REGULATORY OPPORTUNISM IN : THE UNLEVEL COMPETITIVE PLAYING FIELD

Rob Frieden*

New regulations typically encourage thinking metrical regulation has the potential to tilt the about ways to evade or profit from changed cir- competitive playing field in favor of one class of 4 cumstances, despite "an ongoing quest for an telecommunications carriers or service providers. equilibrium among all parties: regulators, legisla- Over the years, incumbents and newcomers tors, operators and consumers."' Depending on alike have gamed the regulatory process to secure one's perspective, clever and unanticipated out- a competitive advantage in terms of reduced regu- comes help blunt the adverse and meddlesome lation or cost savings. With skillful maneuvering, a impact of regulations, or prevent regulation from largely unregulated venture can provide services fully achieving essential public policy objectives. functionally equivalent to those offered by a sub- Perhaps because of the pace of technological and stantially regulated carrier. Other strategies in- marketplace change, legislators and regulators volve securing a classification that exempts the op- have unwittingly created an inordinate number of erator from more burdensome regulatory duties opportunities for stakeholders to exploit inconsis- or qualifies the operator to receive cost savings or tencies in the nature and scope of telecommuni- cost avoidance opportunities. cations regulation. 2 Asymmetries in regulatory Currently, Service Providers ("ISPs") burdens create incentives to find ways to exploit can qualify for "reciprocal" interconnection pay- artificial competitive advantages and avoid regula- ments from local exchange carriers without hav- tory classifications that create a bias toward more ing to generate a return flow of traffic. 5 ISPs also pervasive and costly regulatory burdens.3 Asym- can offer Internet-mediated long distance tele-

* Professor, Penn State University, 105-C Carnegie Build- 765 F.2d 1186 (D.C. Cir. 1985), where we struck down ing, UniversityPark, Pennsylvania, 16802 (814) 863-7996; "mandatory detariffing" as inconsistent with the 1934 [email protected]. Act. I See Michela Cimatoribus et al., Impacts of the 1996 Tele- MCI WorldCom, Inc. v. FCC, 209 F.3d 760, 761-62 (D.C. Cir. communications Act on the U.S. Model of Telecommunications Pol- 2000) (citations omitted). icy, 22 TELECOMM. POL'v 493, 509 (1998). 3 Mark Schankerman, Symmetric Regulation for Competitive 2 With rather high frequency, appellate courts have re- Telecommunications, 8 INFO. ECON. & POL'Y 3, 6 (1996) ("[A]II jected the Federal Communication Commission's ("FCC" or forms of asymmetric regulation contain an intrinsic bias to- "Commission") interpretation of a legislative mandate or a ward some firms or technologies."). Commission unilateral rulemaking initiative. For example, 4 See Prof. Dr. Gunter Knieps, Interconnection and Network on several occasions the FCC unsuccessfully attempted to Access, 23 FORDHLAM INT'L LJ. 90, 99 (2000). mandate the elimination of a statutorily imposed tariff filing There is a wide range of possible asymmetric regulation. reqtuirement: Whereas, in the past, legal entry barriers protected mo- Commission efforts to move to a no tariff environment nopolistic carriers, the regulatory pendulum now seems for interexchange carriers-insofar as those carriers do to swing in the opposite direction. Asymmetric regula- not exercise market power-have not had an easy time tion in favor of newcomers is motivated by the convic- with this court and the Supreme Court. For over six de- tion that, even after the abolishment of the legal monop- cades a tariff regime was mandated by the Communica- oly, the incumbent carrier would still possess a factual tions Act of 1934, which requires the FCC to review tele- monopoly position on the network infrastructure and communications carriers' tariffs to ensure their the normal voice telephone service. Therefore, initial reasonableness. The Act requires carriers to file their tar- support of newcomers, at least for a sufficient transition iffs with the FCC, and they are prohibited from charging period, has been recommended recently in the national consumers except as provided in the tariffs. Starting in regulatory debates. the early 1980s, the Commission tried to prohibit tariff- Id. filing by nondominant carriers-in essence, those other 5 See Rebecca Beynon, The FCC's Implementation of the 1996 than AT&T-but that effort was successfully challenged Act: Agency Litigation Strategies and Delay, 53 FED. COMM. L.J. in this court in MCI Telecommunications Corp. v. FCC, 27, 39 (2000). COMMLAW CONSPECTUS [Vol. 10

phone services free of interconnection charges 19968 (the "'96 Act") had great expectations9 that without the duty to make universal service contri- they could engineer competition and enhance butions like that of competitors.6 Longer-standing consumer welfare simply by rewriting a law to re- tactics include selecting a favorable jurisdiction move regulatory barriers to competition.10 Con- (federal rather than state), legal classification gress assumed that it could craft legislation that (private carrier versus common carrier) 7 and cash created complementary incentives to achieve this flow status (reseller instead of facilities-based car- goal. I For incumbent Bell Operating Companies rier). ("BOCs"), the law links their access to long dis- tance markets with affirmative steps to open their I. THE LAW OF UNINTENDED networks to new local exchange service competi- tors.1 2 The law also seeks to motivate competitive CONSEQUENCES local exchange carriers ("CLECs") to construct fa- The authors of the Telecommunications Act of cilities, which will stimulate demand through

Each time a customer places a call to the ISP, the incum- update the law to catch up with the new convergence in bent carrier winds up paying the competing carrier a video, computer and telephone technologies," [citing 141 per-minute termination fee. Consider also the nature of CONG. REC. S8464 (daily ed. June 15, 1995) (statement of ISP traffic. First, such traffic is typically 'one way.' That Sen. Leahy)] and that the bill would "allow the cable, tele- is, many customers call an ISP in order to connect to the phone, computer, broadcasting, and other telecommunica- Internet, but an ISP seldom places calls to other custom- tions industries more easily to converge and transform them- ers. Second, calls made to ISPs are typically much longer selves." [citing 141 CONG. REc. S8477 (daily ed. June 15, than the average voice call, since people often surf the 1995) (statement of Sen. Pressler)]. Digitalization, among Internet for hours at a time. The potential for regulatory other things, had rendered modes of transmitting informa- arbitrage is obvious-a competing carrier that signs up tion interchangeable; as a result, many in Congress believed an ISP as a customer stands to collect far more in recip- that historic divisions, artificially supported by legislative dis- rocal compensation fees than it will pay out in connec- tinctions and federal and state bureaucratic arrangements, tion with serving that customer. needed to be dissolved. Id. See also Joint Explanatory State- Id. ment of the Committee of Conference, H.R. CONF. REP. No. 6 See In re Federal State Joint Board on Universal Service, 104-458, at H1078 (1996), reprinted in 1996 U.S.C.C.A.N. 124. Report to Congress, 13 FCC Rcd. 11,501, 11,541-46, paras. 11)Michael 1.Meyerson, Ideas of the Marketplace: A Guide to 83-93 (1998) [hereinafter Report to Congress]; see also Robert the 1996 Telecommunications Act, 49 FED. COMM. L.J. 251 M. Frieden, Universal Service: When Technologies Converge and (1997). For background on the Telecommunications Act of Regulatory Models Diverge, 13 HARVARDJ.L. & Trnch. 395 (2000) 1996, see generally Robert M. Frieden, The Telecommunications [hereinafter Frieden, Regulatory Models Diverge]; Jamie N. Act of 1996: Predicting the Winners and Losers, 20 I-HASTINGS Nafziger, Time To Pay Up: Internet Service Providers' Universal COMM. & ENT. L.J. 11 (1997); Thomas G. Krattenmaker, The Service Obligations Under the Telecommunications Act of 1996, 16 Telecommunications Act of 1996, 29 CONN. L. REv. 123, 127 J. MARSHALL J. COMPUTER & INFO. L. 37 (1997); Dennis W. (1996); Michael Glover & Donna Epps, Is The Telecommunica- Moore, Jr., Regulation of the Internet and Internet Telephony tions Act of 1996 Working?, 52 ADMIN. L. REV. 1013 (2000); Through the Imposition of Access Charges, 76 TEX. L. REV. 183 John C. Roberts, The Sources of Statutory Meaning: An Archaeo- (1997); Hank lntven et al., Internet Telephony-the Regulatory logical Case Study of the 1996 Telecommunications Act, 53 SMU L. Issues, 21 HASTINC;S COMM. & ENT. L.J. 1 (1998); Seth A. Co- REV. 143 (2000) [hereinafter Roberts]; Aimee M. Adler, Com- hen, Deregulating, Defiagmenting & Interconnecting: Reconsider- petition in Telephony: Perception or Reality? Current Barriers to The ing Commercial Telecommunications Regulation in Relation to the Telecommunications Act of 1996, 7J.L. & POL'Y 571 (1999). Rise of Internet Telephony, 18J.L. & COM. 133 (1998); Henry E. 11 See Price & Duffy, supra note 9, at 982 ("There was a Crawford, Internet Calling: FCC.JurisdictionOver Internet Teleph- headiness to the rhetoric, a sense that a legislative revolution ony, 5 CoMMLAw CoNsPEcrus 43 (1997); Katherine Collins, would assist, and perhaps even underwrite, a technological International Accounting Rate Reform: The Role of International and organizational revolution in which past media categories Organizations and Implications for Developing Countries, 31 LAw would be swept away and a new era of national achievement & POL'Y INT'L Bus. 1077 (2000). and citizen and consumer empowerment would be 7 SeeJames H. Lister, The Rights of Common Carriersand the achieved."). Decision Whether to Be a Common Carrieror a Non-Regulated Com- 12 47 U.S.C. § 271 (Supp. IV 1998). This section contains munications Provider, 53 FED. COMM. L.J. 91 (2000). a fourteen-point checklist, among other requirements, which 8 Telecommunications Act of 1996, Pub. L. No. 104-104, BOCs must adhere to before being allowed into the in- 110 Stat. 56 (codified in scattered sections of 47 U.S.C. terLATA long distance telephone service markets. LATA is an §§ 151-170). acronym for Local Access and Transport Area, a geographi- 9 Monroe E. Price & John F. Duffy, Technological Change cal region created in the AT&T divestiture case within which and Doctrinal Persistence: Telecommunications Reform in Congress the spun-off BOCs can provide local and toll services. 47 and the Court, 97 COLUM. L. REVv. 976, 983 (1997) [hereinafter U.S.C. § 153(25) (A)-(B) (Supp. IV 1998). The 14-point com- Price & Duffy]. In the floor discussions of the new legislation, petitive checklist requires the BOCs to provide: 1) full and it was commonplace to hear that a vision of "the convergence fair interconnection with competitive local exchange carriers of these technologies" lay at "the heart of this reform effort," in accordance with the requirements of §§ 251(c)(2) and [citing 142 CONG. Rv(:. H1161 (daily ed. Feb. 1, 1996) (state- 252(d)(1); 2) nondiscriminatory and "ala carte" access to ment of Rep. Oxley)] that it was "about time for Congress to network elements in accordance with the requirements of 20011 Regulatory Opportunism in Telecommunications lower prices and new options, rather than by rate adjustments in the legal and regulatory reselling the services of incumbent local exchange arena, particularly when ventures now can pro- carriers ("ILECs").13 vide functionally equivalent services yet face dif- Congress underestimated the ability of stake- ferent regulatory treatment. Legislative changes 4 holders to thwart progress through litigation' to the status quo occur most infrequently,' 8 while 9 and to exploit ambiguous language in the '96 Act "regulatory lag"' becomes a more common oc- to maintain or create an unlevel competitive play- currence, as a significant period of time may run ing field.'5 Stakeholders have spent more time vy- before regulations reflect changed technological ing in the courts than competing in the market- and marketplace circumstances.20 During such place.16 Likewise, stakeholders have devised periods of delayed adjustment the regulatory pro- clever ways to exploit '96 Act provisions in ways cess may favor one competitor over others, partic- not contemplated by Congress, such as routing In- ularly when marketplace conditions trigger new ternet traffic through a CLEC, which is affiliated competitive opportunities and technological con- with an ISP, to trigger '96 Act mandated compen- vergence eliminates barriers to market entry or sation, even though the CLEC has little or no off- market segmentation. 2' Comparatively lighter reg- 7 setting traffic for ILEC routing.' ulation of market entrants may properly incubate Technological innovations and market conver- and promote incipient competition. But without gence in telecommunications require commensu- recalibration, a regulatory dichotomy may distort

§§ 251 (c) (3) and 252 (d) (1); 3) nondiscriminatory access to Act: Agency Litigation Strategies and Delay, 53 FED. COMM. L.J. the poles, ducts, conduits, and rights-of-way owned or con- 27, 27-29 (2000). trolled by the Bell operating company at just and reasonable 15 See Kathleen Wallman, A Birthday Party: The Terrible or rates in accordance with the requirements of § 224; 4) local Terrific Two's? 1996 Federal Telecommunications Act, 51 FED. loop transmission from the central office to a customer's COMM. L.J. 229, 229-31 (1998). premises, unbundled from local switching or other services; 16 Jube Shiver, Jr., Los Angles Times Interview; William Ken- 5) local transport from the trunk side of a wireline local ex- nard: On Regulating the Marketplace of the Telecommunications change carrier's switch unbundled from switching or other Boom, L.A. TIMEs, Jan. 18, 1998, at M3.("['T]oo many of the services; 6) local switching unbundled from transport, local stakeholders in this debate would rather litigate than com- loop transmission, or other services; 7) nondiscriminatory ac- pete.'"). cess to 911 emergency services, directory assistance services 17 See infra note 65 and accompanying text. to allow the other carriers' customers to obtain telephone 18 Roberts, supra note 10, at 146 ("Congress repeatedly numbers and operator call completion services; 8) white ignored or rebuffed calls by the FCC and critics to amend pages directory listings for customers of other carriers' tele- and update the 1934 Act to provide guidance on emerging phone exchange services; 9) nondiscriminatory access to tele- issues and technologies."). phone numbers for assignment to the other carriers' tele- 19 Regulatory lag has been defined as "the general delay phone exchange service customers; nondiscriminatory access in the responses of regulators to changes in cost or market to databases and associated signaling necessary for call rout- conditions." Robert W. Crandall & J. Gregory Sidak, Competi- ing and completion; 10) nondiscriminatory access to data- tion and Regulatory Policiesfor Interactive Broadband Networks, 68 bases and associated signaling necessary for call routing and S. CAL. L. REv. 1203, 1221 (1995). completion; 11) number portability, which is, the ability of a 20 James Alleman et al., UniversalService: The Poverty of Pol- former BOC customer to retain use of a preexisting tele- icy, 71 U. COLO. L. Rv. 849, 850 (2000) ("For the transition phone number after having subscribed to telephone service to competition to succeed, asymmetric measures to control from another carrier; 12) nondiscriminatory access to such market power should be phased out as the incumbent's mar- services or information as are necessary to allow requesting ket power diminishes."). carriers to implement local dialing parity in accordance with 21 For example, when separate companies installed sepa- the requirements of § 251 (b) (3), which is the same number rate wires to provide mutually exclusive telephone and video of digits dialed for either BOC or alternative service; 13) re- services, different legal and regulatory classifications applied ciprocal compensation arrangements in accordance with the to telephone and services, with the former requirements of § 252(d) (2), which is compensation from a treated as common carriage and the latter as non-common BOC to a CLEC when it completes a call and vice versa; and carriage. 14) telecommunications services are available for resale in ac- [C] able systems have two relevant special characteristics. cordance with the requirements of §§ 251(c)(4) and They are unusually involved with government, for they 252(d) (3). 47 U.S.C. § 271 (c) (2) (B). depend upon government permission and government 13 Alexandra M. Wilson, HarmonizingRegulation by Promot- facilities (streets, rights-of-way) to string the cable neces- ing Facilities-BasedCompetition, 8 GEO. MASON L. Rxv. 729, 730 sary for their services. And in respect to leased channels, (2000) ("Because the 1996 Act alone will not solve the regu- their speech interests are relatively weak because they latory convergence problem, the dilemma policymakers face act less like editors, such as newspapers or television is how to change the current system to alleviate the detrimen- broadcasters, than like common carriers, such as tele- tal effects of asymmetrical regulation, and how to avoid the phone companies. reflexive application of shopworn regulatory antecedents."). Denver Area Educ. Telecomm. Consortium, Inc. v. FCC, 518 14 Rebecca Beynon, The FCCs Implementation of the 1996 U.S. 727, 739 (1996). COMMLAW CONSPECTUS [Vol. 10 markets and handicap incumbents who deserve carriage status for all types of commercial service similar deregulation or streamlined government providers. 24 However, Congress also authorized " oversight. 2 the FCC to eliminate aspects of traditional com- The authors of the '96 Act thought they had mon carrier responsibilities, if the public interest performed such a rebalancing of the telecommu- supported it.25 The new legislative mandate to nications regulatory regime so that more robust undo common carrier responsibilities, like filing competition might ensue without unduly favoring and complying with tariffs, 26 combine with previ- entrants with preferential treatment or allowing ous FCC efforts selectively to streamline regula- incumbents to exploit market power and engage tions if not deregulate entirely.27 Collectively, in anticompetitive practices. To the apparent dis- these apparently pro-competitive initiatives ex- may of Congress, and infor- panded the dichotomy between the nature and mation service providers have proven to be quite scope of regulation applied to dominant, incum- adept at exploiting opportunities to capture bent carriers vfs-a-vfs market entrants and other greater profits and market share by tilting the carriers that may qualify for streamlined regula- competitive playing field to their advantage. tion. These initiatives blur the distinction between While designed to achieve market access parity, traditionally regulated common carriers and their 28 the '96 Act, like so many laws and regulations unregulated private carrier counterparts. before it, has become a vehicle for clever interpre- Some telecommunications ventures have 23 tation, exploitation and litigation. avoided costly regulatory burdens simply on For example, Congress thought that it could grounds that they lack market power, 29 or be- ensure market access parity through a "one-size- cause they have semantically crafted services so fits-all" regulatory classification, such as common that they qualify for little or no regulatory over-

22 Some critics of FCC policies requiring ILECs to share (holding that mandatory detariffing for interexchange carri- local distribution facilities allege: ers was reasonable). [such] unbundling would be a classic case of asymmetric 27 In re Policy and Rules Concerning Rates for Competi- regulation: the CLEC would pursue the more profitable, tive Common Carrier Services and Facilities Authorization unregulated service, while the ILEC would be left pro- Therefor, Notice of Inquiry and Proposed Rulemaking, 77 viding basic local service (in many cases, below cost). In- F.C.C.2d 308, 309-10, paras. 2, 8, 10 (1979); In re Rates for novation would be eroded by regulations that arbitrarily Competitive Common Carrier Services, First Report and Order, favored CLECs, without regard to the adverse effect of 85 F.C.C.2d 1, 2, 4, paras. 2, 4, 6 (1980), Further Notice of such asymmetric regulation on the welfare of consum- Proposed Rulemaking, 84 F.C.C.2d 445 (1981), Second Report ers. and Order, 91 F.C.C.2d 59 (1982), reconsideration denied, 93 Thomas M. Jorde et al., Innovation, Investment, and Un- F.C.C.2d 54 (1983), Second Further Notice of Proposed Rulemak- bundling, 17 YALE J. ON REC.. 1, 32-33 (2000). ing, 47 Fed. Reg. 17,308 (Apr. 22, 1982), Third Report and Or- 23 See Stanley M. Gorinson, Deregulation in Telecommunica- der, 48 Fed. Reg. 46,791 (Oct. 14, 1983), Fourth Report and tions: Competition or Confusion? 47 FED. LAw. 24, 26-27 (2000). Order, 95 F.C.C.2d 554 (1983), Fourth FurtherNotice of Proposed 24 47 U.S.C. § 153(44) (Supp. IV 1998) (deeming every Rulemaking, 49 Fed. Reg. 11,856 (Mar. 28, 1984), Fifth Report telecommunications carrier a "common carrier under this and Order, 98 F.C.C.2d 1191 (1984), Sixth Report and Order, 99 Act only to the extent that it is engaged in providing telecom- F.C.C.2d 1020 (1985), rev'd and remanded sub nom. MCI munications services"). Telecomm. Corp. v. FCC, 765 F.2d 1186 (D.C. Cir. 1985); In re 25 The FCC may forbear from applying any regulation or Competition in the Interstate Interexchange Marketplace, any provision of the Communications Act if (1) "enforce- Report and Order, 6 FCC Rcd. 5880, 5881, para. 2 (1991), on ment of such regulation or provision is not necessary to en- reconsideration, 7 FCC Rcd. 2677 (1992), on further reconsidera- sure that the charges, practices, classifications, or regula- tion, 8 FCC Rcd. 2659 (1993), Second Report and Order, 8 FCC tions . . . are just and reasonable and are not unjustly or Rcd. 3668 (1993), on further reconsideration, 10 FCC Rcd. 4562 unreasonably discriminatory," (2) enforcement is not neces- (1995) (reducing scope of AT&T's dominant carrier status sary to protect consumers and (3) forbearance is consistent and allowing provision of service based on customized tariffs with the public interest. 47 U.S.C. § 160(a)(1)-(3) (Supp. V preceded by a contract for carriage), further reconsiderationde- 1999). nied, 10 FCC Rcd. 4421 (1995). 26 In MCI Telecomm. Corp. v. FCC, 765 F.2d 1186, 1195-96 28 See Eli M. Noam, Will Universal Service and Common Car- (D.C. Cir. 1985), the Circuit Court of Appeals for the District riage Survive the Telecommunications Act of 1996?, 97 COLUM. L. of Columbia struck down "mandatory detariffing" as inconsis- REV. 955, 956, 967 (1997). tent with the Communications Act of 1934; see also AT&T Co. 29 The MIT Dictionary of Modern Economics defines v. FCC, 978 F.2d 727, 735-36 (D.C. Cir. 1992), affd sub nom. market power as the "ability of a single, or group of buyer(s) MCI Telecomm. Corp. v. AT&T Co., 512 U.S. 218 (1994) or seller(s) to influence the price of the product or service in (noting the FCC could not suspend (permissively or which it is trading. A perfectly competitive market in equilib- mandatorily) the tariff filing obligations for interexchange rium ensures the complete absence of market power." THE carriers, whether they had market power or not); MCI MIT DICIONARY OF MODERN ECONOMIcs 268 (David W. WorldCom, Inc. v.FCC, 209 F.3d 760, 766 (D.C. Cir. 2000) Pearce ed., MIT Press 1995). 20011 Regulatory Opportunism in Telecommunications sight. On the other hand, some incumbents have tory opportunism defeat the possibility of estab- continued to incur such burdens despite changed lishing a dual track regulatory regime. Addition- circumstances and the '96 Act requirement that ally, the article scrutinizes marketplace anomalies all service providers, regardless of regulatory clas- created by international accounting rate arbitrage sification, should bear on a "competitively neu- and Internet telephony. The availability of these tral" basis the obligation of making financial con- services results, in part, from a regulatory dichot- tributions to support universal access to basic omy that triggers a diversion or inflow of funds telecommunications. 30 For example, ISPs and based on an operator's regulatory classification other ventures providing enhancements to leased and its adeptness at exploiting arbitrage opportu- lines do not pay access nities. The article concludes with suggestions on charges or contribute to universal service funding how legislators and regulators might curb regula- even when other carriers would trigger such pay- tory opportunism by abandoning the strategy of 1 ments.3 classifying carriers based on static technological Both newcomers and subsidiaries of incum- or market share assumptions. bents may secure regulatory exemptions on se- mantic grounds by characterizing and offering II. REGULATORY ARBITRAGE services in a way that qualifies for diminished reg- ulation. Incumbents may exploit regulatory iner- Regulation invites clever and strategic thinking tia that maintains regulatory safeguards and barri- about ways to exploit loopholes to secure a com- ers to market entry based on persisting concepts petitive or financial windfall. Evading a regulatory of "natural monopoly" and a strained view that burden can translate into cost savings and greater only one enterprise can achieve public policy nimbleness in a competitive environment. Some- objectives such as effectively executing a universal times avoiding a regulatory requirement means service mission. Alternatively, incumbent carriers that the stakeholder can save money or even qual- may create separate subsidiaries to qualify for un- ify for an unexpected flow of revenues. The arbi- regulated or lightly regulated non-dominant, mar- trage aspect of this brinkmanship involves the 3 2 ket entrant status. strategic targeting and qualifying to receive lax or Regulatory arbitrage refers to the ability of favorable regulatory treatment while, at the same stakeholders to exploit differences in legislative time, retaining the ability to offer functionally and regulatory classifications with an eye toward equivalent services that compete with offerings of securing more favorable or less burdensome regu- other stakeholders subject to more burdensome, latory treatment that typically will accrue financial costly and unfavorable regulatory treatment. and competitive advantages."' This article will ex- The FCC does not wish to tilt the competitive amine a number of semantically driven regulatory playing field in favor of one class of player vis-a-vfs dichotomies (common carrier versus private car- others, yet many of its regulatory decisions have rier, basic versus enhanced services and ILEC ver- that result. Often the Commission may purport sus CLEC) with an eye toward determining not to favor any class of operator, but the nature whether technological convergence and regula- of the burdens placed on incumbents or the re-

30 47 U.S.C. § 254(d) (Stipp. IV 1998) ("Every telecom- 32 As part of its initial deregulatory thrust in the 1980s, munications carrier that provides interstate telecommunica- the FCC developed a regulatory dichotomy between domi- tions services shall contribute, on an equitable and nondis- nant carriers to be subject to conventional but possibly criminatory basis, to the specific, predictable, and sufficient streamlined regulation, and nondominant carriers to be sub- mechanisms established by the Commission to preserve and ject to regulatory forbearance based on the view that carriers advance universal service."); 47 U.S.C. § 254(h) (2) (A) (re- lacking market power should not be burdened with regula- quiring the FCC to "establish competitively neutral rules- tions designed to curb the potential for dominant carriers to (A) to enhance, to the extent technically feasible and eco- engage in anticompetitive practices. See Scott M. Schoenwald, nomically reasonable, access to advanced telecommunica- Regulating Competition in the Interexchange Telecommunications tions and information services for all public and nonprofit Market: The Dominant/Nondominant Carrier Approach and the elementary and secondary school classrooms, health care Evolution of Forbearance, 49 FED. COMM. L.J. 367, 375-76 providers, and libraries"); Texas Office of Public Utility (1997). Counsel v. FCC, 183 F.3d 393 (5th Cir. 1999), cert. dismissed 33 A. Michael Froomkin, The Internet as a Source of Regula- sub nom. GTE Service Corp. v. FCC, 531 U.S. 975 (2000). tory Arbitrage, in BORDERS IN CYBERSPACE: INFORMATrION POLICY 31 Frieden, Regulatory Models Diverge, supra note 6, at AND THiF GLOBAL INFORMATION INFRASTRUCTrURE 129 (Brian 412-13. Kahin & Charles Nesson eds., 1997). COMMLAW CONSPECTUS [Vol. 10 fusal to unburden them relative to market en- * which regulatory agency has jurisdiction 35 trants invariably favors the latter group. over cost allocation and tariffing; Over the years a number of such regulatory * whether the service is domestic or interna- 6 anomalies and asymmetries have occurred. For tional;3 example, the price, but not necessarily the cost, of * whether another carrier or end-user seeks 37 a minute of telecommunication use has depended facilities interconnection; on such factors as: * the type of carrier3 or enterprise39 provid- 34 * the perceived value of the service; ing service; 40 and

34 Both the FCC and state regulatory commissions have 38 During a time when interexchange carrier competi- allowed carriers to price some services on the perceived value tors of AT&T received inferior access to the public switched consumers accrue. For example, some local exchange tele- telephone network, the Commission authorized discounted phone service rates have increased when the number of ac- access charges. However, the Commission never stated that cessible subscribers reaches a benchmark. the discounts were cost-based as opposed to a rough justice In most states, the Bell Operating Companies and larger solution designed to reflect both inferior access and the independents charge higher rates in metropolitan areas Commission's desire that carriers like MCI acquire market than in rural areas-a pricing practice that dates back to share. See generally In re Exchange Network Facilities for Inter- the turn of the century and is traditionally justified in state Access ("ENFIA"), Report and Order, 71 F.C.C.2d 440, the belief that the value of the service provided is higher (1979), on reconsideration, 93 F.C.C.2d 739 (1983), affd in part for subscribers with larger local calling areas. Press Re- and remanded in part sub nona. MCI Telecomm. Corp. v. FCC, lease, Federal Communications Commission, FCC Re- 712 F.2d 517 (D.C. Cir. 1983). Currently, the FCC is consid- leases Semiannual Study on Telephone Trends (Aug. 7, ering whether mobile service providers like cellular 1991), available at 1991 FCC LEXIS 4305 at *10. radio operators should have to compensate wireline local ex- 35 Typically an intrastate long distance minute of use sig- change carriers for terminating calls while such wireline car- nificantly exceeds the price of an interstate long distance riers do not have to compensate the wireless operators for minute of use. Ironically, an intrastate state call originated similar call terminations. See In re Interconnection Between via a cellular telephone may be significantly cheaper than the Local Exchange Carriers and Commercial Mobile Radio Ser- corresponding rate for a call originated over wireline facili- vice Providers, Notice of Proposed Rulemaking, 11 FCC Rcd. ties. The rate differential results, in part, from rate-making 5020, 5039, para. 39 (1996) (proposing reciprocal termina- policies, which historically have included cross-subsidies to tion between wireline and wireless carriers, including the local exchange service, as opposed to actual cost of service possibility of an interim zero termination charge between differences. Additionally, many cellular service packages of- carriers); In re Implementation of the Local Competition fer minutes of use without regard to whether they are local or Provisions in the Telecommunications Act of 1996, Intercon- long distance. See California v. FCC, 4 F.3d 1505, 1507 (9th nection between Local Exchange Carriers and Commercial Cir. 1993). ("We recognize the states' concern that, because Mobile Radio Service Providers, First Report and Order, II FCC the states' rates for intrastate services offset other costs, state Rcd. 15,499 (1996), aff'd in part and vacated in part sub nom. rates will be higher than federal tariffs, and customers may Competitive Telecomm. Ass'n v. FCC, 117 F.3d 1068 (8th Cir. attempt to use the federal tariff for intrastate as well as inter- 1997), aff d in part and vacated in part sub nom. Iowa Utils. Bd. state communications."). v. FCC, 120 F.3d 753 (8th Cir. 1997), affd in part, rev'd in part, 36 International message telephone service substantially and remanded sub nom. AT&T Corp. v. Iowa Utils. Bd., 525 U.S. exceeds domestic rates on a per-minute and mileage-band 366 (1999), Order on Reconsideration, 11 FCC Rcd. 13,042 basis, primarily because international carriers have negoti- (1996), Second Order on Reconsideration, 11 FCC Rcd. 19,738 ated toll revenue division agreements that have failed to drop (1996), Third Order on Reconsideration and Further Notice of Pro- commensurately with cost reductions. See Rob Frieden, Inter- posed Rulemaking, 12 FCC Rcd. 12,460 (1997), appeals docketed, national Toll Revenue Division: Tackling the Inequities and Ineffi- Second FurtherNotice of Proposed Rulemaking, 14 FCC Rcd. 8694 ciencies, 17 TELECOMM. POL'V 221, 221-33 (1993) [hereinafter (1999). Freiden, International Toll Revenue]; Robert Frieden, Account- 39 "Captive" long distance callers from hotel rooms and ing Rates, The Business of International Telecommunications and callers not familiar with "dial around" options for avoiding the Incentive to Cheat, 43 FED. COMM. L.J. 111, 111-39 (1991) price gouging for pay phone service recognize the vast price [hereinafter Frieden, The Incentive to Cheat]. differences for long distance telephone service. 37 The Telecommunications Act of 1996 and pre-existing 41 Certain types of services have qualified for exemption FCC regulations differentiate the terms and conditions for from regulatory burdens that impose extra costs. For exam- interconnection between carriers as opposed to customer- ple, enhanced services qualify for non-common carrier status carrier interconnection. The Telecommunications Act or- and its users are exempt from having to pay an access charge ders favorable and potentially zero-cost interconnection be- payment otherwise applicable to basic service subscribers. A tween certain types of carriers. For example, § 251 requires 1987 FCC initiative to eliminate the exemption generated all local exchange carriers "to establish reciprocal compensa- substantial opposition by users who claimed the Commission tion arrangements for the transport and termination of tele- had proposed to impose a "modem tax." communications." 47 U.S.C. § 251(b)(5) (Supp. IV 1998). In 1983 we adopted a comprehensive 'access charge' End-users and interexchange ("long distance") carriers must plan for the recovery by local exchange carriers (LECs) pay higher "access charges." In re Developing a Unified Inter- of the costs associated with the origination and termina- carrier Compensation Regime, Notice of Proposed Rulemaking, tion of interstate calls. At that time, we concluded that CC Dkt. No. 01-92, FCC 01-132, paras. 5-10 (rel. Apr. 27, the immediate application of this plan to certain provid- 2001). ers of interstate services might unduly burden their op- 20011 Regulatory Opportunism in Telecommunications

0 the type of line or facility providing service 4 1 leaves a nation. Intrastate traffic in the United and whether the service can access the pub- States and elsewhere typically triggers higher re- 42 lic switched telephone network ("PSTN"). tail rates than interstate traffic, even for routes of equal distance.4 3 Similarly, international traffic may cost several times as much as domestic rates III. JURISDICTIONAL BRINKMANSHIP 44 of equal mileage. A perennial candidate for regulatory arbitrage Given a significant gap between services, as a lies in securing favorable jurisdictional treatment. function of jurisdictional classification, arbitrage On a cost causation basis, traversing a state or in- opportunities abound. Entrepreneurs have en- ternational boundary should not make much dif- gaged in creative traffic routing to shoehorn ser- ference. But how regulators and carriers allocate vices into a preferred jurisdiction. Traffic that costs and which services they attribute cost causa- originates and terminates within a single state nev- tion can result in substantially different cost levels ertheless may traverse an adjacent state simply to depending on whether telecommunications traf- avoid intrastate ratemaking and the jurisdiction of fic stays within a state, crosses state borders or that state's public utility commission. 45 Until Ca-

erations and cause disruptions in provision of service to services. Undetected private line leakage has become com- the public. Therefore, we granted temporary exemp- monplace making it possible for resellers to provide a service tions from payment of access charges to certain classes functionally equivalent to international message telephone of exchange access users, including enhanced service service at a fraction of the cost. See Rob Frieden, The Impact of providers. Boomerang Boxes and Callback Services on the Accounting Rate Re- In re Amendments of Part 69 of the Commission's Rules Re- gime, in PROCEEDINGS OF THE PACIFIC TELECOMMUNICATIONS lating to Enhanced Service Providers, Notice of Proposed COUNCIL EIGHTEENTH ANNUAL CONFERENCE 781-90 (D. Rulemaking, 2 FCC Rcd. 4305, para. 1 (1987) (citing In re Wedemeyer & R. Nickelson, eds., 1996). MTS and WATS Market Structure, Memorandum Opinion and 43 For example, AT&T's One Rate 7¢ Plan and MCI Order, 97 F.C.C.2d 682 (1983)), terminated by Order, 3 FCC WorldCom's 70 Plan charge 7¢ per minute on state-to-state Rcd. 2631 (1988) (abandoning proposal on grounds that de- calls but charge from 7¢ to 14¢ on in-state calls depending spite the apparent discrimination in charges "the current on the state. See AT&T, at http://www.att.com (last visited state of change and uncertainty" besetting the enhanced ser- Apr. 1, 2001); MCI WorldCom, at http://mci.worldcom.com vices industry justified ongoing exemption from access (last visited Apr. 1, 2001). charge payments) (proposing to imposed access charges on 44 The FCC analyzed international long distance tele- enhanced service lines). Currently the FCC requires users of phone pricing information in its report, COMMON CARRIER ISDN services to pay only one Subscriber Line Charge, an BUREAU, FEDERAL COMMUNICATIONS COMMISSION, TRENDS IN access payment, despite the fact that ISDN circuits can derive TELEPHONE SERVICE, at http://www.fcc.gov/Bureaus/ more than one voice-grade equivalent channel. CommonCarrier/Reports/FCC-StateLink/IAD/trend200. 41 The FCC's access charge regime established a differ- pdf (Dec. 21, 2000). ent pricing structure for switched and special access. The for- 45 The FCC and reviewing courts have rejected a "con- mer includes regular dial up services and requires end-users tamination theory" that if applied would subject a telecom- to pay a monthly flat-rated Subscriber Line Charge, currently munications service to intrastate jurisdiction if any portion of $3.50 for residential and small business users and $6.00 for the service was offered solely within one state: "The 'contami- other business users. The latter includes leased, private line nation theory' contemplates that a service or facility used users, who certify that the line does not "leak" into the PSTN only partially for intrastate communication is not subject to through the use, for example, of an on-premises switch, like a Commission jurisdiction." In re United States Dept. of Def. v. Private Branch Exchange, that could couple the private line Gen. Tel. Co. of the Northwest, 38 F.C.C.2d 803, 808, para. 8 with trunks that access the PSTN provided by local exchange n.17 (1973). But cf. In re Petition of the New York Telephone carriers ostensibly for local switched services. See In re MTS/ Company for a Declaratory Ruling with Respect to the Physi- WATS Market Structure (Phase I), Third Report and Order, 93 cally Intrastate Private Line and Special Access Channels Uti- F.C.C.2d 241, (1983), modified on reconsideration,97 F.C.C.2d lized for Sales Agents to Computer New York State Lottery 682, further modification an reconsideration,97 F.C.C.2d 834, par- Communications, Memorandum Opinion and Order, 5 FCC tially affd and partially remanded sub nom. NARUC v. FCC, 737 Rcd. 1080, 1080-81, paras. 1-2 (1990) (concluding that the F.2d 1095 (D.C. Cir. 1984), further modification, 99 F.C.C.2d addition of two physically interstate private lines to a lottery 708 (1984); 100 F.C.C.2d 1222, further reconsideration denied, network that is otherwise comprised of physically intrastate 102 F.C.C.2d 899 (1985); see also In re Investigation of Access lines does not require the local exchange carrier providing and Divestiture Related Tariffs, 101 F.C.C.2d 911 (1985), re- the service to classify all of the lottery's special access lines as consideration denied, In re Investigation of Access and Divesture interstate); see also In re Chesapeake & Potomac Tel. Co., Related Tariffs Petition for Reconsideration and Clarification Memorandum Opinion and Order on Reconsideration, 2 FCC Rcd. of Allocations Plan Orders, 102 F.C.C.2d 503 (1985); In re 3528, (1985), denied by Memorandum Opinion and Order on Re- Investigation of Access and Divestiture Related Tariffs, 101 consideration, 2 FCC Rcd. 3528 (1987); In re MTS and WATS F.C.C.2d 935 (1985); 47 C.F.R. § 69.104(d) (1), (e) (2000). Market Structure, Amendment of Part 36 of the Commis- 42 International private line services, which do not access sion's Rules and Establishment of ajoint Board, Decision and the PSTN, are exempt from the accounting rate regime. Order, 4 FCC Rcd. 5660, 5661, para. 8 (1989) (establishing Their per minute costs are significantly lower than switched definitive jurisdictional policy on lines having mixed intra- COMMLAW CONSPECTUS [Vol. 10 nadian long distance telephone rates dropped to when ventures seek preferred legal classifications. U.S. levels, carriers would transmit traffic via the While private carriers used to lack opportunities U.S. and back into Canada to qualify the traffic to target and serve third parties like their com- for lower Canada-U.S rates than the higher do- mon carrier counterparts, over time, the FCC per- mestic charges. Similarly, call-back operators mitted such marketing, thereby diminishing the would import dial tone from nations with low in- difference between private and common car- 46 48 ternational calling rates even for domestic calls. riage. Arbitrageurs find and exploit price margins The rights and responsibilities historically whether created by regulation (intrastate versus vested in common carriers tempered their market interstate rates) or different competitive condi- power in exchange for reduced liability or insula- tions (high international calling versus lower call- tion from commercial and personal damages 47 ing rates). caused by the content carried. 49 Historically, prov- iders of neutral and transparent conduits did not have to monitor the content carried, nor could 5 IV. SEMANTIC GAMES: PRIVATE VERSUS they typically refuse access5" to their bottleneck ' COMMON CARRIERS

Regulatory avoidance and arbitrage also occurs state and interstate use). the telephone network); In re Telerent Leasing Corp., Deci- 411 See Robert M. Frieden, The Impact of Call-Back and Arbi- sion, 45 F.C.C.2d 204 (1974), aff'd sub nom. North Carolina trage on the Accounting Rate Regime, 21 TELECOMM. POLY Util. Comm'n v. FCC, 537 F.2d 787 (4th Cir. 1976), cert. de- 819-27 (1997) [hereinafter Frieden, Impact of Call-Back]. nied, 429 U.S. 1027 (1976). See generally In re Proposals For 47 Market Entry And Regulation of Foreign-Affiliated En- New or Revised Classes Of Interstate and Foreign Message tities, Report and Order, 11 FCC Rcd. 3873, 3927, 3931, paras. Toll Telephone Service (MTS) and Wide Area Telephone 142, 152 (1995) ("The development of private line resale is a Service (WATS), 56 F.C.C.2d 593 (1975), Second Report and form of arbitrage that will create additional competition, Order, 58 F.C.C.2d 736 (1976), affd sub nom. North Carolina leading to lower accounting rates."). Util. Comm'n v. FCC, 552 F.2d 1036 (4th Cir. 1977) (pre- 48 See generally Rob M. Frieden, Schizophrenia Among Carri- empting the states on the matter of customer premises equip- ers: How Common Carriers and Private Carriers Trade Places, 3 ment interconnection with the telephone network). MicHi. TELECOMM. & TECH. L. REV. 19 (1997). 51 In re Policy and Rules Concerning Rates for Competi- 49 See, e.g., W. Union Tel. Co. v. Esteve Bros., 256 U.S. tive Common Carrier Services and Facilities Authorizations 566, 572 (1921) (holding exculpatory clauses in common Therefor, First Report and Order, 85 F.C.C.2d 1, 21-22, paras. carrier tariff limited liability to refunding cost of carriage de- 58-59 (1980). spite substantial financial damage resulting from non-deliv- A firm controlling bottleneck facilities has the ability to ery of a message transmitted only once). See generally Christy impede access of its competitors to those facilities. We Cornell Kunin, Unilateral Taiff Exculpation in the Era of Com- must be in a position to contend with this type of poten- petitive Telecommunications, 41 CATH. U. L. REV. 907 (1992) tial abuse. We treat control of bottleneck facilities as (examining exculpation of common carrier liability). prima facie evidence of market power requiring detailed 50 See, e.g., In re Tariff Offerings, Decision, 46 regulatory scrutiny. Control of bottleneck facilities is F.C.C.2d 413, 422, para. 15 (1974), affirmed sub nom. Bell Tel. present when a firm or group of firms has sufficient Co. of Pa. v. FCC, 503 F.2d 1250 (3d Cir. 1974); MCI command over some essential commodity or facility in Telecomms. Corp. v. FCC, 580 F.2d 590, 597 (D.C. Cir. 1978) its industry or trade to be able to impede new entrants. (mandating access to local exchange facilities); In re Estab- Thus bottleneck control describes the structural charac- lishment of Domestic Facilities, Re- teristic of a market that new entrants must either be al- port and Order, 22 F.C.C.2d 86, 97, paras. 27-28 (1970), policy lowed to share the bottleneck facility or fail. reaffirmed by Proposed Second Report and Order, 34 F.C.C.2d 9, Id. 64-65, paras. 134-35 (1972), adopted by Second Report and Or- See also United States v. Terminal R.R. Ass'n, 224 U.S. 383 der, 35 F.C.C.2d 844, (1972), on reconsideration, 38 F.C.C.2d (1912) (ordering railroads to provide competitors equivalent 665 (1972) (domestic satellite policy mandates nondiscrimi- access to bottleneck railway terminal facilities), appeal after re- natory, diverse, and flexible access to domestic satellites and mand, 236 U.S. 194 (1915); In reAn Inquiry Into the Use of earth station facilities); accord In re Specialized Common Car- the Bands 825-845 Mhz and 870-890 Mhz for Cellular Com- rier Services, First Report and Order, 29 F.C.C.2d 870, 940, pa- munications Systems; and Amendment of Parts 2 and 22 of ras. 157-58 (1971) (requiring AT&T to allow local exchange the Commission's Rules Relative to Cellular Communications facility access to competing inter-city carriers), reconsideration Systems, Report and Order, 86 F.C.C.2d 469, 495-96, paras. denied, 35 F.C.C.2d 1106 (1971), affirmed sub nom. Washington 54-55 (1981) (requiring telephone companies to furnish in- Util. and Transp. Comm'n v. FCC, 513 F.2d 1142 (9th Cir. terconnection to cellular systems upon terms no less 1975), cert. denied, 423 U.S. 836 (1975); In re Use of the favorable than those used by or offered to wireline carriers), Carterfone Device in Message Toll Tel. Serv., Decision, 13 modified, 89 F.C.C.2d 58 (1982), further modified, 90 F.C.C.2d F.C.C.2d 420 (1968), reconsideration denied, 14 F.C.C.2d 571 571 (1982); In re Need to Promote Competition and Efficient (1968) (invalidating local exchange carrier tariff restrictions Use of Spectrum for Radio Common Carrier Services, Declar- on interconnection of customer premises equipment with atory Ruling, 2 FCC Rcd. 2910 (1987), clarified, Order, 2 FCC 2001] Regulatory Opportunism in Telecommunications facilities on the basis of content.5 2 ISPs and mo- constitutes common carriage does not support ex- bile radio operators serving retail customers oper- tending the classification to ISPs or using it as a ate like common carriers, at least insofar as their vehicle to bolster public policy support for univer- carriage of voice telephony traffic and generated sal Internet service. by such third parties. In the former case, Internet- The dichotomy between common carriers and mediated telephony does not constitute common private carriers has grown murky, because of: carriage. However, in the latter case Congress * Legislative and regulatory tinkering with the 57 closed a semantic loophole by deeming all com- common carrier model; mercial mobile radio services, even if initially clas- * Technological innovations; sified as private carriage, to be common car- " A growing body of cases articulating robust 58 riage. 53 Subsequent streamlining of common speaker rights of common carriers; and carrier regulation applied equally and fairly to * Court cases imposing quasi-common carrier 59 both types of common carriers-incumbents and obligations on private carriers and quasi- 54 0 those classified as private carriers. publisher duties on common carriers.: The common carrier insulation from liability Extension of the common carrier model ap- would support the development of a ubiquitous pears difficult now that common carriers can ISP infrastructure and, in turn, promote universal avoid many of the traditional requirements and access to information services. 55 Historically, com- non-common carriers have acquired some of the mon carriage has applied exclusively to public insulation from liability previously available only utilities and other providers of essential services. to common carriers. The '96 Act requires the ap- Policy makers have not yet deemed Internet ac- plication of common carriage classification on cess so essential as to place it in the same category commercial providers of telecommunication ser- 6 1 as Plain Old Telephone Service ("POTS") as op- vices, but authorizes the FCC to abandon virtu- posed to other desirable, non-common carrier ally all regulatory requirements on any common 62 services like cable television.5 6 Additionally, re- carrier if circumstances favor such deregulation. cent developments in the interpretation of what On the other hand, the '96 Act provides ISPs with

Rcd. 4370 (1987), affd on reconsideration, Memorandum Opin- 55 See Frieden, Regulatory Models Diverge, supra note 6, at ion and Order on Reconsideration, 4 FCC Rcd. 2369 (1989); Lin- 404-05. coln Tel. & Tel. Co. v. FCC, 659 F.2d 1092, 1103-06 (D.C. 56 In FCC v. Midwest Video Corp., 440 U.S. 689, 709 (1979), Cir. 1981) (upholding Commission's order requiring Lin- the Supreme Court struck down FCC rules requiring cable coln Telephone to provide interconnection facilities to television operators to set aside channel capacity for public, MCI); MCI Telecomm. Corp. v. FCC, 580 F.2d 590 (D.C. Cir. educational and government use on grounds that cable tele- 1978); Bell Tel. Co. of Pa. v. FCC, 503 F.2d 1250 (3d Cir. vision does not constitute common carriage. 1974). 57 See Rob Frieden, Contamination of the Common Carrier 52 In Sable Communications, Inc. v. FCC, 492 U.S. 115, 126 Concept in Telecommunications, 19 TELECOMM. POL'Y 685 (1989), the Supreme Court upheld a federal statute prohibit- (1995). ing obscene telephone messages, but overturned the statute's 58 See, e.g., Cent. Hudson Gas & Elec. Corp. v. Pub. Serv. absolute denial of adult access via telecommunication com- Comm'n, 447 U.S. 557, 571-72 (1980) (striking a restriction mon carriers to indecent messages that are entitled to First on public utility advertising). Amendment protection. 59 See, e.g.,Turner Broad. Sys., Inc. v. FCC, 512 U.S. 622 53 See Omnibus Budget Reconciliation Act of 1993, Pub. (1994) (requiring cable television operators to carry broad- L. No. 103-66, 107 Stat. 312 (Aug. 10, 1993) amending the cast television signals). Communications Act of 1934 to revise, along with other sec- 60 See id. at 650 (imposing a duty to inquire and disclose tions, § 332 to authorize the FCC to establish regulatory par- whether content is obscene or indecent). ity among private and common carrier mobile telecommuni- 61 Section 153(44) defines telecommunications carrier "as common cation services. The revised § 332 of the Communications Act a carrier ... to the extent that it is engaged in defines "commercial mobile service" as "any mobile service providing telecommunications services." 47 U.S.C. § 153(44) (as defined in section 3(n)) that is provided for profit and (Supp. IV 1998). Section 332 also requires the FCC to treat as makes interconnected service available (A) to the public or common carriage the provision of commercial mobile ser- (B) to such classes of eligible users as to be effectively availa- vices. 47 U.S.C. § 332(c)(1)(A) (Supp. IV 1998). ble to a substantial portion of the public, as specified by regu- 62 Section 160(a) of the revised Communications Act or- lation by the Commission." 47 U.S.C. § 332(d) (1) (Supp. IV ders the FCC to "forbear from applying any regulation or any 1998); see also E. Ashton Johnston, Regulatory Treatment of Mo- provision of... [the Communications Act] to a telecommu- bile Services: The FCC Attempts to Create Regulatory Symmetry, 2 nications carrier or telecommunication service" if such regu- CoMMLAWAT CONSPECTUS 1, 1 (1994). lation is no longer necessary to ensure just, reasonable and 54 See generally In re Access Charge Reform, Fifth Report nondiscriminatory rates, to safeguard consumers and that and Order, 14 FCC Rcd. 14,221, (1999), affd sub nom. such forbearance would serve the public interest. 47 U.S.C. WorldCom, Inc. v. FCC, 238 F.3d 449 (D.C. Cir. 2001). § 160(a) (Supp. 1V 1998). COMMLAW CONSPECTUS [Vol. 10 a quasi-common carrier exemption from liability pect for an off-setting return flow. Internet traffic for the carriage of material, like obscenity and originated by an ILEC customer and handed off copyright violations, if the operator had no knowl- to an ISP's CLEC affiliate qualifies for compensa- edge that it carried the offending content.6 tion from the ILEC because the traffic is deemed local in nature. The FCC recently sought to close the jurisdictional loophole by recognizing that V. THE GAME CONTINUES the end-to-end nature of the Internet-access call Jurisdictional brinkmanship continues despite typically delivers the call to an interstate and even the reforms engineered by the '96 Act. ISPs have global network; however, the Commission re- created CLEC affiliates with the sole purpose of frained from upsetting in-place interconnection qualifying for a compensation stream based on arrangements and from preempting state public the jurisdictional view that the link from Internet utility commission jurisdiction over such arrange- subscriber to the ILEC and then onward to the ments. Therefore, Internet access calls trigger the ISP's CLEC affiliate and finally to the ISP is a local reciprocal compensation requirement even 64 and not an interstate call. though an examination of the origination and ter- The '96 Act requires reciprocal compensation mination "end points" of typical Internet calls between ILECs and CLECs based on the view that proves the interstate nature of most calls. Ironi- such a compulsory compensation scheme would cally, in previous instances, the FCC considered encourage market entry and competition in the the presence of even a small portion of interstate local exchange services.6 5 Reciprocal compensa- calls as "contaminating" an otherwise intrastate tion presumably would favor incumbents who line and subjecting that line to federal and not 68 would receive more traffic generated by a CLEC. state jurisdiction. ILECs sought this transfer payment system in lieu of a rough justice "sender keep all," "bill and 66 VI. INTERNATIONAL ACCOUNTING RATE keep" model, because of the expected asymme- ARBITRAGE try in traffic flows, in which small market entrants with few customers typically would hand off more Because international accounting rates69 re- traffic for termination by the incumbent to one of main at artificially high levels for many routes, its subscribers than would the incumbent hand off carriers and their customers strategize on how to traffic for termination by a CLEC to one of its cus- route traffic exempt from the settlement process. tomers.67 The vehicles for avoiding high accounting rates ISPs and their CLEC affiliates outsmarted the include the use of call-back services, which pro- ILECs by engineering a local exchange routing vide dialtone to end-users physically situated in system that guaranteed the CLEC significant traf- another country, and linking international private fic originating on ILEC facilities and requiring a lines with a switch that secures access to the transfer to CLEC facilities, but without the pros- PSTN. These options may violate ITU recommen-

63 Historically, common carriers have operated as neu- These terms also refer to a business relationship: "Each car- tral and transparent conduits, neither knowledgeable of the rier sets consumer collection rates and keeps 100%. This al- content they carry, nor legally responsible for what they lows new entrants, but it does not encourage operators to re- carry. The Telecommunications Act of 1996 also provides le- ceive calls because no compensation is given to allow gal protection for the "[G]ood [S]amaritan" blocking and incoming calls over their system." Taunya L. McLarty, Liberal- screening of offensive material defined as "any action volun- ized Telecommunications Trade in the WTO: Implicationsfor Uni- tarily taken in good faith to restrict access to or availability of versal Service Policy, 51 FED. COMM. L.J. 1, 41 n.203 (1998). material that the provider or user considers to be obscene, "7 Id. at 40-41 nn.201-03. lewd, lascivious, filthy, excessively violent, harassing, or other- 68 Id. at 4. wise objectionable, whether or not such material is constitu- 69 For background on how international telecommunica- tionally protected." 47 U.S.C. § 230(c) (Supp. IV 1998). tions carriers divide toll revenues using the accounting rate 64 See Richard E. Wiley, Communications Law and the Three regime, see generally Robert M. Frieden, Falling Through the C's-Competition, Convergence and Consolidation-Continue,630 Cracks: International Accounting Rate Reform at the ITU and PLI/PATr 9, 77 (2000). WI'O, 22 TELECOMM. PoL' 963 (1998) [hereinafter Frieden, 65 Id. Falling Through the Cracks]; Frieden, Impact of Call-Back, supra 66 "Sender Keep All" and "Bill and Keep" arrangements note 46; Frieden, International Toll Revenue, supra note 37; refer to the absence of a monetary transfer when carriers Paul W. Kenefick, A Step in the Right Direction: The FCC Provides agree to route the traffic of another carrier to yet another Regulatory Relief in InternationalSettlements and InternationalSer- carrier (also known as transiting), or to the final recipient. vices Licensing, 8 CoMMLAw CONSPECTUS 43, 54 (2000). 20011 Regulatory Opportunism in Telecommunications dations70 and carrier tariffs because they enable line network means that users, who otherwise end-users to secure services in a manner that the would have to use dial up international telephone carrier did not intend on providing. While such circuits, can opt for specially configured private bypass may expedite reforms, it flouts uniform line access for functionally equivalent service. rules of the road. For example, the ITU Recom- Resellers can expand the reach of leaky private mendations on leased international private lines lines with higher capacity switches. Some carriers contemplate the consultation and agreement on and their regulatory overseers do not object to the scope of service. 71 Private lines, by definition, this type of "pure resale" that does not enhance provide closed, intra-corporate networking capa- leased lines. 76 Resale stimulates overall capacity bilities, which are not functionally equivalent to demand, and it can reduce outbound interna- switched public, long distance services. tional message telephone service ("IMTS") ac- What is occurring in international telecommu- counting rate liability, particularly where regula- 77 nications parallels the grey market in interna- tory policies block or limit inbound resale. tional commercial aviation where carriers look Some carriers, intent on capturing larger market the other way, or clandestinely collaborate with shares by aggregating and routing regional traffic ticket resellers, consolidators and brokers who of- through a "hub," may engineer a complex array 72 fer seats at rates well below the published tariff. of private lines and acquire both half-circuits on 78 In international telecommunications, sophisti- routes to handle accounting rate exempt traffic. cated users and system integrators design private Transiting, the routing of traffic destined for an- line networks that avoid accounting rates liabil- other country across domestic facilities, presents 3 ity.7 Carriers originally offered unmetered pri- another opportunity for carriers and new interna- vate lines as a way to fill up excess capacity and tional telephone entrepreneurs alike to engineer 79 satisfy large-volume user requirements for closed, innovative new arrangements for users. internal networks.7 4 Private branch exchanges Since the early 1990s, the FCC has taken a more and other customer-controlled equipment have proactive role in accounting rate oversight, look- enabled users to interconnect unmetered interna- ing to encourage carrier and end-user "self help", tional private lines with local public switched tele- by creating routing strategies that collectively phone networks.75 Such "leakiness" enables the make high accounting rates unsustainable.8 0 The private line subscriber to access users outside the FCC also adopted a "get tough" policy with inter- internal network. Expanded access to a private national carriers, including prescribed accounting

70 Recommendation D.1, Sec. 7.1.1 of the ITU's Interna- justify how the new rate does not discriminate against users tional Telegraph and Telephone Consultative Committee paying higher charges for existing offerings subject to ac- Blue Book, Vol. 11, Fascicle 11.1, General Tariff Principles, counting rates. Charging and Accounting in International Telecommunica- 73 Veronica M. Ahern et al., Developments in the Interna- tions Services (1991). The Recommendation suggested that tional Marketplace, 427 PLI/PAT 273, 283 (1995). administrations can condition, consult and agree to the 74 See id. at 325. scope of access to public networks provided to users of inter- 75 Id. at 287. national private leased circuits. To the extent that a private 76 Frieden, The line reseller or end user does not engage in such consulta- Incentive to Cheat, supra note 36, at 122. tion and erects a system for accounting rate evasion, then the 77 Id. at 135. host country may deny access to the PSTN. However, in many 78 Id. at 112. instances accounting rate avoidance schemes may go unde- 79 Even companies with limited budgets can get into the tected by the carrier providing interconnection. international telecommunications business and exploit high 71 See International Telecommunication Union, Tele- accounting rate and end user charge differentials. A "boome- communications Standardization Sector, General principles rang box" enables callers, in high cost foreign locations, to for the lease of international (continental and intercontinen- place a call to the United States, hang up and soon receive a tal) private telecommunication circuits and networks, D Se- call from the United States with the intended call recipient ries: General tariff principles (1991). on the line. At the micro-level, the foreign caller avoids hav- 72 International carriers do provide discounted rates to ing to pay the significantly higher charge for originating an high volume users. For example, international carries would international call, the foreign carrier loses some toll revenues offer a discount as an incentive to migrate from unmetered and the USISC handling the international call accrues some private lines to metered "virtual" (software defined) private additional toll revenues. At the macro-level, the transaction lines tsing the public switched network. The carriers avoid contributes to the expanding United States accounting rate application of artificially high accounting rates by creating a deficit thereby blunting the foreign carrier's revenue losses new service category and applying a different and lower ac- and the USISC's revenue gains. counting rate. Foreign carriers typically have no obligation to 8o See Frieden, The Incentive to Cheat, supra note 36, at 113. COMMLAW CONSPECTUS [Vol. 10 rates,"' because it had grown impatient with the owned carriers as for domestic carriers). 85 The pace of reform in private accounting rate negotia- FCC subsequently decided to calibrate the scope tions. While the FCC can properly condition of regulatory oversight of foreign carriers to the grants of regulatory authorizations and prescribe degree of market access afforded U.S. carriers, rates for the carriers it regulates, attempts to af- particularly the extent to which U.S. service prov- fect the behavior and the financial performance iders may use leased international private lines to of other carriers has generated vocal opposition, access the PSTN in foreign locales. 86 This mecha- at home and abroad, that the Commission failed nism provides strong leverage for achieving mar- to appreciate international comity and national ket access parity by linking the scope of inbound sovereignty.8 2 Nevertheless, a federal court has af- U.S. market access with reciprocal opportunities 87 firmed the FCC's accounting rate presumptions for outbound traffic. and policies." - Reliance on proliferating private line resale re- Similarly, a FCC proposal to impose reporting directed the FCC from confrontation with foreign requirements and other means for overseeing the carriers over their sovereign right to negotiate ac- extent of participation in the U.S. telecommuni- counting rates to "procedural reforms that re- cations market by foreign-owned firms84 gener- move any U.S. regulatory impediments to lower, ated arguments that it would violate the commit- more economically efficient, cost-based account- ment to "national treatment" of foreign ing rates . ,s"88The Commission assumed that if enterprises (applying identical regulatory rights, resale were available on an equivalent basis, in- responsibilities and opportunities for foreign- bound and outbound, then the incumbent facili-

81 The Commission proposed to "establish ... determine The National Treatment principle means that imported and prescribe just and reasonable accounting rates" if and locally produced goods should be treated equally. USISCs and their foreign counterparts failed to negotiate The same should apply to foreign and domestic services, rates downward to an FCC-determined benchmark range. In as well as to foreign and local trademarks, copyrights re Regulation of Accounting Rates, Notice of Proposed Rulemak- and patents. This principle of giving others the same ing, 5 FCC Red. 4949, para. 19 (1990). treatment as one's own nationals is also found in all the 82 When the FCC attempted to influence the timetable three main WTO agreements (Article III of GATT, Arti- for construction and activation of the TAT-7 overseas cable cle 17 of the CATS and Article III of the TRIPS), al- through direct negotiations with foreign governments, for- though once again it is handled slightly differently in eign carriers deemed such activism intrusive of national sov- each of these. National treatment only applies once a ereignty, and the United States Court of Appeals for the Dis- product, service or item of intellectual property has en- trict of Columbia deemed it a violation of the Government in tered the market. the Sunshine Act. ITT World Communications, Inc., 77 id. F.C.C.2d 877, 877-78, para. 2 (1980) (denying petition for 86 See In re Rules and Policies on Foreign Participation in rulemaking on permissible scope of FCC contacts with for- the U.S. Telecommunications Market, Order on Reconsidera- eign administrations to negotiate delayed deployment of a tion, 15 FCC Red. 18,158, 18,160-65 (2000); Report and Order trans-Atlantic submarine communications cable), rev'd, ITT on Reconsideration, 12 FCC Rcd. 23,891, 23,894, para. 2 (1997) World Communications v. FCC, 699 F.2d 1219 (D.C. Cir. (replacing an "effective competitive opportunities" test with a 1983), rev'd on other grounds, 466 U.S. 463 (1984). looser "open entry" standard for WTO Members when con- 83 Cable & Wireless P.L.C. v. FCC, 166 F.3d 1224, 1235 sidering foreign carrier entry into the U.S. market by means (D.C. Cir. 1999). of authorizations to provide facilities-based, switched resale, 84 In re Regulatory Policies and International Telecom- and resold non-interconnected private line service, authori- munications, Notice of Inquiry, 2 FCC Rcd. 1022, 1022, para. 1 zations to exceed the 25% foreign ownership benchmark and (1987), Report and Order and Supplemental Notice of Inquiry, 4 cable landing licenses). FCC Rcd. 7387, 7387, para. 1 (1988), Order on Reconsideration, 87 See In re Cable & Wireless, Inc., Memorandum Opinion, 4 FCC Rcd. 323 (1989). The FCC has modified its policies Order and Authorization, 9 FCC Rcd. 7283, 7283, para. 4 that impose more extensive oversight of foreign owned carri- (1994); In re Cable & Wireless, Inc., Order and Certification, 8 ers providing international services from the United States. FCC Rcd. 1664, 1664, para. 2 (1993); In re Fonorola Corp. See In re Regulation of International Common Carrier Ser- Application for Authority Under Section 214 of the Commu- vices, Notice of Proposed Rulemaking, 7 FCC Red. 577, 583, para. nications Act to Resell Facilities of Other Common Carriers 38 n.35 (1992); Report and Order, 7 FCC 7331 (1992) (retain- to Provide Domestic Carriers Interconnection with Canadian ing more burdensome "dominant carrier" oversight only Carriers, Memorandum Opinion, Order and Certification, 7 FCC where the foreign affiliate of a USISC has the ability to dis- Rcd. 7312 (1992), Order on Reconsideration, 9 FCC Red. 4066, criminate against unaffiliated carriers through control of bot- 4071, para. 25 (1994) (authorizing British and Canadian tleneck services and facilities in the foreign market). resellers to provide international service upon finding that 85 UNITED NATIONS EDUC. SCIENTIFIC AND CULTURAL the foreign country on the other end of the circuit provides ORG., CULTURE, TRADE AND GLOBALIZATION, QUESTIONS AND equivalent opportunities to U.S. carriers to resell intercon- ANswERs, QUESTION 12, WHAT IS TIHE "NATIONAL TREATMENT" nected private lines). PRINCIPLE?, at http://www.unesco.org/culture/industries/ 88 In re Regulation of International Accounting Rates, Re- trade/htmleng/questionl2.htm (last visited Aug. 31, 2001). port and Order, 6 FCC Rcd. 3552, 3552, para. 1 (1991). 20011 Regulatory Opportunism in Telecommunications ties-based carriers would perceive new incentives packets in applications like electronic mail. Real to negotiate lower accounting rates to dissuade time "streaming" of information packets means customers from migrating to private line and re- that the Internet can serve as a medium for audio sale options. Facilities-based international tele- and video programming and also for telephone communications carriers, which face competition services. from resellers89 unencumbered by accounting Absent network congestion, the cost to carry or rate liability, may view high accounting rates as process an additional minute of Internet traffic imposing a floor on how low they can price end approaches zero because the incremental cost is user rates "to prevent diversion of ... customers near zero. 93 This pricing system enhances con- to a reseller." 90 Presumably, resellers providing sumer welfare, stimulates usage and revenue gen- outbound services from the United States will ac- eration and accrues positive networking externali- quire market share, thereby reducing the number ties. 9 4 The Internet adds thousands of new sites of IMTS outbound minutes subject to accounting and users daily with such expanded access oppor- rate settlements. 9' A facilities-based carrier, refus- tunities accruing greater utility for all users. 95 As ing to negotiate accounting rates closer to cost, long as ample capacity remains available along would "receive fewer revenues from its IMTS cus- with moderate transport and content costs, ISPs tomers and, thus, would wind up with fewer reve- need not meter traffic and can offer service on an 92 nues overall." insensitive All You Can Eat ("AYCE") usage basis. ISPs can offer AYCE service because even as VII. THE INTERNET AS A MEDIUM FOR they have high fixed costs, they incur relatively ARBITRAGE low incremental costs absent network congestion. They can represent that their network extends The Internet has evolved into a vibrant medium globally even though few, outside of a small group for communications, entertainment, education of Tier-i operators, actually and commerce. One of the primary drivers for the have built or leased such an extensive array of fa- growing consumer reliance on Internet-mediation cilities. 96 Until recently, ISPs have incurred little involves the ability of the Internet to offer instant additional expense in providing their customers "real time" delivery of digital packets in addition opportunities to access Internet networks via in- 7 to the , non-real time delivery of cumbent telecommunication carriers' facilities.1

89 K. Cheong & M. Mullins, InternationalTelephone Service Frieden, Does a HierarchicalInternet Necessitate MultilateralInter- Imbalances, 15 TELECOMM. POL'y 107, 116 (1991) ("Resale [of vention?, 26 N.C.J. INT'L. L. & COM. REG. 361, (2001) [here- leased private lines] would bypass the accounting rate mecha- inafter Frieden, Multilateral Intervention?]. nism-a major cost to the traditional carrier mode of opera- 94 A positive network externality exists when the cost in- tion-and increase the feasibility of creating unidirectional curred by a user of the Internet does not fully reflect the ben- traffic channels."). If resale remains unidirectional, United efit derived with the addition of new users and points of coi- States facilities-based carriers and consumers will not benefit: munications. See also Mark A. Lemley & David McGowan, resale occurring only in the inbound United States direction Legal Implications of Network Economic Effects, 86 CAL. L. REV. would increase the United States accounting rate deficit. Re- 479 (1998); See generallyJohn Farrell & Garth Saloner, Stand- sale must be bi-directional to have the effect of "expos[ing] ardization, Compatibility and Innovation, 16 RAND J. ECON. 70 the differential between tariffs and accounting rates and ulti- (1985); Michael L. Katz. & Carl Shapiro, Network Externalities, mately force traditional carriers to renegotiate accounting Competition and Compatibility, 75 AM. ECON. REV. 424 (1985). rates closer to service costs." Id. at 116-17. 95 See Susan Stellin, Compressed Data; Number of New In- 90 In re Regulation of International Accounting Rates, ternet Users is Growing, N.Y. TIMES, Feb. 19, 1990, at C3 (citing First Report and Order, 7 FCC Rcd. 559, 561, para. 16 (1991) a report released by the Pew Internet and American Life Pro- (stating "[t]o the extent that the accounting rate is above ject estimating that the number of American adults with In- cost, the underlying carrier will face a constraint on how ternet access grew in the last six months of 2000 by 16 mil- much of a reduction in its revenues it can tolerate."). lion). 9' Id. 96 See Frieden, Multilateral Intervention?, supra note 93, at 92 Id. 363. 93 This pricing scenario presupposes that an ISP does 97 The author acknowledges that "free rider" opportuni- not incur usage sensitive prices for any major element of ser- ties via other ISPs are becoming more scarce, as the Internet vice. For many Asia-Pacific routes, the need to access network becomes more hierarchical and larger ISPs demand and re- access points in far away locations, such as the United States, ceive payments for providing transit services to ISPs with does impose significant costs. To offset the charges of facili- fewer customers, less and limited sources of desir- ties-based telecommunications carriers, ISPs may charge end able content. See Rob Frieden, Last Days of the Free Ride? The users on a usage sensitive basis, for example, an hourly Consequences of Settlement-Based Interconnection for the Internet, surcharge after an initial allocation of access time. See Rob INFO, Vol. 1, No. 3, 225-38, available at http:// COMMLAW CONSPECTUS [Vol. 10

Accordingly, ISPs have had opportunities to tap and infrastructure development objectives.1 0 3 into the same financial and distance-insensitive The onset of Internet-mediated telephony has service opportunities as telecommunication entre- the potential for bringing to a head the long sim- preneurs that exploit the porousness of telecom- mering debate over the propriety of pricing tele- munication networks and relative ease in acces- communication services above cost, in part to pro- sing the PSTN. One can consider Internet- mote a universal service mission. It also may mediated telephony j 8 in the same context as trigger closer examination of what constitutes the other technological innovations like call-back,!' ' actual cost a carrier incurs to route a minute of switched hubbing,"11 1 refile,111l and international telecommunication traffic. The 1997 OECD Ac- simple resalet121 that provide new, lower-priced al- counting Rate Study observed: ternatives to the "retail" rate for toll telephone [A] polarisation [exists] between a group of countries services. with relatively competitive prices and low accounting rates, and a second group of countries with prices sig- Internet telephony shifts the balance of market nificantly above cost ... This danger is real, especially power from carriers, which traditionally have set between OECD countries and a number of non-OECD prices on a cost-plus basis, to consumers who may countries who have difficulty in envisaging the benefits which they can attain from competitive telecommunica- emphasize price and consider telephony a com- tion markets. 114 modity business. If telephony minutes of use be- come fungible, with voice traffic subordinate to an increasing volume of data, then service provid- VIII. INTERNET TELEPHONY THREATENS ers will have limited, if any, ability to saddle users THE STATUS QUO with rates significantly above cost, despite the fact that carriers do plow back a large percentage of Currently, international accounting rates for any financial surplus to achieve universal service most routes substantially exceed the total cost in- www.camfordpublishing.com (1999). try to collect traffic and switch this traffic to other coun- 98 See Robert Frieden, Dialingfor Dollars: Will the FCC Reg- tries ... For example, the price of a call from Denmark- ulate Internet Telephony?, 23 RUTGERS COMPUTER TiciH. L.J. 47, Finland-Australia is cheaper than a direct call from Den- 54 (1997) [hereinafter Frieden, Dialingfor Dollars]. mark to Australia (... US $0.46 + US $1.03 compared to 99 "'Callback' is a technology used to provide interna- US $2.01). In this case a third country calling service [us- tional telecommunications service from a foreign country ing conventional switched services] would be viable hav- through a . . . switch [in the U.S. or other nation with low collection charges and options for private line resale and ing a margin of US $ 0.52 per minute. routing options that reduce or eliminate accounting rate lia- See 1995 OECD Refile and Call-back Report, supra note 99, at 11. 102 International simple resale ("ISR") involves the use bility]." In re Philippine Long Distance Telephone Co. v. In- of a private line by ternational Telecom, Ltd., Memorandum Opinion and Order, 12 more than one customer with access to FCC Rcd. 15,001, 15,002, para. 4 n.10 (1997). See also the public switched network at one or both ends. ISR presents Frieden, Falling Through the Cracks, supra note 69, at 975; both profit-enhancing opportunities and bypass Frieden, Impact of Call-Back, supra note 46, at 819 (1997); Or- threats to facilities-based carriers providing the capacity. On one ganisation for Economic Co-Operation and Development, hand, "[flacility providers today find that it is more prof- itable to provide excess capacity to resellers and allow Committee for Information, Computer and Communications them to find customers Policy, Refile and Alternative Calling Procedures: Their Impact on and market this capacity rather than mar- keting this capacity Accounting Rates and Collection Charges, OECD/GD(95)19 themselves. Resale allows more seg- mented and flexible (Paris, 1995) [hereinafter 1995 OECD Refile and Call-back Re- marketing including more market ori- ented prices." 1997 OECD Accounting Rate port]; Organisation for Economic Co-Operation and Develop- Study, supra note 99, ment, Committee for Information, Computer and Communi- at 36. On the other hand, "ISR service provision by-passes the international cations Policy, New Technologies and Their Impact on the charging and settlements system, and there- Accounting Rate System, OECD/GD(97)14 (Paris, 1997) for places significant [downward] pressure on accounting [hereinafter 1997 OECI) Accounting Rate Study]. rates." /d. at 38. 100 The FCC defined switched hubbing as "the routing of I." When service rates decline to levels approximating marginal cost, carriers do not have revenues available to un- U.S. switched traffic over U.S. international private lines, derwrite public policy objectives no matter how laudable. whether resold or facilities based, that terminate in Such subsidization must come directly from users in the form equivalent countries and then forwarding that traffic to a of additional line item charges on their bills. See, e.g., FED- third, non-equivalent country by taking at published rates ERAL COMMUNICATIONS COMMISSION, FACT SHEET, TELEPHONE and reselling the international service of a carrier in the BILL CHARGES, http://www.fcc.gov/Bureaus/Common_ equivalent country." In re Policy Statement on International Carrier/Factsheets/telephonebills_facts.html (last visited Accounting Rate Reform, Policy Statement, 11 FCC Rcd. 3146, June 16, 2001). 3147, para. 12, n.9 (1996) [hereinafter 1996 Accounting Rate I14 1997 OECD Accounting Rate Study, supra note 99, at 32. Policy Statement]. 101 Refile or the hubbing of traffic is using one coun- 20011 Regulatory Opportunism in Telecommunications curred by two or more "foreign correspondents" area. It therefore cannot be expected that significant to switch and route a call from originator to changes in prices (collection charges) and accounting recip- rates will take place given present attitudes and policy 0 5 1 0 8 ient.' The onset of higher capacity submarine frameworks. cables and satellites, coupled with digital signal In the absence of competitive necessity, an ag- processing and switching and circuit multiplica- gressive campaign by regulators in sufficient num- tion technologies, have significantly reduced per- bers or widespread use of Internet telephony and mile and per-call costs,'0 6 although the cost sav- other arbitrage tactics, many carriers continue to ings may not be the same for nations lacking the benefit from traffic retardation strategies that re- traffic volumes and funds available to support new duce outbound calling and expand asymmetry be- technologies having lower per unit costs. How- 1l tween inbound and outbound traffic volumes. ' ever, absent competitive or regulatory pressure to For some nations, purposefully high accounting reduce accounting rates and retail collection rates and commensurately high collection charges charges to levels commensurate with such lower accrue financial dividends by reducing the vol- costs, carriers that terminate more calls than they ume of outbound traffic that otherwise would off- originate want to maintain the status quo. 10 7 Ac- set at least a portion of the settlement surplus. I0 cordingly, accounting rates continue to overstate Even as they may reduce some high-profit opera- cost and overcompensate some operators: tor-assisted outbound international calls, call-back The pace in introducing competition in international and other call-reorigination services''' increase telecommunication markets and the reform of these markets is slow, and there is an apparent reluctance in the volume of inbound calls, at least some of 112 many cases by governments to accelerate reform in this which trigger an accounting rate settlement.

105 Carrier correspondents "match" half-circuits to erect sition period. See In re International Settlement Rates, Report a complete link from call originator to call recipient. The and Order, 12 FCC Rcd 19,806, 19,809, para. 6 (1997) [herein- half-circuit concept operates on the presumption that carrier after 1997 Accounting Rate Report and Order]. The FCC estab- correspondents achieve a "whole circuit" by linking two half- lished the following benchmarks and timetables for compli- circuits at the theoretical midpoint of a submarine cable, or ance: U.S.-licensed carriers operating on routes to upper at the satellite providing the transmission link. In the subma- income countries have one year from the effective date of rine cable scenario, each carrier has responsibility to secure this Order (until Jan. 1, 1999) to reach the applicable bench- access to circuits linking transmission facilities on its territory mark rate of 15¢ with carriers in upper income countries. Id. to the location where the cable makes its landfall (referred to at 19,815-16, para. 19. U.S.-licensed carriers have two years, as the cablehead), possibly located in a different nation, and or until Jan. 1, 2000, to reach the applicable rate of 19¢ with onward to the midpoint. For more background on interna- upper middle income countries, and until Jan. 1, 2001, to tional telecommunications operations and policy, see ROB reach the same rate with lower middle income countries. Id. FRIEDEN, MANAGING INTERNET-DRIVEN CHANGE IN INTERNA- at 19,881, para. 157. They have until Jan. 1, 2002, to reach TIONAL TELECOMMUNICATIONS (2001); ROB FRIEDEN, INTERNA- the applicable 23¢ rate with low income countries, and an TIONAL TELECOMMUNICATIONS HANDBOOK (1996). additional year, until Jan. 1, 2003, to do so with countries 106 See INFORMAL EXPERT GROUP ON INTERNATIONAL SET- with a telephone line penetration rate (teledensity) of less TLEMENTS, INT'L TELECOMM. UNION, THE COST OF INTERNA- than one. Id. TIONAL TELEPHONE CALLS, at http://www.itu.int/search (last 107 See Lawrence J. Spivak, From International Competitive visited May 16, 2001) (reporting that the per minute cost for Carrier to the WJ1O: A Survey of the FCC's International Telecom- routing an international telephone call via an INTELSAT sat- munications Policy Initiatives 1985-1998, 51 FED. COMM. L.J. ellite including operating expenses is US $0.02 and that fac- 111, 120 (1998). toring all switching, routing, interconnection and administra- 11O 1997 OECD Accounting Rate Study, supra note 99, at 6. tive costs, including license fees, advertising and taxes "the 109 Many international carriers have objected to the average per minute cost of an international call is probably FCC's campaign to reduce international accounting rate tac- around $0.25"). Using a total service long run incremental tics on fairness and jurisdictional levels. However, an appel- cost methodology, which factors in a reasonable contribution late court has ruled that the FCC's settlement rate prescrip- to common costs, the FCC established "upper end" settle- tion did not violate domestic or international law, nor did it ment rate benchmarks of 15.4¢ for carriers in upper income impose its jurisdiction extraterritorially. See generally Cable nations; 19.1¢ for carriers in middle-income nations and and Wireless P.L.C v. FCC, 166 F.3d 1224 (D.C. Cir. 1999). 23.4¢ for carriers is lower income countries. See In re Interna- S11) See Robert Frieden, Without Public Peer, The Potential tional Settlement Rates, Notice of Proposed Rulemaking, 12 FCC Regulatory and Universal Service Consequences of Interest Balkani- Rcd. 6184, 6203, para. 47 (1996). The Commission proposed zation, 3 VA. J. L. & TECH. 8, 24-25 [hereinafter Frieden, a 9-22¢ upper range for benchmark settlement rates for car- Without Public Peer] (1998). riers in upper income nations; 12-26¢ for carriers in middle H' 1996 Accounting Rate Policy Statement, 11 FCC Rcd. at income nations and 13-33¢ for carriers in lower income na- 3147, para. 12 ("[C]ountry direct benefits U.S. [and other] tions. Id. at 6203, para. 48. In its 1997 international settle- consumers but inflates the settlements deficit by converting ment policy order the Commission responded to foreign car- foreign-originated traffic into U.S.-billed calls."). rier and government opposition to its proposed timetable by 112 In re International Settlement Rates, Report and Order, creating a fourth income category and by extending the tran- 12 FCC Rcd. 19,806 (1997). The traditional settlement rate COMMLAW CONSPECTUS [Vol. 10

For nations requiring carriers to route return traf- In the accelerated pace of product and service fic proportionate with what they received in- life cycles common to the Internet, telephone ser- bound,""n carriers from other nations with more vices have quickly evolved from an awkward per- outbound traffic than inbound traffic face the po- sonal computer-mediated curiosity to a commer- tential for expanding settlement deficits if out- cial service available not just from computers but bound calling continues to grow even as demo- from conventional telephones as well. Internet te- graphic characteristics or regulatory policies lephony has the potential to serve as a major elsewhere continue to dampen demand for in- threat to the international accounting rate regime bound calling. 1 14 Carriers with inbound traffic and possibly as well to how telecommunication surpluses typically operate in small and develop- carriers price retail long distance services for two ing countries, but others operate in nations that primary reasons: appear to have a strategy of deliberately maintain- (1) the Internet architecture provides for effi- ing high accounting and collection rates.' 15 cient facilities loading, including the abil- Outbound international call retardation strate- ity of telecommunications networks dedi- gies create pent up demand and stimulate ac- cated for the data services to handle voice counting rate and collection arbitrage opportuni- traffic at near zero cost, absent conges- ties and incentives by users and entrepreneurial tion; and carriersI'" to find ways to route traffic that reverse (2) regulatory policies throughout the world the accounting rate settlement or avoid triggering largely exempt providers of Internet ser- one entirely.' A settlement surplus generates a vices from having to subject their traffic to source of hard currency for telecommunications accounting rate settlements and having to infrastructure development, and such transfer pay the interconnection charges and con- payments from users in developed nations to car- tributions to universal telecommunica- riers in developing ones can enhance consumer tions service funding imposed on telecom- welfare and promote networking externalities. On munications carriers. the other hand, no guarantees exist that only de- Internet telephony constitutes a formidable ve- veloping countries will pursue an outbound call hicle for compressing telecommunication carrier retardation strategy or that beneficiaries of settle- margins on telephone services. ISPs can easily add ment surpluses will use the funds for infrastruc- telephony traffic onto their data lines and techno- ture development as opposed to funding the gen- logical innovations provide ways to inject Internet eral treasury or stock dividends. Likewise, reduced voice traffic into the PSTN for the "last mile" de- outbound international calling may retard trade, livery to call recipients.' Given the large differ- industry and integration of a nation regionally ence between ISPs' costs incurred in providing In- and globally. ternet telephony and the retail charges for system assumes that a customer's physical location deter- counting rate settlement that would overcompensate the car- mines the place of origin of an international call, with the rier for terminating the call. carrier in the originating country paying a settlement rate to 114 See Frieden, The Incentive to Cheat, supra note 36, at the carrier in the terminating country. However, service in- 118-19. novations such as call-back allow customers to change the 11 A thriving international "dial-a-porn" industry has de- originating country for settlement purposes. The result is veloped in such diverse and unpredicted places as Guyana, that many more calls are originated for settlement purposes Russia and Ttvalu in part because operators can tap into a from countries like the United States with vigorous retail and share of comparatively higher accounting rates well above wholesale markets than in monopoly markets that lack simi- the FCC's settlement rate prescription. See Kenneth R. Propp, lar competition. These traffic routing patterns will only be Eroding Structure of InternationalTelecommunications Regulation: exacerbated as countries implement their market access con- The Challenge of Call-Back Services, 37 HARV. INT'L L.J. 493, 519 mitments tinder the WTO Basic Telecom Agreement. 1i. (1996). Call-back operators look for opportunities to reduce account- 116 Many facilities-based carriers offer services with lower ing rate exposure, through refile, and to avoid them entirely per minute charges than conventional, tip International Di- by routing traffic via private lines that "leak" into the PSTN. rect Distance dialing. While such carriers do not want to can- 113 For nations with large populations, high gross domes- nibalize high margin services, they recognize the need to tic products, large expatriate and immigrant communities, compete with call-back operators. and multiple facilities-based carriers, like the United States, i17 See Frieden, Without Public Peer, supra note 110, at operators may have collection rates at levels below one-half 124-25. the accounting rate. Such carriers expect to recoup out- 111 See, e.g., EFFICIENT NETWORKS, VOICE OVER ATM: INTE- bound traffic losses with inbound traffic subject to an ac- CRATING VOICE AND DATA TRANSMISSION IN DSL SERVICE, at, 20011 Regulatory Opportunism in Telecommunications conventional telephone services, especially inter- vides a standard vehicle for subdividing content, national rates, ISPs can profit handsomely by pric- such as a voice conversation, into a stream of ing service well below the preexisting retail toll packets that are routed via any available path be- 1 charge. This exploitation of a wide pricing differ- tween the sender and intended call recipient. 1 ential constitutes a type of arbitrage as the ISP can Each packet has space reserved for destination in- make a business case for delivering services to formation so that intermediary routing facilities consumers at significantly lower costs. ISPs have can read "header" data to determine how and plenty of margin from which to work due to the where to send the packets toward their intended difference between their actual costs and the im- destination. 122 Headers include a sequence of dig- puted cost established by route specific account- its that correspond to an Internet address, much ing rates based on conventional telephony. like the numbering sequence in direct distance di- aling via telephone. 123 However, IP addresses do IX. TECHNOLOGY PROVIDES ARBITRAGE not correspond to a specific geographical region OPPORTUNITIES as provided by telephone area codes. efficiently uses available Internet telephony uses the digital, packet- switching and routing capacity. Likewise, it can switched nature of the Internet, along with its operate despite outages, blockages and busy con- routing and addressing standards to provide real ditions because the Internet Protocol addressing time, audio conferencing.119 Internet switching scheme makes it possible for multiple efforts to and routing technology manages the transmission route traffic onward in the event that initial ef- and processing of text, graphics, data, audio or forts fail. 12 4 Resending misdelivered or un- video. The Internet's TCP/IP protocol' 20 pro- received packets and routing them via different http://www.efficient.com/tlc/whitepapers/voatm/ mation about the message fragment, error control data, voatm.pdf (1999). and addressing data. As a message fragment travels 119 See id. along the network, each layer or gateway adds routing 120 See Richard Allan Horning, Has Hal Signed a Contract: information to the packet before passing it to the next The Statute of Frauds in Cyberspace, 12 SANTA CLARA COMPUTER destination. Packets are not full messages; each message & HIGH TECH. L.J. 253, 258 (1996). a user sends (for example, a typical e-mail communica- The common denominator for e-mail communications tion) is broken up into packets and transmitted across is the use of a standard programming protocol, TCP/IP- the Internet via the best available routes. Transmission Control Protocol/Internet Protocol-upon Id. which inter-computer communications are based. The 123 SeeJonathan Weinberg, ICANN and the Problem of Legit- TCP protocol divides messages into packets, which are imacy, 50 DUKE L.J. 187, 194 (2000). marked with a sequence number and the address of the In any system of networked computing, there has to be recipient. TCP also inserts error control information. some mechanism enabling one computer to locate an- The packets are then sent over the network to the ad- other. If I want to send e-mail to a buddy in Boise, the dressee. The routing of the individual packets varies, system needs to have some way to find his mail server so with IP controlling the transport of the packets to the that it can direct the information there. Internet engi- remote host computer. At the remote host, TCP receives neers came up with this solution: Each 'host' computer the packets and checks for errors. When an error occurs, connected to the Internet was assigned an Internet pro- TCP asks for the particular packet to be re-sent. Once all tocol (IP) address, which consisted of a unique 32-bit the packets have been received, TCP will then use the number, usually printed in dotted decimal form, such as sequence number to reconstruct the original message. It 128.127.50.224. Dr. Jon Postel of the University of South- is the job of IP to get the packets from one place to an- ern California's Information Sciences Institute (ISI) as- other; it is the job of TCP to manage the flow and insure sumed the task of assigning blocks of IP addresses to that the data are correct. computer networks. Because no two computers had the Id. same IP address, it was possible to locate any computer 121 See Barry M. Leiner et al., A Brief History of the In- on the Internet simply by knowing its IP address. TCP/ ternet, Internet Society, at http://www.isoc.org/internet/ IP made possible a system of routing that permitted a history/brief.html#Origins (Aug. 4, 2000); see also Rob user to dispatch a message onto the Internet, knowing Frieden, Managing Internet-Driven Change in InternationalTele- only the IP address of the computer he wished to reach, communications (2001). with confidence that the message would eventually reach 122 See Robert D. Fram et al., Altered States: Electronic Com- its intended destination. merce and Owning The Means of Value Exchange, 1999 STAN. Id. TECH. L. REiv. 2, XI. Appendix C: Glossary of Terms, at http: 124 SeeJonathan Weinberg, The Internet and "Telecommuni- //str.stanford.edu/STLR/Articles/99_STLR_2/index.htm cations Services," Universal Service Mechanisms, Access Charges, (1999). and Other Flotsam Of The Regulatory System, 16 YALE J. ON REG. Packets are network message fragments including the 211, 215 (1999). message fragment itself, a header with identifying infor- The Internet is a network of networks, communicating COMMLAW CONSPECTUS [Vol. 10 and possibly circuitous links requires software and transmission capacity lies dormant during processing to reassemble the packets in proper or- pauses in a conversation.28 Packet switching tech- der.125 For traffic and services that do not require nology efficiently fills in gaps with other traffic so immediate, real-time delivery-such as electronic that traffic may traverse different routes and ar- mail-possible delays and reassembly present lit- rive at different times in getting to the same desti- tle problem. However, Internet telephony re- nation.1 29 In , all parts of a traffic quires immediate, real time delivery of the pack- stream traverse the same pathway, which provides 13 ets in their proper order. Any delay, loss or greater quality assurance. - improper sequencing of packets will result in dis- What Internet telephony lacks in quality of ser- tortion, or the temporary loss of the audio stream. vice and reliability it makes up in lower costs and Heretofore, Internet telephony has lacked the the ability to narrow the gap between carriers' quality, reliability and security to be considered costs and retail charges. 131 However, some users comparable to conventional telephone services.' 2 6 may care more about reliability of service and less Traditional telephone services use circuit switch- about savings. Currently, Internet traffic cannot ing that sets up a dedicated link between call orig- be easily classified by priority of service or by type inator and call recipient. 127 This technology pro- of application. Best efforts at routing of traffic vides high-quality service and reliability because a may not provide the security, safety and reliability dedicated pathway exists, as opposed to the vir- a user may require. For those willing to take the tual, "on the fly" links provided via the Internet. qualitative risk, the financial savings are signifi- However, a dedicated pathway may be technologi- cant.'3 2 However, Internet telephony consumers cally wasteful in the sense that switching, routing have to incur some initial, up-front costs. Unlike

using packet-switching technology. A key part of that 127 Peter H. Salus, The Net: A Brief History Of Origins, 38 technology is the Internet Protocol (IP), which provides JURIMETRICSJ. 671, 674 (1998). the intelligence to transmit packets successfully even if When you place a phone call, your instrument connects source and destination are on different physical net- to a local switch. If this is a long distance call, the switch works. IP converts multiple physical networks, which puts the call onto an appropriate trunk, and at the other may run on completely different hardware, into a single end another switch connects you to the other local num- logical network. Any computer on any of the underlying ber. For the duration of that call, you are in control of networks can thus communicate with any other. On a that circuit. This is therefore called circuit switching. more prosaic level, the Internet is a set of computers, Id. packet routers, and the physical communications paths 128 In other words a circuit switched link cannot carry (such as copper wire, or fiberoptic cable, or terrestrial other traffic even when it is not being used. Circuit switching wireless, or satellite transmission, or ) con- establishes dedicated pathways that by nature cannot be necting them. A packet router is a data communications shared. device whose job it is to tell packets where to go; each 129 See Barbara Esbin, Internet Over Cable: Defining the Fu- time a packet hits a router, the router examines that ture in Terms of the Past, 7 COMMLAw CONSPECTUS 37, 50 packet's address information and determines where to (1999). send it next. 13( Circuit switching may require the use of several dif- Id. (citations omitted). ferent telecommunication network facilities along the link 125 Ari Lanin, Who Controls the Internet? States' Rights And from call originator to call recipient. However, no uncer- The Reawakening of the Dormant Commerce Clause, 73 S. CAL. L. tainty exists as to who provides the switching and traffic rout- REV. 1423, 1425-26 (2000). ing functions as would be the case for Internet traffic. Con- Each computer on the Internet is connected to a small ventional dial up telephone traffic traverses as few as one number of other computers. If one information route is carrier's network while Internet traffic can transit an indeter- down or congested, smart networking allows for infor- minate number. mation to take any number of alternative routes. Seg- III The cheapest form of Internet telephony imposes no mented messages ensure that a single message will never charge beyond the stink investment in a personal computer be sent in a single block, but instead will be broken and Internet access. See generally Internet and Telecoms Con- down into smaller blocks known as 'packets.' When a vergence Consortium at http://itel.mit.edu/ (last visited message is sent, these 'packets' are individually trans- Apr. 20, 2001); WORKING PARTY ON TELECOMMUNICATION AND ferred and, inevitably, distributed through different INFORMATION SERVICES POLICIES, DIRECTORATE FOR SCIENCE, routes on the network. When all the packets arrive at the TECHNOLOGY AND INDUSTRY, INTERNET VOICE TELEPHONY DE- destination colnputer, they are reassembled into the VELOPMENTS, at http://www.oecd.org//dsti/sti/it/cm/prod/ original message. tisp97-3e.pdf (1998) (giving additional background on In- Id. ternet telephony) (explaining Internet Voice Telephony De- 126 See generally Frieden, Dialingfor Dollars, supra note 98; velopments). Dennis W. Moore, Jr., Regulation of the Internet and Internet Te- 1_32 Even when Internet-mediated telephone services are lephony Through the hnposition of Access Charges, 76 TEX. L. REV. accessible from conventional telephones, in lieu of personal 183, 184-85 (1997). computers, the cost savings are significant. For example, 20011 Regulatory Opportunism in Telecommunications conventional telephone service, the cheapest ate downward pressure on all telephone toll rates types of Internet-mediated telephony require a and cannibalize retail rates.3 7 On the other hand, significant initial capital outlay of about $2,000 for incumbent carriers probably will determine that a personal computer, modem, sound card, speak- they are better served financially by providing the ers, microphone, software and Internet access. transmission capacity for Internet telephony, al- Conventional telephone services use a telephone beit at lower margins, than if they lose customers' handset, an inexpensive, "dumb" terminal, but traffic entirely. The massive increase in domestic users incur per minute charges that can exceed and international broadband telecommunication $1.00 a minute for many international destina- capacity reflects the view that carriers can make 3 tions. Internet telephony provided on a conven- up in volume what they will lose in margin. tional dial up basis requires an ISP to install de- vices that can convert circuit switched telephone XI. THE PROBLEMS IN REGULATORY traffic into packets and vice versa. 133 Additionally, these devices must provide a routing function, us- ASYMMETRY ing the Internet Protocol to bring traffic to a facil- ity (commonly referred to as a point of presence) Any regulatory regime applied exclusively to In- in the vicinity of the call recipient. ternet applications runs the risk of creating a di- chotomy in regulatory rights and responsibilities between providers of functionally equivalent ser- X. FINANCIAL AND REGULATORY vices. Many of the services available via the In- ARBITRAGE AND THE POTENTIAL ternet provide a faster, better, cheaper and IMPACT ON TELECOMMUNICATIONS smarter option to preexisting services. The In- PRICING ternet provides a convenient, user-friendly me- dium for acquiring news and entertainment and Internet telephony provides profitable opportu- engaging in all sorts of commercial transactions. nities for incumbents and newcomers alike to of- A bias or intention not to regulate or to regulate fer services functionally equivalent to conven- such activities lightly may contrast significantly tional telephony, but treated in a manner that with a preexisting and more intrusive regulatory subjects the service to little or no regulation and model. Governments should not automatically ex- accrues lower operational costs. 134 Entrepreneurs tend the application of legacy regulatory re- savor the opportunity to exploit financial and reg- gimes 39 to Internet-mediated equivalent services. ulatory anomalies and asymmetries in telecommu- Also, governments should not deregulate incum- nications .135 bent services simply because Internet options Internet telephony has the potential to migrate have become available, while governments have traffic from conventional telecommunications opted to apply a less burdensome regulatory re- networks. 136 Incumbent carriers surely do not gime to Internet services. want to encourage such a migration as it will cre- The onset of Internet-mediated services does net2phone, an Internet telephony provider, currently adver- not qualify for bulk discounts offered only to high volume tises a 3.9V per minute rate for calls within the United States, private line users. with many international calls costing less than 25¢ per min- 136 See Tuan N. Samahon, The First Amendment Case ute. The retail, occasional calling rates of conventional carri- Against FCC IP Telephony Regulation, 51 FED. COMM. L.J. 493, ers exceed these rates by several hundred percent. See 496-97 (1999). net2phone, at http://www.net2phone.coni (last visited Apr. 137 See Spatafore, supra note 134. 20, 2001). 138 See id. 133 See Robert Scoble, Internet Telephony Primer, at http:// 139 See Jason Oxman, FCC OPP Working Paper 31, The www.techtv.com/callforhelp/projects/story/ FCC and the Unregulation of the Internet, 24-25, at http:// 0,23008,2190782,00.html (last visited Apr. 20, 2001) (provid- www.fcc.gov/opp/workingp.html (1999). ing a technical background on how Internet telephony New technologies, while perhaps similar in appearance works). or in functionality, should not be stuffed into what may 134 See Nicholas C. Spatafore, Stuck in the Middle, TELEPH- be ill-fitting regulatory categories in the name of regula- ONY, Aug. 28, 2000, available at 2000 WL 7092846 [hereinaf- tion. Rather, the Commission should continue the ap- ter Spatafore. proach of studying new technologies and only stepping 135 For example, an entrepreneur could lease private in where the purpose for which the Commission was cre- lines, link them with the PSTN and offer a long distance tele- ated, protecting the public interest, demands it. phone service to individual consumers who otherwise would Id. COMMLAW CONSPECTUS [Vol. 10

present a regulatory challenge to governments, tionally similar to that available from telephone particularly those disinclined to treat Internet-me- companies, regulators cannot sustain preexisting diated services as equivalents to services transmit- service dichotomies. Heretofore, government reg- ted and delivered via traditional media. The juxta- ulators have assumed that incumbent telephone position of different regulatory regimes typically service providers, which have dominant market also creates an asymmetry that has the potential shares, should operate as common carriers and of- for tilting the competitive playing field in favor of fer the best technologies and wherewithal to the less regulated service. 1'"4 To the extent regula- achieve universal service goals.' 44 Regulators typi- tion can impose financial and operational bur- cally assume that market entrants, like ISPs, other dens, the service provider subject to greater regu- enhanced service providers and resellers of basic lation typically suffers a competitive disadvantage transmission capacity, do not have the potential to vfs-a-vis the less regulated operator. 14 Govern- acquire a dominant market share, or that they of- 45 ments should generate compelling justifications fer ancillary, non-common carrier services.' for establishing different regulatory regimes in While incumbent telephone companies incur sig- view of the potential for such asymmetry to im- nificant financial duties to serve costly remote ar- pact the marketplace attractiveness of one service eas, the newcomers enjoy exemptions from hav- vfs-a-vfs others. ing to pay charges for accessing the PSTN and 1 46 Regulatory dichotomies work best when techno- from contributing to universal service funding. 42 logical categories remain discrete and absolute. 1 These ventures qualified for such exemptions on But they surely do not work when technological grounds that they did not offer telephone service convergence results in porous service categories even though their offerings might require access 47 and diversification by operators. 43 When cable to the PSTN.1 telephone and ISPs offer telephone services func- When ISPs offer consumers telephone service

140 Kasey A. Chappelle, Comment, The End of the Begin- The difference between dominant and non-dominant ning. Theories and PracticalAspects of Reciprocal Compensationfor carrier regulation is striking, particularly in the area of Internet Traffic, 7 CoMMLAw CONSPEcrus 393, 406 (1999) economic regulation. Dominant carriers are subject to ("For convergence to be a reality, diverging regulatory struc- price cap or rate-of-return regulation at the federal level. tures cannot exist for communications systems that provide To change rates, a dominant carrier must file its tariff essentially the same service."). and may wait up to several weeks before the new prices 141 See Francois Bar et al., Defending the Internet Revolution go into effect. With few exceptions, non-dominant car- in the BroadbandEra: When Doing Nothing is Doing Harm, Econ- rier prices are not regulated, and where tariffs are still omy, at http://e-conomy.berkeley.edu/publications/wp/ required changes can be made effective the day after the ewpl2.html (1999) (supporting symmetrical regulatory re- amendment is filed. The FCC rarely decides to review quirements for Internet access between common carriers closely or declare unlawful a provision in a non-domi- and cable television systems). nant carrier tariff; one FCC Commissioner recently 142 For example a regulatory dichotomy may impose noted that it has happened only twice in the many years greater regulatory burdens on an incumbent to promote (more than a decade) since the FCC adopted the domi- market entry by competitors using new technologies. Advo- nant/non-dominant classification system. cates for asymmetric regulation may: Id. insist on the need to counterbalance the competitive ad- 145 SeeJames B. Speta, Handicapping the Race for The Last vantages enjoyed by the incumbents by virtue of the Mile?: A Critiqueof Open Access Rules for BroadbandPlatforms, 17 favorable position assured them by the monopoly condi- YALE J. ON REG. 39, 66 (2000). tions reigning in the [current] market .... [It] will be The rules that emerged from the Computer Inquiry pro- necessary to compensate for the advantages enjoyed by ceedings drew a distinction between 'basic' and 'en- the incumbent by way of a series of compensatory mea- hanced' telecommunications services. Basic services sures in favour of the newcomers. were those that involved only the transmission of sound Antonio Perrucci & Michela Cimatoribus, Competition Conver- or data unchanged from beginning to end. Enhanced gence and Asymmety in Telecommunications Regulation, 21 services were all other services that 'acted on the format, TELECOMM. PoL'V 493, 497 (1997). content, code, protocol, or similar aspects of the sub- 1413 Currently many cable television operators have up- scriber's transmitted information; provided the sub- graded their networks to provide access to the Internet. Con- scriber with additional, different, or restructured infor- simers typically do not perceive a significant difference be- mation; or involved subscriber interaction with stored tween the types of Internet access provided by cable information.' Basic transmission services were subject to television companies on a non-common carrier basis and that the 1934 Act's common carrierregulations; enhanced ser- provided by telephone companies still regulated as common vices were exempt from regulation under the 1934 Act. carriers. Id. (emphasis added). 144 SeeJames H. Lister, The Rights of Common Carriersand 146 See Frieden, Regulatory Models Diverge, supra note 6, at the Decision Whether to Be a Common Carrier or a Non-Regulated 395-97. Communications Provider, 53 FED. COMM. L. J. 91, 96 (2000). 147 See Report to Congress, 13 FCC Rcd. at 11,541, 11,545, 2001] Regulatory Opportunism in Telecommunications equivalents, which link PSTN access with Internet- tory forbearance can incubate and nurture new mediated telephony, preexisting regulatory ex- technologies and services. However, at some point emptions tilt the competitive playing field to the newcomers may so develop market share and ser- ISPs' advantage. Should significant telephony traf- vice functionally equivalent to what incumbents fic volumes migrate to routings exempt from uni- offer but without incurring anything like the regu- versal service contribution requirement, the sum latory burdens incumbents bear. At this point, of funds available to achieve the universal service regulatory asymmetry provides for less market- mission will decline. The potential for declining place incubation and more marketplace distor- universal service funds occurs just as many govern- tion. ments have articulated a broader and more ambi- The private carrier, enhanced service provider tious universal service mission for all citizens to and interstate service classification each provided have access to both basic telephone service and rational exemptions from more costly and intru- advanced Internet services. sive regulatory classifications. But regulatory arbi- trageurs came to understand that qualifying for these classifications provided "back door" oppor- XII. Regulatory Opportunism tunities to acquire market share and profits. It ap- Some providers of Internet-mediated services pears that the FCC has emphasized the potential enjoy the opportunity to provide competitive, for private carriers, CLEC affiliates of ISPs, call- functional equivalents to regulated offerings with- back operators and Internet telephony providers out the same regulatory burdens. Absent adjust- to provide both service diversity and financial sav- ments in the legal and regulatory arena, these ings to consumers. Yet, the Commission does not ventures, typically market entrants, may achieve assess whether these operators might have gener- commercial success without having developed a ated more consumer welfare enhancements if faster, better, more efficient and more convenient they had been forced to comply with legacy regu- innovation. They may offer something technologi- lations and been motivated to join with incum- cally and operationally awkward, but nevertheless bents to streamline or reduce them in view of in- cheaper, because regulatory classifications ex- creasingly robust competition. empt the operator from having to pay regulator- Conferring too comfortable an unregulated imposed fees. niche or financial windfall eliminates the incen- Legislative changes in telecommunications laws tive for ventures to innovate, become facilities- occur most infrequently, and regulatory lag fre- based operators and diversify. Unless and until an quently creates a significant time period, in arbitrage opportunity closes, resellers, call-back which changed technological and marketplace operators and Internet telephony vendors can conditions increasingly contrast with the regula- possibly do better by conserving capital, not in- tory status quo. During such periods of delayed vesting heavily in facilities and developing other adjustment, the regulatory process may favor one indicia of similarity with incumbents lest they lose competitor over others. This can most likely occur a regulation conferred competitive advantage. when marketplace conditions trigger new compet- At some point the FCC unwittingly tilts the itive opportunities and when technological con- competitive playing field in favor of players clever vergence eliminates barriers to market entry or enough to craft a service definition that permits market segmentation. aggressive competition with incumbent services, but which qualifies them for a host of arbitrary and anomalous loopholes that exempt or reduce XIII. Conclusion the cost and inconvenience in regulatory compli- The FCC prudently refrains from extending ance. Incumbents may suffer simply because of "legacy" regulation to new technologies and ser- the legacy regulations that continue to apply vices that may resemble something offered by in- rather than because they have greater market cumbents. Surely regulation can drag and thwart share, the ability to exploit a bottleneck or handi- 148 marketplace development, and conversely regula- cap market entrants with price squeezes. paras. 83, 90 (1998). firm with market power over an essential upstream inptut 1481n a price squeeze situation, a vertically integrated COMMLAW CONSPECTUS [Vol. 10

raises the price of this input to rivals competing in down- States v. Aluminum Co. of Am., 148 F.2d 416, 437-38 (2d Cir. stream retail markets. The increased cost of this essential 1945) (articulating a four-part test for price squeeze: (1) a input forces downstream rivals to raise their retail prices. firm has monopoly power with respect to one product; (2) its The vertically integrated firm is then in a position to un- price for that product is higher than a "fair price;" (3) that product is required to compete in a second market where the dercut the downstream rivals in retail markets and monopolist itself competes; and (4) the monopolist's price in thereby increase market share and profits. the second market is so low that competitor's cannot match it Michael Kende, FCC OPP Working Paper 32, The Digital and still earn a "living profit"). Handshake: Connecting Internet Backbones, 23, at http:// www.fcc.gov/opp/workingp.html (2000). See also, United