3 Va. J.L. & Tech. 8 (Fall 1998) <http://vjolt.student.virginia.edu>
1522-1687 / © 1998 Virginia Journal of Law and Technology Association
VIRGINIA JOURNAL of
LAW and TECHNOLOGY
UNIVERSITY OF VIRGINIA
3 VA. J.L. & TECH. 8
Without Public Peer: The Potential Regulatory and Universal Service Consequences
of Internet Balkanization
by Rob Frieden[*]
- Throughout the Internet's infancy and adolescence operators appeared to favor network connectivity at the expense
of short term profits. They readily accepted and routed traffic generated by other operators with little regard
for the balance of traffic flows. Such "bill and keep," "sender keep all" strategies work well
when traffic flows are nearly symmetrical, or when the incremental cost of handling additional traffic approaches
zero with ample unused capacity and congestion-free networks. In
its procompetitive infancy the Internet developed without marginal cost pricing mechanisms at either end-user or
service provider levels. The Internet proliferated in terms of participating networks and users in large part due
to the ability of Internet Service Providers ("ISPs") to access the networks of local exchange carriers
for the modest price of a business telephone line and to access the networks of other ISPs often at no cost.
- Usage insensitive pricing of Internet access can support market development initiatives, particularly when
relatively few players participate, each having made a significant commitment to lease or invest in transmission
facilities. With the passage of time, more ISPs have entered the marketplace, often without the need for, or interest
in making substantial investments in facilities. Later entrants may serve smaller geographical regions, and may
have a deliberate strategy of "free riding" the facilities investment of other operators who still agree
to accept traffic at quasi-public interconnection points. Likewise,
because end user access to the Internet is typically priced on a low, flat-rated, "All You Can Eat" basis,
no facility conservation incentive exists and therefore congestion can readily occur. As congestion threatens to impede quality of service, some ISPs have responded by prioritizing
traffic streams, and by varying the price of network access on the basis of the transmission capacity and traffic
volume of other ISPs seeking interconnection. This demand-based responsiveness
soon might include reserved bandwidth that would provide higher service reliability and quality for a premium price. Resorting to traditional pricing mechanisms means parties causing congestion,
or contributing comparatively less to congestion abatement, will incur higher costs of doing business. The responsible
parties include smaller ISPs who lack the traffic, subscribership and transmission capacity needed to sustain highly
reliable service in the face of increased demand and new Internet applications that require more bandwidth. Requiring
payment for access to the facilities of other larger companies constitutes an efficient outcome, but one that likely
will impose comparatively higher costs on smaller and rural ISPs and their subscribers.
- Segmenting the Internet into various levels of performance reliability with possible partitioning of bandwidth
and the creation of temporary dedicated links makes the Internet appear and operate more like a conventional circuit-switched,
telecommunication network. Instead of a "best efforts," "one size fits all" network topology,
the Internet will become an amalgam of networks with different degrees of reliability, service quality, accessibility
and cost. This diversification will occur just as policy makers have begun to recognize the Internet's importance
and the desirability of ubiquitous access. However, key decision makers have not yet addressed a critical difference
in the regulatory classification of ISPs versus telecommunication carriers. The former group incurs none of the
regulatory and operational burdens imposed on the latter group, because they lack the common carrier designation
and accordingly bear no obligation to promote universal service and
to operate without discrimination of "similarly situated" users.
- It appears that the dominant interconnection model for the Internet already has begun to shift from one characterized
by widespread, voluntary and non-discriminatory interconnection to a hierarchical and discriminatory model. In
response to this shift an increasing number of ISPs have clustered into a self-selected group of interconnected
networks possibly inaccessible from other non-member networks, or accessible only if compensated on a one-way,
nonreciprocal basis. In any event the likelihood exists for more ISPs to seek compensation from both their end-users
and from their networking counterparts. Accordingly, the need to mitigate congestion, rationalize Internet access
pricing and streamline may result in "balkanization" of the Internet, i.e., the disaggregation of a "network
of networks" into an amalgam of networks, with varying degrees of accessibility to other networks. Such a
development also would likely trigger the elimination of Sender Keep All ("SKA") pricing and a preference
for free and open interconnectivity between networks. These outcomes will have profound consequences on consumers
and service providers alike, particularly in light of legislative and regulatory efforts to promote universal access
to telecommunication networks and the Internet.
- This article will examine the evolution of ISP interconnection arrangements with an eye toward determining
the consequences resulting from the migration from SKA, zero cost interconnection arrangements to commercially
driven ones modeled closely after conventional telecommunication carrier-to-carrier interconnection agreements.
While such "private peering" will enhance quality of service and network reliability, it may trigger
the same sort of parity and cost of access concerns raised by consumer groups, competitive local exchange carriers
and other telecommunications market entrants. If balkanization of the Internet imposes higher costs on small, typically
rural ISPs and their customers, then the extent of access to the Internet and degree of competition among ISPs
may diminish, most notably in rural locales. A dichotomy may develop between large, competitive ISPs, able to charge
low, usage insensitive rates on an averaged cost basis, and small, predominately rural ISPs who must charge comparatively
higher end user subscription rates. At a time when Internet access becomes a part of the overall public policy
objective of universal service, the cost of subsidizing such access will grow significantly, particularly if ISPs
begin to exit rural markets. The article concludes that Internet interconnection and cost of access has begun to
raise the same sort of access, equity and pricing questions raised by local and interexchange carrier interconnection,
even though ISPs operate as private carriers and currently avoid the burdens of common carriage.
II. Internet Cost Structures and Interconnection
- Seamless connectivity among millions of routers, servers and users has promoted ease of use, convenience and
the opportunity for serendipitous discoveries in World Wide Web "surfing," i.e., the ability to move
from one source of information to another and from carriage over one network to another at the click of a mouse.
Likewise it has prompted consumers to perceive the Internet as costing nothing more than one's initial equipment
purchase and a low, flat-rated monthly access charge. Consumers have incorrectly concluded that United States taxpayers
largely paid for the Internet and that ongoing usage of the Internet is free. In fact while the United States government
helped incubate the Internet, by 1994 it paid less than ten percent of the operational Internet "cloud"
of network infrastructure. "Internet access may seem to be free--just
as the electricity and heat available at one's place of work may appear to be free." One can appreciate these widespread perceptions, because consumers typically have not incurred
high, usage sensitive charges.
- The Internet constitutes a network of networks with large sunk costs borne by the providers of Internet access
and services along with the telecommunications carriers that have installed the broadband transmission links used
for transmitting packets of information. At least for the time being, the underlying facilities-based carriers
and the providers of access to Internet-mediated content have opted not to impose substantial upfront, nonrecurring
fees or usage sensitive access fees on end users. The decision to price access on an All You Can Eat ("AYCE")
basis makes strategic sense during a promotional period when operators have plenty of available capacity--given
its large "chunky" nature--and prospective customers
require incentives to stimulate their interest in making the upfront, sunk investment in personal computers, modems,
software and Internet access subscriptions.
- Absent network congestion the cost to carry or process an additional minute of Internet traffic approaches
zero, because the incremental cost is near zero. "With significant excess capacity present, short-run profits
can be increased by selling at any price above incremental cost."
This pricing system enhances consumer welfare, stimulates usage and revenue generation and accrues positive networking
externalities as additional points of communication become available
and more users derive greater utility for such expanded access opportunities--all for a flat monthly rate typically
below $25. As long as ample capacity remains available, ISPs need not meter traffic and have no reason to refuse
to route traffic originating on another operator's network; to impose a traffic settlement arrangement would trigger
avoidable administrative costs and apply a remedy not yet needed.
- The remedy, an efficient settlements mechanism among an expanding set of dissimilar Internet operators, would
be required under conditions of frequent network congestion resulting from increased subscribership, expanding
bandwidth requirements for Internet applications and the need to upgrade networks to accommodate such demand. Under
such conditions, which currently have become more commonplace, ISPs have to consider quality of service issues
and determine who and what cause congestion. Such examination shows that not all Internet operators have conscientiously
upgraded their networks to accommodate the traffic, and that the method for exchanging traffic has become bogged
down as well.
- Under circumstances of traffic bottlenecking, in terms of bandwidth and interconnection, the incentive grows
for ISPs--the major backbone operators in particular--to reduce the number of ISPs with which they will interconnect.
This means that large volume, well capitalized operators will "peer" with, and interconnect lines with
only those few other similarly situated operators, keen on maintaining
high quality of service, willing to invest in the hardware needed to do so and serving a large user population.
As these ISPs make the necessary investments, they grow increasingly intolerant of those operators lacking the
traffic, subscribership or capital to maintain parity by expanding bandwidth to accomodate growing subscriber numbers
and bandwidth intensive applications like video. Such "lagging"
ISPs may have become voluntary or involuntary free riders of a sort by contributing to traffic congestion at public
interconnection points, commonly referred to as Network Access Points ("NAPs"), "public peering
points," or Metropolitan Area Exchanges. Such operators lack the bandwidth needed to provide a reliable intermediary
service between sender and receiver.
III. Current Internet Interconnection Arrangements
- Even now there exist several Internet network interconnection models that address, to some extent, differences
in an ISP's subscribership, bandwidth and financial resources.
A. Sender Keep All
- The SKA model allows ISPs to retain all subscriber payments without having to settle accounts with other ISPs
who participate in routing and delivering traffic. This model promotes the daisy-chaining of unaffiliated networks
and delivers global access to sources of information, commerce and entertainment. This model has served as the
primary template for Internet traffic routing, because of its administrative convenience and the willingness of
ISPs to promote network connectivity regardless of whether traffic flows are symmetrical. SKA involves network
interconnection without a metering mechanism either because the parties do not care whether traffic symmetry exists,
assume that such symmetry exists, or believe that metering and the settlement of financial accounts trigger more
cost and inconvenience than a "rough justice" agreement to accept and route onward each others' traffic.
- The SKA model promotes positive network externalities and universal service, because smaller and rural ISPs
typically enjoy opportunities to generate more outbound traffic for free carriage by other ISPs than they receive
from other ISPs for carriage onward to another ISP or for terminating traffic. The opportunity to avoid paying
a penalty for being comparatively less necessary and operationally more expensive than urban ISPs translates into
an opportunity for users in rural and high cost service areas to access the Internet on terms and conditions similar
to what urban subscribers pay.
B. Peer-to-Peer Bilateral
- This Internet-specific model adopts SKA, but with the expectation of traffic symmetry. Two unaffiliated ventures
agree to use this model, which requires a direct and meterless connection, if and only if they have "the same,
size, experience, technology and customer base." This model
may eliminate the opportunity for Internet users in rural and high cost areas to pay less than full service costs,
if ISPs in such areas must resort to more expensive "transit" arrangements with bigger ISPs resulting
in a one-way transfer payment from the smaller ISP to larger ones.
C. Hierarchical Bilateral
- Even before the threat of network balkanization, a hierarchy of ISPs has developed based on geographical scope
of service, available bandwidth, traffic volume and subscribership. The hierarchical bilateral model applies when
different types of ISPs agree to interconnect their networks. The terms and conditions of this two-party contract
reflect unequal bargaining strength in the sense that a smaller ISP, denied SKA and other cost-free interconnection
opportunities, now must persuade a larger ISP to handle its traffic. A negotiation in this context establishes
a customer-provider, transiting relationship rather than a carrier-to-carrier or ISP peering arrangement. Increasingly,
this model predominates as most national ISPs and backbone telecommunication carriers treat regional and local
ISPs as "clients." Accordingly, the smaller regional and local ISP typically has to transfer funds to
the bigger ISP, because the bigger operator has incurred a greater infrastructure investment burden and has the
capacity and wherewithal to route the smaller ISP's traffic onward to another network or to the final destination.
- While transfer payments occur in this model, it is important to note that no incentive exists for a likely
transfer payment recipient, i.e., the bigger, national ISP, to discriminate or to deny interconnection with a smaller
ISP who will pay for transiting service. If this model continued to dominate the Internet, then the free rider
problem could abate without any single, financially qualified network operator facing denial of access to other
networks. The smaller network operator would simply have to agree to make the necessary transfer payments and thereby
have transit access to servers and e-mail recipients, etc., via
the switching and routing facilities of other, larger and more geographically diverse networks.
D. Third Party Administrator
- The Third Party Administrator model involves a neutral "clearinghouse" function managed by a paid
administrator that might not even operate a network. Before relinquishing all Internet management responsibilities,
the National Science Foundation operated Network Access Points that served as sites for the exchange of traffic
between networks. Now commercial ventures, like the Commercial Internet Exchange Association ("CIX"),
perform the same function. These businesses place greater emphasis on generating a profit from administrative fees,
and reflect less of a quasi-common carrier orientation, i.e., agreeing to nondiscrimination and open access to
any ISP on a rational, traffic volume-based price structure.
- The Third Party Administrator model works well when the administrator has the financial wherewithal to expand
capacity and routing functions to meet demand and to maintain an adequate level of service by enforcing requirements
that ISPs maintain bandwidth and traffic processing capabilities commensurate with vastly expanding traffic growth.
Currently some traffic exchange locations have become so bogged down with traffic that packets of information must
be re-sent or are lost altogether.
- ISPs, particularly ones with the largest traffic volume and available transmission capacity, are offloading
some or all of their traffic onto "private peering" locations, because public peering points have become
congested bottlenecks. This migration has the most adverse effect on smaller ISPs who lack the facilities investment
to interconnect individually with one or more of the former large ISPs at another switching location, typically
an individual ISP's "Point of Presence." A small ISP could expect to provide its subscribers with access
to just about any other ISP's network simply by interconnecting with the large number of peers at a Third Party
Administrator's "public peering" site. When major ISPs boycott such sites and refuse to handle traffic
of lesser ISPs, the smaller ISP must scramble to find substitute ways to access the major carrier's disparate networks,
typically at several different locations and a higher cost.
E. Private Peering
- Private peering has become the most recent interconnection model and the one most likely to involve some degree
of discrimination or entrance requirements. This model involves the overlay of quasi-private Internets unavailable
to every ISP or Internet user, or available at a price. Private peering users purposefully deem their networks
off-limits to outsiders ostensibly to preserve "network integrity" and minimal quality of service levels.
However, the migration to private peering also results from the real or perceived need to safeguard a sizeable
and expanding investment from the congestive effects of free riders.
IV. Current Telephony Interconnection Arrangements
- As ISPs appear more inclined to interconnect facilities only if a transfer payment occurs, the Internet appears
more like a system of telephone company networks. An understanding of how telephone companies settle accounts and
route traffic may provide insight on how the Internet may evolve, despite the fact that private carriers provide
service free of traditional telephone common carrier duties.
- Interconnection between and among telecommunication carriers constitutes an essential element of what it means
to operate as a common carrier. Common carriers have a legal duty to interconnect their facilities with other carriers
on fair terms and conditions. No doubt exists whether a telephone company will agree to interconnect its facilities
with another carrier, nor whether the interconnecting carrier should receive compensation for providing such access.
Telecommunications carrier-to-carrier interconnection agreements typically involve a transfer payment when traffic
flows are asymmetrical. The contractual terms and conditions for this "correspondent" or "connecting
carrier" relationship primarily address traffic flow and volume without regard to a carrier's market share
or size. Once qualified as a carrier, the venture receives compensation for terminating traffic. This arrangement
may involve negotiations, application of a uniform revenue division plan, or a per minute access charge.
- Historically, the telephony compensation plan has contemplated relative parity in terms of interconnection
and negotiation leverage primarily because the parties voluntarily sought to interconnect facilities and expand
geographical coverage. Market entry by competitive local and long distance carriers has necessitated legislative
and regulatory edicts to mandate carrier-to-carrier interconnection with some degree of government oversight of
the terms and conditions for such access. Before the onset of
competition, extensive carrier-to-carrier interconnection was certain and the parties focused on what type of cross-subsidies
were needed to support a universal service mission. Now even the
common carrier classification does not foreclose delays and brinksmanship during interconnection negotiations,
particularly when the carriers have different bargaining power, traffic volumes and need for interconnection.
A. International Arrangements
- In international telecommunications the facilities interconnection process appears to favor more dependent
carriers, generating less outbound traffic, and ones with a national monopoly. The international correspondent
relationship considers carriers as equals, regardless of traffic volumes. International carriers match "half-circuits"
and agree to divide a previously negotiated accounting rate initially set to approximate the total cost of completing
a call. Carriers often fail to renegotiate downward accounting rates to reflect lower transmission costs thereby
creating incentives to retard outbound calling, or to find ways to route such calls without triggering an accounting
rate settlement. Despite excessive accounting rates, international
carriers have established a framework that favors direct, efficient and streamlined traffic interconnection.
- Once correspondents negotiate an accounting rate, regulators and carriers have latitude in determining how
to subdivide the complete route for purposes of tariffing and to coordinate among multiple carriers, e.g., different
local and national carriers. "End-to-end" routing establishes a single rate for the completed call, while
"end-on-end" routing divides the route into separate increments, e.g., local, international gateway and
international carriage elements often provided by different carriers, each entitled to a portion of the established
international accounting rate.
B. Domestic Arrangements
- In addition to an access charge and SKA arrangement, Meet Point Billing provides a basis for linking telecommunication
carrier settlement arrangements with the Internet's formerly predominant SKA model. The FCC has defined Meet Point
a method for the joint provision of access service through multiple-company ordering and billing arrangements.
The arrangements deal with ordering criteria for each telephone company that provides joint access service with
one or more telephone companies, and enable each telephone company to provide service and bill for its portion
of access service furnished under its own tariff.
- Meet Point Billing makes it possible for end users to have only one point of contact for securing services.
This promotes seamless connectivity between networks through the physical connection of lines and the integration
of billing systems.
- Meet Point Billing demonstrates how telephone carriers will cooperate if required by law, regulation or shared
interest. For example, two adjoining carriers might agree to provide toll-free calling into the adjacent carrier's
service territory thereby providing customers with an expanded geographical region for toll free calling. The carriers
might agree to a SKA, zero compensation plan even if demographics, size of the service territory or other factors
preclude the likelihood of symmetry in traffic volume. Alternatively, they might agree to settle accounts and transfer
funds on the basis of traffic volume, or the distance a call traversed over each carrier's network.
- This model provides a helpful template for achieving network interoperability, including the coordination of
billing and collection for services jointly provided by two unaffiliated ventures. It provides a basis for ISPs
to migrate from SKA to a system that can handle asymmetric traffic flows and different sized networks.
V. How Might the Internet Balkanize?
- The Internet already has begun to disaggregate into a hierarchy of networks based on available bandwidth, financial
resources, number of Points of Presence and subscribership. This balkanization means that not all ISPs will have
direct and seamless interconnection with all other ISPs, primarily because commercial interests favor disconnection
of lesser ISPs unless and until they agree to one-way transfer payments upstream to larger ISPs. Market pressures
have pushed the Internet toward balkanization and so far no legislative or regulatory edict has required interconnection
like that imposed on common carriers.
- ISPs, like cable television operators, enhanced services providers, and private carriers do not operate as common carriers. ISPs can
discriminate, refuse to interconnect facilities, deny service and decline to operate in a particular geographical
area, on the twin grounds:
1) that they do not offer essential public utility-type services; and
2) confidence that normal marketplace resource allocation functions will match willing buyers and sellers.
- The lack of an interconnection obligation on ISPs stems semantically from the fact that they are not common
carriers, and practically on grounds that universal Internet access, while desirable, has not become a public policy
objective like universal telecommunications service. However,
the Telecommunications Act of 1996 has expanded the telecommunications
universal service mission to include "[a]ccess to advanced telecommunications and information services . .
. [throughout] all regions of the Nation." In conjunction
with its identification of specific beneficiaries, e.g., schools and libraries,
the '96 Act ordered the FCC to convene a federal-state joint board to implement the new and expanded universal
service mission. Both a federal-state joint board and the FCC read the new universal service mission to include Internet access as part of as
"e-rate" telecommunications discount for schools and libraries.
Hence, a forward looking view of the longstanding public policy goal of ubiquitous telecommunications access could
include Internet and information services access.
- If Internet access constitutes an integral part of the a national commitment to universal service in telecommunications
and information services, then both state and federal regulators may have a basis for considering what affirmative
steps the government, ISPs and telecommunication carriers must take to promote the Internet access portion of the
universal service mission. The need for heightened attention to parity of urban/rural access to the Internet stems
from ongoing network disaggregation and the likelihood that rural ISPs generally may incur higher costs leading
them to exit from or raise rates to particularly expensive service locales.
- Universal Internet service concerns do not justify the reclassification of ISPs as common carriers, even though
the Telecommunications Act of 1996 contains a quite broad definition of who constitutes a telecommunications carrier,
and presumes such carriers will operate as common carriers. On
the other hand the '96 Act also precludes application of the common carrier classification to interactive computer
services, a status for which ISPs may qualify. Nothing forecloses
a regulatory decision to categorize ISPs as telecommunications carriers when providing telecommunications in addition
to their interactive computer services, or to require ISPs, when operating as telecommunications service providers
and not consumers of telecommunications, to contribute to universal service funding.
VI. Can Federal or State Regulators Impose
Interconnection Duties on ISPs?
- Balkanization of the Internet may result in reduced and more expensive service to rural locales based on quite
rational business and economic factors. Even if an ISP decided to serve such locations, it might not have the subscribership
and traffic volume to qualify for private peering opportunities. Most likely operators of this sort would end up
paying for interconnection and incurring transiting costs probably avoidable for most urban counterparts. The lack
of competition and inelastic demand for Internet access might well offset such a comparative disadvantage, but
higher cost may be unavoidable with the possible consequence of retarding demand and achievement of a universal
Internet service objective.
- The '96 Act contains a broad mandate for parity of access in urban and rural locales to advanced telecommunications
and information services both in terms of availability and price.
Arguably federal and state regulators could take affirmative steps to promote such availability and price parity
by imposing interconnection obligations on a public interest, parity of access to new technologies basis.
A. The Consequences of Internet Balkanization
- Professor Hal Varian clearly identifies the balkanization quandary:
[A]s the [Internet] industry matures, settlement-free interconnect does not necessarily provide appropriate
incentives to the industry players [operating the large, high bandwidth national backbone networks]. "Why
should I help my competitors by giving them free access to my network?" say the [backbone managers.] . . .
But the Internet won't work unless everything is connected to everything else," say the [Internet users and
engineers]. . . . Both are right. Interconnection is healthy for the industry as a whole, but the current business
model for interconnect may easily generate incentives for individual carriers to [deny interconnection, or to]
overcharge their competitors.
- Professor Varian believes major Internet backbone providers can use interconnection agreements "as a strategic
weapon . . . [that] could end up crippling the entire industry."
He proposes that the Justice Department and the Federal Communications Commission require backbone providers to
interconnect on "fair, reasonable and nondiscriminatory" terms, the very kind of regulatory safeguard
imposed on common carriers by Title II of the Communications Act of 1934, as amended.
- The two government agencies Professor Varian identified as regulator candidates have only limited jurisdiction
to examine carrier interconnection agreements and to require expanded access. For example, this occurs when these
agencies evaluate the competitive consequences of a proposed merger, like Worldcom's proposed acquisition of MCI.
The FCC could provide such regulatory scrutiny if the Internet backbone carriers operated as common carriers subject
to Title II of the Communications Act. But even though many ISPs have corporate affiliates that provide telecommunication
lines and services as common carriers, the FCC does not classify ISPs as common carriers when they provide Internet
services using the packet transmission service of a common carrier affiliate. Such offerings constitute enhanced
services under the Commission's Computer Inquiries, and
information services as defined by the Telecommunications Act
- Absent a reclassification of Internet access and service providers, the Justice Department and the FCC do not
have jurisdiction to make regular and ongoing assessment of Internet operator interconnection agreements. Given
a predisposition not to expand its regulatory wingspan and regulate the Internet, the FCC appears disinclined to
deem as telecommunications the traffic carried via the Internet. If Internet operators do not provide telecommunications,
then the Telecommunications Act of 1996 forecloses the FCC from deeming them "telecommunications service providers"
and common carriers. Accordingly, the single, integrated "network
of networks" characteristic of the Internet may migrate into a multiple, tiered system of "true peers,"
based on the scope of infrastructure owned or leased and the volume of traffic generated and received. True peers
self-select which ISPs with which they will interconnect. Such private peering largely segregates key national
operators from the larger set of lesser, regional and local ISPs. The major backbone ISPs resorted to this option
when the public peering system became congested and unreliable as too much traffic aggregated at public exchange
points. What "began as a series of local cross connects between large . . . [ISPs] at the public . . . [peering
points] to bypass the congested . . . switches that anchored the public exchange points," has evolved to a point where "lesser" ISPs cannot qualify as a peer of the major ISPs
and must pay to secure the privilege of having their traffic transit such networks. Note that after negotiating
a one-way transfer payment to the major ISP, the lesser ISP will receive no compensation for terminating traffic
originating or transiting the major ISP's network.
B. The Regulatory Paradox
- Just as the Internet becomes disaggregated into tiers of service providers, the overall utility of the Internet
grows as it becomes a medium for real time delivery of audio, video and telephone services in addition to text
and e-mail. Even as Internet operators insist they do not provide telecommunication services, the diversification
of applications available via the Internet include functionally equivalent services like Internet telephony. This similarity of services raises a regulatory quandary, because
providers of Internet-mediated information services qualify for an exemption from having to contribute to a fund
supporting universal telecommunications service. To make matters more difficult, Congress has expanded the universal
service objective to include Internet access and to specify additional beneficiaries: libraries, schools, clinics
- A number of conflicting, countervailing and paradoxical marketplace and regulatory circumstances have arisen:
As the Internet disaggregates and balkanizes, Congress nevertheless considers it a key vehicle to promote a
larger, cohesive universal service mission, even though private peering may foreclose complete connectivity between
and among individual networks;
The Telecommunications Act of 1996, as interpreted and implemented by the FCC, includes a subsidy mechanism for
Internet access at schools and libraries even though Internet service providers persist in claiming an exemption
from financially supporting universal service funding; and
Diversifying Internet services now include unregulated features functionally equivalent to what regulated common
C. FCC Reluctance to Change the Status Quo
- In an April 1998 Report to Congress the FCC expressed discomfort
with maintaining a blanket exemption of all types of Internet telephony from universal service funding obligations:
The record currently before us suggests that certain of these ["phone-to-phone" IP telephony] services
lack the characteristics that would render them "information services" within the meaning of the statute,
and instead bear the characteristics of "telecommunications services," [as defined in the Telecommunications
Act of 1996]. . . .To the extent we conclude that the services should be characterized as "telecommunications
services," the providers of those services would fall within the 1996 Act's mandatory requirement to contribute
to universal service mechanisms.
- However, the FCC refused to take a definitive stance "in the absence of a more complete record focused
on individual service offerings." Still, the analysis in
the Report to Congress provides significant insight on future Commission rulemakings and its assessment of how
the Internet affects the Congressionally-mandated universal service mission. The Commission considers information
services, a means to "buttress, not hinder, universal service,"
particularly when such services stimulate demand for basic services that make universal service subsidy contributions.
On the other hand, information services hinder the universal service mission if providers of such services also
offer telecommunication services and do so in a manner that exploits regulatory anomalies and loopholes thereby
exempting them from universal service obligations and reducing the funds available for subsidization.
D. The Definitions of Telecommunications and Information
- The FCC reiterated its view that the Telecommunications Act of 1996 legislated a regulatory dichotomy between
telecommunications and information services much like what the Commission had previously done in its Computer
Inquiries regulatory proceeding and what the Modification
of Final Judgment (MFJ) established in setting the terms and conditions
for the divestiture of the AT&T Bell Operating Companies.
Using historical references to its basic/enhanced services regulatory dichotomy and the telecommunications/information
services dichotomy contained in the MFJ, the Commission attempted to maintain a "bright line" distinction
between regulated, basic telecommunications and unregulated services that add information processing enhancements. Operators providing the former have a duty to contribute to universal
service funding, but providers of the latter do not.
- Unfortunately for the FCC such a clean semantic dichotomy cannot operate in a time of rapid technological evolution
and convergence. Enhanced service providers are not simply access charge exempt users of telecommunications, because
to some extent they provide services to third parties and these services increasingly provide substitutes for services
telecommunications carriers provide. Likewise, Congress ordered the FCC to consider the impact of mixed or hybrid
services, which have both telecommunications and information service characteristics, on universal service definitions.
The Commission expressly recognized that the Internet integrates both telecommunications and information services,
but that ISPs "generally do not provide telecommunications."
However, the provision of transmission capacity to ISPs does constitute a "telecommunications service." Presumably, any basic telecommunications service routed via such
leased capacity by an ISP does not absolutely convert into "information services" as defined by the Telecommunications
Act, simply because an ISP offers a blend of services over telecommunications
- In its 1998 Report to Congress the FCC also acknowledged the view of Senators Burns and Stevens that regulatory
mutual exclusivity cannot work in instances where a single enterprise provides both telecommunication and information
services, or for services that combine aspects of both classifications.
Nevertheless, the Commission stuck to its reliance on the semantic dichotomies established by the Computer Inquiries
and the MFJ, and the pragmatic view that because all information services use basic transport capacity as a building
block, it "would be difficult to devise a sustainable rationale under which all, or essentially all, information
services did not fall into the telecommunications service category."
- Accordingly the Commission reiterated the need for an absolute regulatory dichotomy based on a functional analysis:
Under this interpretation, an entity offering a simple, transparent transmission path, without the capability
of providing enhanced functionality, offers telecommunications. By contrast, when an entity offers transmission
incorporating the "capability for generating, acquiring, storing, transforming, processing, retrieving, utilizing,
or making available information," it does not offer telecommunications. Rather, it offers an "information
service" even though it uses telecommunications to do so. We believe that this reading of the statute is most
consistent with the 1996 Act's text, its legislative history, and its procompetitive, deregulatory goals.
VII. Internet Telephony as a Telecommunications
- As a result of its decision to stick to mutually exclusive categories, the FCC recognized the duty to categorize
Internet-mediated telephony as either a telecommunication service or an information service. Despite its disinclination
to regulate the Internet, the FCC acknowledged that the "record currently before us suggests that certain
'phone-to-phone IP telephony' services lack the characteristics that would render them 'information services' within
the meaning of the statute, and instead bear the characteristics of telecommunications services." "Phone-to-phone IP telephony" enables users to access Internet-mediated telecommunication
services via ordinary telephone handsets and pay phones instead of specially-configured personal computers. With
the ease of ordinary telephone access, the market for Internet
telephony may grow substantially. Should this occur, the financial demands of a now expanded universal service
mission may exceed available funding sources. A real potential
exists for significant migration of traffic from customary switching and routing, subject to access charges and
universal service funding ("USF") contribution requirements, to Internet-mediated switching and routing
heretofore exempt from access charges and USF contribution requirements.
- Because Internet telephony has several component parts, possibly offered by different companies, the FCC had
to specify which aspects of Internet telephony constitute telecommunications potentially subject to regulation
and the duty to make USF contributions. The Commission stated that the definition of telecommunications contained
in the Telecommunications Act of 1996 limits even the potential for regulation to transmitters of voice and data
traffic, thereby excluding providers of hardware and software. Accordingly "[c]ompanies that only provide
software and hardware installed at customer premises do not fall within this category, because they do not transmit
- Similarly the Commission expressed an unwillingness to deem ISP-facilitated telecommunications computer-to-computer
Internet telephony. While packets of voice communication are transmitted via ISP-owned or leased facilitates, the
Commission chose to emphasize that such voice packets are indistinguishable from the stream of other data and information
packets that have no similarity to a telecommunications service. The FCC noted that an ISP may not even know that
a customer has configured an Internet telephony service, using freely and easily accessed software secured from
someone other than the ISP. The Commission concluded that an ISP does not provide a telecommunication service merely
by serving as a conduit for accessing the Internet, because common carriers typically elect to secure that status
and Title II of the Communications Act contemplates a conscious exercise of provisioning or offering telecommunications
- On the other hand, phone-to-phone Internet telephony presented the FCC with "a different case." For ventures meeting a four-part test, the Commission stated its tentative conclusion that the service provided constitutes telecommunications,
From a functional standpoint, users of these services obtain only voice transmission, rather than information
services such as access to stored files. The provider does not offer a capability for generating, acquiring, storing,
transforming, processing, retrieving, utilizing, or making available information. Thus, the record currently before
us suggests that this type of IP telephony lacks the characteristics that would render them information services
within the meaning of the statute, and instead bear the characteristics of telecommunications services.
- Despite its preliminary assessment, the FCC refrained from making "any definitive pronouncements in the
absence of a more complete record focused on individual service offerings." The Commission deferred a more definitive resolution of these issues "pending the development
of a more fully-developed record because we recognize the need, when dealing with emerging services and technologies
in environments as dynamic as today's Internet and telecommunications markets, to have as complete information
and input as possible." The Commission
did note that a finding that phone-to-phone Internet-mediated telephony constitutes telecommunications would trigger
a mandatory USF contribution from such operators as required by Section 254(d) of the Communications Act. But even
in the face of this financial contribution, the Commission implied that it might not have to subject such operators
to the full array of common carrier requirements contained in the Communications Act, because Section 10 of the
Act, established by the Telecommunications Act of 1996, permits
the Commission to forbear from imposing any rule or requirement of the Communications Act on telecommunications
carriers. For example, the Commission stated that it might not
have to subject providers of Internet telephony to the international accounting rate toll revenue division system,
presumably because the Commission recognizes the consumer benefits accrued by access to services that can undercut
and arbitrage the current, above-cost regime.
VIII. Should ISPs Contribute to Universal
- Section 254(d) of the Communications Act, as amended, mandates universal service contributions from "every
telecommunications carrier that provides interstate telecommunications services." In application the USF obligation has extended to paging providers, because they are providers
of telecommunications service despite the limited use of the local loop and no opportunity to receive financial
support themselves. Some private telecommunication carriers also must make USF payments even though they operate
as non-common carriers. In its 1998 Report to Congress the FCC
stated its intention to "construe broadly the class of carriers that must contribute."
- On the other hand, the Commission declined to require such contributions from ISPs offering Internet-mediated
services, including ones that fall within the "mixed or hybrid" category identified by Senators Stevens
and Burns. The Commission chose to adhere to the functional analysis established in the Computer Inquiries
and the MFJ, and it insistence on mutual exclusivity between telecommunications and information services. This
means that the carriers leasing telecommunications transport capacity to ISPs must include the revenues derived
from those lines in their universal service contribution base,
but that the ISP lessee has no such obligation. The FCC provided:
The provision of Internet access service involves data transport elements: an Internet access provider must
enable the movement of information between customers' own computers and the distant computers with which those
customers seek to interact. But the provision of Internet access service crucially involves information-processing
elements as well; it offers end users information-service capabilities inextricably intertwined with data transport.
As such, we conclude that it is appropriately classed as an "information service."
- The FCC used as an illustrative example the travel planning and airline reservation services available from
Microsoft Corporation via the Internet. Microsoft's Expedia World Wide Web site allows customers to check air fares
and purchase airline tickets via the World Wide Web. Because users access the Expedia Web Page via telecommunication
networks configured for Internet services, the FCC acknowledged that "Microsoft can be said to offer a service
that 'includes telecommunications.'" However, customers of
Expedia did not seek or obtain a telecommunications service. They merely secured a link to Expedia via local and
inter-exchange telecommunication carriers. "Phrased another way, Microsoft arguably offers a service that
'includes telecommunications,' but it does not 'provide' telecommunications to customers."
- The FCC also expressed reluctance to expand the scope of regulation and USF liability in a Report to Congress
instead of a rulemaking that would provide a forum for collecting more data and views. Additionally the Commission
had to consider the overall effect of the Internet and Internet telephony on the universal service mission. On
one hand it is clear that phone-to-phone Internet telephony can reduce overall USF contributions by providing a
loophole for functionally equivalent traffic.
If such providers are exempt from universal service contribution requirements, users and carriers will have
an incentive to modify networks to shift traffic to Internet protocol and thereby avoid paying into the universal
service fund or, in the near term, the universal service contributions embedded in interstate access charges. If
that occurs, it could increase the burden on the more limited set of companies still required to contribute.
- But on the other hand a proliferating network of networks, stimulates demand for a variety of telecommunications
facilities and services. The Commission acknowledged both outcomes and concluded that for the time being the Internet,
and all services available via the Internet, pose no threat to universal service:
For purposes of this Report, we believe that the central issue is whether our decision that Internet access
is not a "telecommunications service" is likely to threaten universal service. In other words, will Internet
usage place such a strain on network resources that incumbent LECs will be unable to provide adequate service?
As we noted in the Access Reform Order, both ILECs and the Network Reliability and Interoperability Council
agreed that Internet usage did not pose any threat to overall network reliability.
A. Internet Usage as a Financial Threat to Conventional
- The FCC appears to have emphasized the ability of the telecommunications infrastructure to accommodate Internet
access as proof that Internet-mediated telecommunications will not threaten universal service objectives. The Commission
ignored or discounted the full future consequences resulting from expanding use of the Internet as a substitute
for existing circuit switched telephony services. Internet operators already recognize the financial and operational
dividends accruing from a legislative and regulatory classification that enables them to circumvent telecommunications
regulation even as they increasingly offer substitutes for telecommunication services. Because the Internet has
diversified with the number and type of operators proliferating, the major ISPs already have begun to behave and
operate much like telephone companies at least insofar as how they interconnect facilities and settle accounts
for handling traffic originating or terminating on another ISP's network. Technological innovations may make it
possible for such ISPs to reduce or even to eliminate reliance on conventional circuit-switched facilities.
- Under the current FCC interpretation of the '96 Act and the Commission's definition of enhanced services, ISPs
can convert the Internet into a functional equivalent of an interexchange carrier's network. Having exploited the
technological versatility of the Internet to switch and route voice traffic in real time, ISPs have proceeded to
demand access and transit fees no different than what a telecommunications carrier would require. Regardless of
whether types of Internet telephony now constitutes telecommunications, ISPs already have revised traffic routings
and facilities interconnection agreements to approximate the hierarchical characteristic of the telecommunications
- If they do not already provide the functional equivalent of telecommunications, it is only a matter of time
before the volume of voice traffic handled by ISPs causes the FCC to reconsider its statutory interpretations and
to confirm the suspicions it raised in the Congressional Report. When an ISP provides long distance telephone service,
accessed by telephone and terminated to a telephone, the intermediary transmission using the Internet Protocol
does nothing to refute the view that but for the Internet option such traffic otherwise would transit conventional
routes and trigger the payment of access charges and USF contributions by the interexchange carrier.
- ISP provision of functionally equivalent long distance telephone service, while a positive arbitrage and competitive
force, has the potential to trigger two significantly adverse
impacts on the universal service mission:
1) ISPs may trigger a migration of long distance telephony traffic from telecommunications carriers thereby
reducing the sum of funds available to support the universal service mission even as the Telecommunications Act
of 1996 expands the reach and cost of this mission. Similarly, telecommunication carriers may offer their own Internet
telephony services that qualify for an exemption from access charge and USF payments in response to traffic migration
and despite the impact such cannibalization will have on financial margins; and
2) The decision by major ISPs to restructure interconnection arrangements in a manner analogous to conventional
telephone carrier-to-carrier settlements will shift costs downstream to smaller ISPs. While financially justified,
imposing transit payments on small ISPs might trigger an industry consolidation and bring an end to flat-rated,
averaged cost retail charges. Reduced competition may result in unserved, primarily rural areas, or at least the
potential that ISPs will no longer charge a single rate regardless of user location.
B. Internet Telephony Traffic Migration and Cannibalization
- In less than two years Internet telephony has evolved from a hobby to a business. Major incumbent telecommunications
carriers like AT&T, Deutsche Telekom and MCI have embraced the technology, despite the potential for cannibalization
of higher margin, conventional circuit switched services. A variety of new ventures, including VocalTec, Delta
Three, IDT, and RSL Communications already offer services that substantially undercut, retail telephony rates.
For example, RSL Communications recently announced international Internet telephony prices at one-half the retail
rate, including a 29 cent per minute rate from the United States to Hong Kong.
- Currently the volume of Internet-mediated telephony is insignificant. Domestic United States long distance
telephone rates have declined to only a few cents above the access charge payment made by interexchange carriers
to local exchange carriers. Accordingly, unless Internet telephony provides a more efficient routing option, rather
than an opportunity to evade regulator imposed surcharges, the Internet may not present much of a competitive challenge
to dial up, domestic consumer services. However, with expanded Internet commerce opportunities arising, the potential
exists for an Internet-mediated calls to customer service representatives and for corporations to diversify their
Internet investment to include voice telephony in lieu of wide area telephone service lines, international and
domestic private lines and other circuit switched options.
C. ISPs as Telephone Companies Lacking a Universal
- Unlike their telecommunications carrier counterparts ISPs have no universal service mission, nor do they bear
any of the rights and responsibilities incurred by common carriers. Even though the terms and conditions for Internet
operator network interconnection, traffic routing and revenue settlements now parallel how telephone companies
do business, the FCC does not consider ISPs to be telecommunications carriers. Accordingly, ISPs may refuse to
interconnect lines with other operators. They may discriminate among operators and consumers. Additionally, they
have no obligation, as do local and interexchange carriers under the '96 Act,
to average costs and provide rural consumers with the same services available in urban locales at comparable rates.
- Despite visions of a ubiquitous national information infrastructure,
the potential exists for information superhighways to bypass rural and high cost areas absent the kind of subsidization
that has supported universal telecommunication service. The goal of eliminating free riding by smaller ISPs has
resulted in higher transit costs borne by downstream "client" operators. No one can object to efforts
by upstream carriers, which have invested in greater bandwidth and geographical reach, to recoup infrastructure
investments from non-peer operators unable or unwilling to make similar investments. But the consequences of such
transit and interconnection charges may likely include market consolidation and the elimination of averaged, flat-rated
consumer access to the Internet. Already the number of ISPs has significantly dropped as local and interexchange
carriers seek to accrue economies of scope and as some ISPs seek to achieve a national footprint and accrue economies
of scale. Recently America On Line raised its unlimited, monthly rate from $19.95 to $21.95. A small, rural ISP,
facing higher transit fees from upstream ISPs may not be able to generate profits even if it could match the AOL
flat rate, or AOL's higher charge for rural users who access the service via a more expensive wide area telephone
service ("WATS") lines in lieu of a local number.
- The combination of market consolidation and higher transit costs for client ISPs may reduce or eliminate service
options for users in rural locales. Nothing forecloses such an ISP from charging higher rates in markets lacking
robust competition. If rural consumers incur higher costs to access the Internet--as financially justified as this
may be--then the differential in market penetration rates between urban and rural areas will expand. The universal
service support mechanism currently in place can only subsidize Internet access in schools and libraries and not
from individual residences. Hence, we may see declining opportunities for low cost Internet access at the very
time Internet services and features proliferate.
- Technological and marketplace conditions favor increased reliance on the Internet as the preferred medium for
both interactive information and telecommunications services. In advance of legislative and regulatory responses
to the Internet's maturation, ISPs already have revised their interconnection and settlement agreements to reflect
a hierarchical infrastructure more akin to the telecommunications industrial structure than a flat and democratic
"network of networks." Many ISPs now offer the functional equivalent of telecommunications services and
they have implemented a financial settlement system that accounts for the use of each other's facilities for "transiting"
- Already the foundation exists for the Internet to merge with, or become indistinguishable from the various
carrier networks that provide telecommunications. Most incumbent telecommunications carriers already provide Internet
services and increasingly ISPs provide telecommunications services, often via the telecommunication facilities
of incumbent local and interexchange carriers. This technological and marketplace convergence will necessitate
legislative and regulatory responses to eliminate asymmetrical regulations and other anomalies that distort the
marketplace. Until such adjustments occur, we cannot easily determine whether an Internet-mediated, packet-switched
telecommunication service operates more efficiently than conventional circuit switched services. Regardless of
its comparative efficiency, the Internet will become a desirable alternative for routing telecommunications traffic,
simply because both carriers and consumers can evade having to pay access charges and contribute to universal service
- State and Federal regulators have often used asymmetrical regulation to incubate technologies and to stimulate
competition. Clearly the Internet has thrived in the mostly unregulated environment ISPs currently enjoy. But at
some point, the Internet will have matured and diversified to a point where a preferential regulatory status unfairly
tilts the competitive playing field and creates unnecessary marketplace distortions. The Internet has the capacity
and versatility to become a one-size-fits-all telecommunication and information services medium. As it becomes
an essential medium, it likewise will become the focal point for universal service initiatives, even as ISPs now
avoid financially supporting this mission.
[*] Professor of Telecommunications Penn State University 201-D Carnegie
Building University Park, Pennsylvania 16802 (814) 863-7996; firstname.lastname@example.org.
 "For most usage, the marginal
packet placed on the Internet is priced at zero." Jeffrey K. MacKie-Mason & Hal R. Varian, Economic
FAQs About the Internet, in INTERNET ECONOMICS 27, 39 (Lee
W. McKnight & Joseph P. Bailey eds., 1997).
 Rather than lease lines throughout
the nation and expand capacity, the free rider ISP may attempt to hand off traffic to a larger, better equipped
ISP at the closest public peering point. The free rider ISP considers traffic a "hot potato" and has
a financial incentive to pass such traffic off to any other ISP who agrees to take it.
 "Nearly all usage of the Internet
backbones is unpriced at the margin. Organizations pay a fixed fee in exchange for unlimited access up to the maximum
throughput of their particular connection. This is a classic problem of the commons. The externality exists because
a packet-switched network is a shared-media technology: each extra packet that Sue User sends imposes a cost on
all other users because the resources Sue is using are not available to them. This cost can come in the form of
delay or lost (dropped) packets." MacKie-Mason & Varian, supra note 1, at 40-41.
 Other pricing mechanisms under consideration
consider service quality and demand elasticity. The Resource Reservation Protocol ("RSVP") will establish
a virtual, dedicated link between end-user, also known as the "client," and the desired source of information,
also known as the "server."
 For background on Internet pricing
alternatives see, e.g., Richard A. Cawley, Interconnection, Pricing, and Settlements: Some Healthy Jostling
in the Growth of the Internet, in COORDINATING THE INTERNET 346-376 (Brian Kahin & James H. Keller eds., 1997); Nicholas Economides, The Economics
of Networks, 14 INT'L J. INDUS. ORG.
673 (1996); T.B. Fowler, Internet Access and Pricing: Sorting Out the Options, 21 TELECOMM.
POL. 44-52 (1997).
 "Since its inception in the 1930's,
it has been the policy of the FCC to promote service to all households that desire telephone service. Telephone
service provides a vital link to emergency services, to other government services, and to surrounding communities.
For many years the support mechanisms for high cost areas were handled privately by the telephone industry, primarily
by AT&T. With the break up of AT&T in the early 1980's, the FCC set up a mechanism to ensure that the rates
of local telephone companies would remain affordable to consumers. The FCC's programs to assist low income consumers,
described in detail below, began in 1985. These programs reduce the monthly local telephone charges for low income
consumers and assist them with initiation fees for local telephone service." Federal Communications Commission,
Consumer Information, The FCC's Universal Service Support Mechanisms, (visited July 10, 1998) <http://www.fcc.gov/Bureaus/Common_Carrier/Factsheets/univers.html>.
 Title II of the Communications Act
of 1934, as amended, 47 U.S.C. §§ 201-275 (1997) inter alia requires telecommunications common
carriers to establish "just and reasonable . . . charge[s], practice[s], classification[s], or regulation[s]."
47 U.S.C. § 201(b). Section 201(a) makes it unlawful for "any common carrier to make any unjust or unreasonable
discrimination in charges, practices, classifications, regulations, facilities, or services." "The Commission
. . . requires carriers to ensure that individually-negotiated service offerings are available to similarly-situated
customers, regardless of their geographic location." Order on Reconsideration, Policy and Rules Concerning
the Interstate, Interexchange Marketplace, Implementation of Section 254(g) of the Communications Act of 1934,
as amended, CC Docket No. 96-61, 12 F.C.C.R. 15014, 15051 (Aug. 20, 1997) (citing Report and Order, Policy and
Rules Concerning the Interstate, Interexchange Marketplace; Implementation of Section 254(g) of the Communications
Act of 1934, as amended, CC Docket No. 96-61, 11 F.C.C.R. 9564, 9577 (Aug. 7, 1996)).
 For analysis of the traditional differences
between common and private carriers and how circumstances reduce such distinctions, see generally, Robert
M. Frieden, Schizophrenia Among Carriers: How Common Carriers and Private Carriers Trade Places, 3 MICH. TELECOMM. & TECH. L. REV.
2 (1997) <http://www.law.umich.edu/mttlr/volthree/frieden.html>;
Robert M. Frieden, Contamination of the Common Carrier Concept in Telecommunications, 19 TELECOMM.
POL. 685-697 (1995).
 Lee W. McKnight & Joseph P. Bailey,
An Introduction to Internet Economics, in INTERNET ECONOMICS,
supra note 1, at 4.
 Id. at 5.
 The deployment of a new telecommunications
and information processing facility typically brings on-line substantial, additional capacity. It may take some
time for additional demand to fill up the additional available capacity. Until such time, ISPs may view the dormant
capacity as available for little if any additional cost.
 Padmanabhan Srinagesh, Internet
Cost Structures and Interconnection Agreements, in INTERNET ECONOMICS,
supra note 1, at 131.
 A positive network externality exists
when the cost incurred by a user of the Internet does not fully reflect the benefit derived with the addition of
new users and points of communications. See, e.g., Joseph Farrell & Garth Saloner, Standardization,
Compatibility and Innovation, 16 RAND J. ECON. 70 (1985); Michael
L. Katz & Carl Shapiro, Network Externalities, Competition and Compatibility, 75 AM.
ECON. REV. 424 (1985).
 "The Internet backbone is the
data network's equivalent of long--distance service for voice communications. Fewer than 40 companies provide Internet
backbones and only about five dominate the market." Jonathan Marshall, Concerns Over WorldCom, MCI Merger
Mount, S.F. CHRONICLE, Mar. 11, 1998, at B1.
 For example in 1997 UUNet, a major
Internet backbone provider decided to reduce the number of its SKA peering agreements and replace them with a "for
compensation transit" agreement. "To qualify as a UUNet peer now, a company must operate a national network
with a dedicated, diversely routed 'backbone' of high capacity, which can connect to UUNet's backbone at that same
speed in at least four geographically diverse locations." Beth Berselli, UUNet Outdistances Its Peers;
Smaller Providers Decry A New Fee for Service, WASHINGTON POST,
Sept. 8, 1997, at F17.
 Joseph P. Bailey, The Economics
of Internet Interconnection Agreements, in INTERNET ECONOMICS,
supra note 1, at 161.
 For background on the manner by
which international carriers agree to switch and route each others' traffic, see generally Rob Frieden,
INTERNATIONAL TELECOMMUNICATIONS HANDBOOK (1996).
 Incumbent carriers do not need interconnection
with these new carriers to achieve expanded geographical coverage. Accordingly incumbent carriers have no incentive
to interconnect and recognize that such interconnection promotes traffic and revenue migration. See First
Report and Order, Implementation of the Local Competition Provisions in the Telecommunications Act of 1996, CC
Docket No. 96-98, 11 F.C.C.R. 15499, 15612 (Aug. 8, 1996) [hereinafter Local Competition First Report and Order];
Order on Reconsideration, Implementation of the Local Competitive Provisions in the Telecommunications Act of 1996,
CC Docket No. 96-98, 11 F.C.C.R. 13042 (Sept. 27, 1996); Second Order on Reconsideration, FCC 96-476 (rel. Dec.
16, 1996), Iowa Utilities Board v. FCC, and consolidated cases, 109 F.3d 410 (8th Cir. 1996). Implementation
of the Local Competition Provisions in the Telecommunications Act of 1996, CC Docket No. 96-98, Second Report and
Order, and Memorandum Opinion and Order, FCC 96-333 (rel. Aug. 8, 1996) (Second Interconnection Order); Bell
Atlantic Telephone Companies v. FCC, (D.C. Cir. Sept. 16, 1996), California v. FCC, (8th Cir. Sept.
23, 1996), SBC Communications, Inc. v. FCC, (D.C. Cir. 1996).
 In the United States the "settlements
and separations" cost allocation process between AT&T and both affiliated and unaffiliated carriers constituted
a major source of revenues for underwriting the below cost provision of local telephone services. Prior to imposition
of the access charge system, "the charges for using the long-distance network [were] artificially inflated
(on the order of sixty percent) because customers [were] required, by the 'separations and settlements' process
to contribute to the payment of costs that would not be avoided even if their long-distance calling were curtailed."
Alfred Kahn, The Road to More Intelligent Telephone Pricing, 1 YALE J. ON
REG. 139, 141-142 (1984). "'Separations and settlements' is the process by which investments
and expenses of telephone companies are allocated between the interstate and intrastate jurisdictions and, similarly,
between intrastate toll calling and local exchange rates. Such allocations provide a mechanism by which revenue
requirements for interstate and intrastate operations are developed." Id. at 142 n.10. For some rural
LECs the toll revenue division process with AT&T Long Lines generated well over half of the carriers' total
 For a complete history of accounting
rate regulation by the Federal Communications Commission, see Rob Frieden, International Toll Revenue
Division: Tackling the Inequities and Inefficiencies, 17 TELECOMM. POL.
221-233 (1993); Leland Johnson, Dealing With Monopoly In International Telephone Service: A U.S. Perspective,
4 INFO. ECON. & POL. 225 (1989/91); Ken Cheong
& Mark Mullins, International Telephone Service Imbalances Accounting Rates and Regulatory Policy, 15
TELECOMM. POL. 107-118 (1991); Kenneth B. Stanley, Balance of Payments
Deficits, and Subsidies in International Communications Services: A New Challenge to Regulation, 43 ADMIN. L. REV. 411 (1991); Robert Frieden, Accounting Rates: The Business
of International Telecommunications and the Incentive to Cheat, 43 FED. COMM.
L. J. 111 (1991); Henry Ergas & Paul Peterson, International Telecommunications Settlement Arrangements--An
Unsustainable Inheritance?, 15 TELECOMM. POL. 29 (1991).
 Report and Order, 800 Data Base
Access Tariffs and the 800 Service Management System Tariff, CC Docket No. 93-129, 11 F.C.C.R. 15227 n.322 (Oct.
28, 1996) citing Memorandum Opinion and Order, Waiver of Access Billing Requirements and Investigation of
Permanent Modifications, CC Docket No. 86-104, 2 F.C.C.R. 4518 (July 31, 1987). The FCC defines a Meet Point as
"a point, designated by two carriers, at which one carrier's responsibility for service begins and the other's
ends. A meet point interconnection arrangement requires each carrier to build and maintain its network to the meet
point. Each carrier also pays its share of the cost of the interconnection arrangement." Notice of Proposed
Rulemaking, Implementation of the Local Competition Provisions in the Telecommunications Act of 1996, CC Docket
No. 96-98, 11 F.C.C.R. 14171 n.80 (Apr. 19, 1996).
 See Midwest Video Corp. v. FCC,
571 F.2d 1025 (8th Cir. 1978), aff'd 440 U.S. 689 (1979) (overturning FCC public access requirements on
grounds that cable television does not constitute common carriage).
 The FCC first attempted to create
a "bright line" separation between enhanced service functions, which are unregulated and subject to robust
competition and basic transport capacity that is regulated and not robustly competitive. See Second Computer
Inquiry, Final Decision, 77 F.C.C.2d 384 (1980) modified 84 F.C.C.2d 50 (1980), further modified,
88 F.C.C.2d 512 (1981), aff'd sub nom. Computer & Communications Indus. Ass'n v. FCC, 693 F.2d
198 (D.C. Cir. 1982). However, the Commission subsequently decided that structural separation imposed unnecessary
costs and burdens. It opted for non-structural safeguards like account auditing and the complaint process. See
Third Computer Inquiry, Report and Order, 104 F.C.C.2d 958 (1986), modified 2 F.C.C.R. 3035 (1987),
further recon., 3 F.C.C.R. 1135 (1988); Phase II, Report and Order, 2 F.C.C.R. 3072 (1987), recon. denied,
3 F.C.C.R. 1150 (1988); partially reversed and remanded sub nom., California v. FCC, 905 F.2d 1217
(9th Cir. 1990), on remand, 6 F.C.C.R. 7571 (1991), partially reversed and remanded sub nom., California
v. FCC, 39 F.3d 919 (9th Cir. 1994). See also Robert M. Frieden, The Third Computer Inquiry: A Deregulatory
Dilemma, 38 FED. COMM. L.J. 383 (1987); Robert M. Frieden, The
Computer Inquiries: Mapping the Communications/Information Processing Terrain, 33 FED.
COMM. L.J. 55 (1981).
 "The current universal service
system is a patchwork quilt of implicit and explicit subsidies. These subsidies are intended to promote telephone
subscribership, yet they do so at the expense of deterring or distorting competition. Some policies that traditionally
have been justified on universal service considerations place competitors at a disadvantage. Other universal service
policies place the incumbent LECs at a competitive disadvantage. For example, LECs are required to charge interexchange
carriers a Carrier Common Line charge for every minute of interstate traffic that any of their customers send or
receive. This exposes LECs to competition from competitive access providers, which are not subject to this cost
burden. Hence, section 254 of the [Telecommunications Act of 1996] Act requires the Commission, working with the
states and consumer advocates through a Federal/State Joint Board, to revamp the methods by which universal service
payments are collected and disbursed." Implementation of the Local Competition Provisions in the Telecommunications
Act of 1996, Interconnection between Local Exchange Carriers and Commercial Mobile Radio Service Providers, 11
F.C.C.R. 15499 (1996). See also Federal-State Joint Board on Universal Service, Report and Order, 12 F.C.C.R.
8776 (1997), modified, 12 F.C.C.R. 10095 (1997).
 Telecommunications Act of 1996,
47 U.S.C. § 151 (1996).
 47 U.S.C. § 254(b)(2).
 The 1996 Act specifically identified
universal service beneficiaries: "Consumers in all regions of the Nation, including low-income consumers and
those in rural, insular, and high cost areas." 47 U.S.C. § 254(b)(3), as well as "schools, health
care [facilities] and libraries." 47 U.S.C. § 254(b)(6).
 Federal-State Joint Board on Universal
Service, Notice of Proposed Rulemaking and Order Establishing Joint Board, 11 F.C.C.R. 18092 (1996).
 Federal-State Joint Board on Universal
Service, Recommended Decision, 12 F.C.C.R. 87 (1996).
 Federal-State Joint Board on Universal
Service, Report and Order, 12 F.C.C.R. 8776 (1997); Federal-State Joint Board on Universal
Service, Fourth Order, Report and Order, 13 F.C.C.R. 5318 (1997).
 The 1996 Act defines telecommunications
to mean "the transmission, between or among points specified by the user, of information of the user's choosing,
without change in the form or content of the information as sent and received." 47 U.S.C. § 153(43).
"[A]ny provider of telecommunications services" shall constitute a telecommunications carrier and "shall
be treated as a common carrier under this Act only to the extent that it is engaged in providing telecommunications
services." 47 U.S.C. § 153(44).
 "Nothing in this section shall
be construed to treat interactive computer services as common carriers or telecommunications carriers." 47
U.S.C. § 223(e)(6). The Communications Act defines interactive computer service as "[a]ny information
service, system, or access software provider that provides or enables computer access by multiple users to a computer
server, including specifically a service or system that provides access to the Internet and such systems operated
or services offered by libraries or educational institutions." 47 U.S.C. § 230(e)(2).
 "Consumers in all regions of
the Nation, including low-income consumers and those in rural, insular, and high cost areas, should have access
to telecommunications and information services, including interexchange services and advanced telecommunications
and information services, that are reasonably comparable to those services provided in urban areas and that are
available at rates that are reasonably comparable to rates charged for similar services in urban areas." 47
U.S.C. § 254(b)(3).
 Hal R. Varian, How to Strengthen
The Internet's Backbone, WALL ST. J., June 8, 1998, at A22.
 Computer Inquiries, supra
 Section 3 (20) of the Telecommunications
Act of 1996, Pub. L. No. 104-104, 110 Stat. 56, signed into law Feb. 8, 1996, codified at 47 U.S.C. §
153(20) defines information services as "the offering of a capability for generating. acquiring, storing,
transforming, processing, retrieving, utilizing or making available information via telecommunications." For
an example of how Internet service providers interpret the Telecommunications Act of 1996 to support continued
unregulated status, see, e.g., Federal-State Board on Universal Service, Comments of the Commercial Internet
Exchange Association, (visited Oct. 4, 1998) <http://www.cix.org/docs-98/cix98-05.html>
(arguing that Internet access providers should not have to contribute to a fund supporting universal telecommunication
service, because they are information service providers not telecommunications carriers).
 The 1996 Act defines telecommunications
as "the transmission, between or among points specified by the user, of information of the user's choosing,
without change in the form or content of the information as sent and received." 47 U.S.C. § 153(43).
A telecommunications carrier "shall be treated as a common carrier . . . [when] providing telecommunications
services." 47 U.S.C. § 153(44).
 Michael Gaddis, Brokered Private
Peering (BPP) Group, (visited Oct. 4, 1998) <http://boardwatch.internet.com/mag/98/may/bwm29.html>.
 For background on the possible regulation
of Internet telephony, see Robert M. Frieden, Dialing for Dollars: Will the FCC Regulate Internet Telephony?,
23 RUTGERS COMPUTER & TECH. L.J. 47 (1997),
and Dennis W. Moore, Jr., Regulation of the Internet and Internet Telephony Through the Imposition of Access
Charges, 76 TEX. L. REV. 183 (1997).
 Federal-State Joint Board on Universal
Service, Report to Congress, 13 F.C.C.R. 11501 (1998) [hereinafter 1998 Universal Service Report to Congress].
 The FCC responded to an amendment
to an Appropriations Act passed on November 27, 1997. See Departments of Commerce, Justice, and State, the
Judiciary, and Related Agencies Appropriations Act, 1998, Pub. L. No. 105-119, 111 Stat. 2440, 2521-2522, §
623. The Appropriations Act required the Commission to submit a report to Congress, no later than April 10, 1998,
providing a detailed review of the Commission's interpretations and implementation of language contained in the
Telecommunications Act of 1996:
Specifically, Congress required the FCC to review: (1) the definitions of "information service", "local
exchange carrier", "telecommunications", "telecommunications service", "telecommunications
carrier", and "telephone exchange service" that were added to section 3 of the Communications Act
of 1934 (47 U.S.C. 153) by the Telecommunications Act of 1996 and the impact of the Commission's interpretation
of those definitions on the current and future provision of universal service to consumers in all areas of the
Nation, including high cost and rural areas; (2) the application of those definitions to mixed or hybrid services
and the impact of such application on universal service definitions and support, and the consistency of the Commission's
application of those definitions, including with respect to Internet access under section 254(h) of the Communications
Act of 1934 (47 U.S.C. 254(h)); (3) who is required to contribute to universal service under section 254(d) of
the Communications Act of 1934 (47 U.S.C. 254(d)) and related existing Federal universal service support mechanisms,
and of any exemption of providers or exclusion of any service that includes telecommunications from such requirement
or support mechanisms; (4) who is eligible under sections 254(e), 254(h)(1), and 254(h)(2) of the Communications
Act of 1934 (47 U.S.C. 254(e), 254(h)(1), and 254(h)(2)) to receive specific Federal universal service support
for the provision of universal service, and the consistency with which the Commission has interpreted each of those
provisions of section 254; and (5) the Commission's decisions regarding the percentage of universal service support
provided by Federal mechanisms and the revenue base from which such support is derived.
 1998 Universal Service Report
to Congress, supra note 42 at ¶ 3.
 See id. at ¶
 See supra note 23.
 United States v. AT&T,
552 F. Supp. 131 (D.D.C. 1982), aff'd sub nom. Maryland v. United States, 460 U.S. 1001 (1983); United
States v. Western Elec. Co., 569 F. Supp. 1057 (D.D.C. 1983) (Plan of Reorganization), aff'd sub nom.
California v. United States, 464 U.S. 1013 (1983).
 "Reading the statute closely,
with attention to the legislative history, we conclude that Congress intended these new terms to build upon frameworks
established prior to the passage of the 1996 Act. Specifically, we find that Congress intended the categories of
'telecommunications service' and 'information service' to be mutually exclusive, like the definitions of 'basic
service' and 'enhanced service' developed in our Computer II proceeding, and the definitions of 'telecommunications'
and 'information service' developed in the Modification of Final Judgment that divested the Bell Operating Companies
from AT&T." 1998 Universal Service Report to Congress, supra note 42 at ¶ 13.
 Even before its 1998 Report to Congress
the FCC chose to establish mutual exclusivity between telecommunications and information services. See In
the matter of Implementation of the Non-Accounting Safeguards of Sections 271 and 272 of the Communications Act
of 1934, as amended, First Report and Order and Further Notice of Proposed Rulemaking, 11 F.C.C.R. 21905, 21955-56,
¶ 102 (1996), Order on Reconsideration, 12 F.C.C.R 2297 (1997), further recon. pending, Second Report
and Order, 12 F.C.C.R. 15756 (1997), aff'd sub nom. Bell Atlantic Telephone Companies v. FCC, 131 F.3d 1044
(D.C. Cir. 1997). The Commission concluded that protocol processing services were information services, rejecting
the possibility of treating such services as telecommunications and thus potentially making them subject to Title
II regulation. Id. at 21956-57, ¶¶ 104-05; see also Universal Service Order, 12 F.C.C.R.
 1998 Universal Service Report
to Congress, supra note 42 at ¶ 15.
 "Moreover, we clarify that
the provision of transmission capacity to Internet access providers and Internet backbone providers is appropriately
viewed as 'telecommunications service' or 'telecommunications' rather than 'information service,' and that the
provision of such transmission should also generate contribution to universal service support mechanisms."
 The Communications Act of 1934 now
defines information service as "the offering of a capability for generating, acquiring, storing, transforming,
processing, retrieving, utilizing, or making available information via telecommunications, and includes electronic
publishing, but does not include any use of any such capability for the management, control, or operation of a
telecommunications system or the management of a telecommunications service." 47 U.S.C. § 153(20) (1997).
 "Senators Stevens and Burns
indicate, an information service provider transmitting information to its users over common carrier facilities
such as the public switched telephone network is a 'telecommunications carrier.'" 1998 Universal Service
Report to Congress, supra note 42 at ¶ 34. The Commission understands the concept of mixed or hybrid
services to refer to "services in which a provider offers a capability for generating, acquiring, storing,
transforming, processing, retrieving, utilizing or making available information via telecommunications, and
as an inseparable part of that service transmits information supplied or requested by the user." Id.
at ¶ 56 (emphasis added).
 Id. at ¶ 57.
 Id at ¶ 39. More simply
the Commission stated: "A telecommunications service is a telecommunications service regardless of whether
it is provided using wireline, wireless, cable, satellite, or some other infrastructure. Its classification depends
rather on the nature of the service being offered to customers. Stated another way, if the user can receive nothing
more than pure transmission, the service is a telecommunications service. If the user can receive enhanced functionality,
such as manipulation of information and interaction with stored data, the service is an information service."
Id. at ¶ 59.
 Id. at ¶ 83.
 Internet telephony "offer[s]
users the ability to call from their computer to ordinary telephones connected to the public switched network,
or from one telephone to another. . . . [A] user first picks up an ordinary telephone handset connected to the
public switched network, then dials the phone number of a local gateway. Upon receiving a second dialtone, the
user dials the phone number of the party he or she wishes to call. The call is routed from the gateway over an
IP network, then terminated through another gateway to the ordinary telephone at the receiving end." Id.
at ¶ 84.
 In June 1998, the FCC limited the
amount of funds available for universal service subsidies to schools and libraries in response to a financial shortfall
in funds raised from interexchange carriers and the decision of most carriers to impose a USF surcharge on consumers.
See Federal Communications Commission, FCC Reforms Universal Service Support Mechanism for Schools and
Libraries, CC Docket No. 96-45, (visited June 22, 1998) <http://www.fcc.gov/Bureaus/Common_Carrier/News_Releases/1998/nrcc8043.html>.
 1998 Universal Service Report
to Congress, supra note 42 at ¶ 86.
 "Without regard to whether
'telecommunications' is taking place in the transmission of computer-to-computer IP telephony, the Internet service
provider does not appear to be 'provid[ing]' telecommunications to its subscribers." Id. at ¶
87 (footnotes omitted).
 Id. at ¶ 88.
 An Internet telephony provider subject
possibly subject to USF contribution requirements must meet the following conditions: (1) it holds itself out as
providing voice telephony or facsimile transmission service; (2) it does not require the customer to use CPE different
from that CPE necessary to place an ordinary touch-tone call (or facsimile transmission) over the public switched
telephone network; (3) it allows the customer to call telephone numbers assigned in accordance with the North American
Numbering Plan, and associated international agreements; and (4) it transmits customer information without net
change in form or content. Id.
 Id. at ¶ 89.
 Id. at ¶ 90.
 47 U.S.C. § 160.
 See 1998 Universal Service
Report, supra note 42 at ¶ 92.
 The Commission concluded that to
be a mandatory contributor to universal service under section 254(d): (1) a telecommunications carrier must offer
"interstate" "telecommunications"; (2) those interstate telecommunications must be offered
"for a fee"; and (3) those interstate telecommunications must be offered "directly to the public,
or to such classes of users as to be effectively available to the public." Universal Service Order, 12 F.C.C.R.
at 9173, citing 47 U.S.C. §§ 153(22), 153(43), and 153(46).
 For example, the Commission held
that operators of interstate private networks that lease excess capacity on a non-common carrier basis should contribute
to universal service. See Universal Service Order, 12 F.C.C.R. at 9178.
 1998 Universal Service Report
to Congress, supra note 42 at ¶ 16.
 Id. at ¶ 67.
 The Commission did acknowledge the
difficulty in concluding whether a universal service contribution should come from an ISP that also happens to
operate as a telecommunication carrier and has provisioned the transport capacity used by the ISP. Currently carriers
using transmission capacity for "internal needs" have no USF obligation as to such capacity, but the
Commission stated its intent to examine the matter in a future proceeding. Id. at ¶ 70.
 Id. at ¶ 80 (citations
 Id. at ¶ 145.
 Id. at ¶ 98.
 Id. at ¶ 97.
 For example, Internet telephony
does not trigger an international accounting rate settlement and places significant downward pressure on above-cost
rates. See Rob Frieden, The Impact of Call-Back and Arbitrage on the Accounting Rate Regime, 21 TELECOMM. POL., No. 9/10, 819-827 (1997).
 RSL Communications Ltd. Introduces
International Internet Phone Calls, BUS. WIRE, Jan. 21, 1998.
 See Communications Act of
1996, as amended, 47 U.S.C. § 254(b)(3).
 See Vice President Al Gore,
Remarks as Delivered to the Superhighway Summit (Jan. 11, 1994), available at <http://www.whitehouse.gov/WH/EOP/OVP/other/superhig.txt>
¶¶ 54, 58 (visited June 18, 1998); Vice President Al Gore, Bringing Information to the World: The
Global Information Infrastructure, 9 HARV. J.L. & TECH. 1 (Winter
1996); see also WILLIAM J. DRAKE, INTRODUCTION:
THE TURNING POINT, in THE
NEW INFORMATION INFRASTRUCTURE: STRATEGIES
FOR U.S. POLICY 4-8 (William J. Drake ed., 1995).