and local antenna, the authors used statistical models
for demand, accounting for variations in price, product characteristics,
and household demographics. Their calculations also accounted
for product quality and differences in taste. Demand estimates
are identified by comparing how the likelihood of purchase by
people with the same characteristics changes as prices and characteristics
of products change.
In economic terms, "elasticity" refers to the percentage
change in quantity demanded as a result of a 1 percent change
in price. For expanded basic and premium cable, Goolsbee and
Petrin find an elasticity of -1, which means that a 1 percent
increase in cable price leads to a 1 percent decrease in demand.
Satellite has a higher elasticity of -4 or -5, indicating that
a 1 percent increase in satellite price leads to a 4 or 5 percent
decrease in demand.
"Elasticity is important for sellers to consider,"
says Petrin. "A high elasticity means there are close substitutes
for your product, and therefore you risk losing many customers
if you increase your price."
Picture quality and ease of installation appear to be important
factors for DBS selection. Satellite ownership is much greater
for people with higher dish angles (living in higher latitudes),
for homeowners rather than renters, and for people living in
single-unit dwellings. The authors find that when people shift
away from DBS, fewer than 5 percent switch to local antenna
only, while 95 percent switch to basic or premium cable.
In addition to calculating demand, Goolsbee and Petrin also
measured consumers' "welfare gains" from adopting
DBS systems. Welfare gains indicate the highest prices consumers
would be willing to pay before demand drops to zero. The authors
calculated how much money a consumer would need to be given
to make them indifferent to losing their satellite. Some consumers
value their satellites at a hundred times the satellite's dollar
value, while others value it at little more than the price they
paid for it.
"Essentially what economists call the 'welfare gain' is
just how much people like something, in dollar terms, over and
above what they paid for it," says Goolsbee.
Goolsbee and Petrin find that the average welfare gain for
consumers is $100 per year (in excess of the price they paid
for satellite), an aggregate of about $1 billion for 10 million
households with satellite dishes.
"While the welfare gains for satellite buyers are tangible,
the gain is smaller than we expected," says Goolsbee. "It
appears that satellites are not an especially valuable improvement
over cable except for a relatively small group of people."
Austan D. Goolsbee is professor of economics at the University
of Chicago Graduate School of Business. Amil K. Petrin is associate
professor of economics and statistics at the University of Chicago
Graduate School of Business.