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Friday, March 4, 2005

D-Day for Level 3 Forbearance on VoIP
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Chairman Powell's tenure will end with one last opportunity for him to address the regulatory status of VoIP. Level 3 has filed a petition for the FCC to forbear from assessing access charges on VoIP calls that originate or terminate on the public switched telephone network (PSTN). PFF has already weighed in on the petition here.

There are a number of questions at stake here: What will be the regulatory treatment of VoIP? How will network owners be compensated for traffic flowing over their networks? How can we transition from the current access charge regime that distorts both providers and consumers behavior? The difficulty is that the principles that answer these questions are prudential, meaning they permit no categorical conclusions, just intuitions about what will be the best outcome long-term. And there is of course, the perpetual cynic's question: Cui bono? [That's pretentious Latin for "who benefits"?]

A principle we certainly should want to have vindicated is that VoIP not be dragged back into the legacy world of pervasive economic regulation. Jeff Pulver makes this point. "Keep VoIP free from legacy regulation" is a valuable slogan, notwithstanding its lack of poetry and level of exaggeration. Just like "don't tax the Internet" and "old networks, old rules; new networks, new rules," these slogans are valuable for distinguishing that we do not want to try to subject new technologies to the Procrustean bed of old regulatory categories. As we said in our comments:

The Commission has permitted VoIP to flourish through regulatory forbearance. This course should continue. Keeping VoIP technology from getting dragged back into a decrepit world of legacy regulation should be the Commission's top priority.

On this ground, then, the Level 3 petition merits a grant.

However, clearly a grant would create an arbitrage opportunity. By avoiding access charges, PSTN-touching-VoIP would have an cost advantage over traditional access-charged calls (or rather, traditional circuit switched calls would suffer a disadvantage vis a vis VoIP because access charges represent an artificial inflation of their true cost). If VoIP is going to succeed, it should succeed in the market on the merits, not because regulators allowed it an artificial cost advantage. A grant also creates a constituency that would enjoy this new status quo and lobby to keep it. There must continue to be pressure for comprehensive reform of intercarrier compensation. These considerations weigh against a grant.

The core problem to my mind is not whether VoIP should be charged access as telephony or be under the ESP exemption as an information service. Randy May has already quite capably dismissed this all as tail-chasing metaphysics. Rather, the problem is that intercarrier compensation is such a tightly prescribed, regulator-set fee schedule in the first place.

The ultimate solution, one would think, is bilaterally negotiated intercarrier relationships - that is carrier-to-carrier contracts. (For those worries about 'hold up' problems, other network industries work without regulation and, indeed, one of the purposes of long-term contracts and things like mandatory good faith renegotiation terms is precisely to avoid hold up.)

On the one hand, the current access charge intercarrier compensation model and the positive Level 3 outcome both represent proscriptive regulatory 'solutions' to the intercarier compensation question. What outcome then pushes us out of the current regulatory solutions and toward bilateral negotiation?

I give a slight nod to some sort of grant, or at least partial grant of the Level 3 petition. The principle that VoIP will not be dragged back into the world of legacy regulation is salutary and worth holding onto. The arbitrage opportunity is real, but arbitrage isn't necessarily a dirty word: arbitrageurs help rationalize markets, and this market of carrier-to-carrier compensation is as irrational as they come.

A century of regulation has so distorted rates that the price system in communications does the opposite of what a functioning price system should do. Intercarrier compensation does not - as Hayek would say - communicate costs and allocate scarce resources. Rather, it does what Posner identified - serve the purpose of taxation by regulation. Transitioning from the latter to the former price system, on balance, I think is helped by keeping new technologies out of the old model. (Albeit, neither alternative here has the virtue of truly giving us a freely negotiated functioning intercarrier price system; it is a choice between two regulatory solutions.)

A final question to discuss is the cynic's qui bono? The immediate answer if the petition is granted will be Level 3 and similarly situated carriers, as well as VoIP applications providers will benefit; ILECs not carved out of the petition will lose. [Level 3 cleverly carved out rural providers so as to minimize opposition.] If it is denied, of course, the converse is true. There is a zero sum game aspect to this, which makes for the worst sort of dynamics.

With all these prudential considerations, there may be some intermediate options - and these intermediate options may be necessary to garner 3 votes from the FCC. For one, the FCC could time-limit the grant of the forbearance, say for one or two years. This could allow VoIP to be free, but also keep the pressure on for more broad-based reform of intercarrier compensation. It would also mitigate the fear of a constituency forming to protect an new asymmetrical compensation scheme status quo.

If there is concern about the loss of access revenue, the answer could be some funky rate lower than interstate access, but higher than just recip comp. This would be far from optimal, and any rate would surely have little cost basis. Nevertheless, it might provide a "cushioning" if the FCC is distracted by the effect of lost access on universal service, broadly defined.

Action on the Level 3 petition should be guided by whether you think a grant will get us toward a bilateral negotiation model - a model that exists and succeeds in the close-cousin to the telecommunications sphere, the Internet backbone market. I think a grant, or at least partial grant, would. I therefore hope Chairman Powell gets to Level 3 before the March 22 deadline.

P.S. Stay tuned for a future PFF conference and paper concerning the intercarrier compensation practices in other network industries.

posted by Ray Gifford @ 1:30 PM | VoIP

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