Internet collapsing distinctions between local and long-distance service

Dec. 1, 1999

Industry plans to de-emphasize the offering of discrete services and usage-sensitive pricing and shift to offering a "package" for a fixed charge that one day could mask Internet access fees.

Distinctions between local, long-distance, and Internet telecommunications will collapse when companies provide a "package" having no differentiation between such services. Fiber optics has contributed mightily to this trend by hammering down long-distance prices. Fiber has caused the "death of distance," an event succinctly described in 1995 by the Economist: "Relentless technological change is driving down the cost of a telephone might as well be free....Carrying a call from London to New York costs virtually the same as carrying it from one house to the next." Couple that with the notion of a competitive long-distance market forcing price to approximate cost, and a logical conclusion is that per-minute charges for telephone calls will approach zero, destroying revenues and profit margins. More volume is no remedy because price reductions are outpacing increased use, and most people, whether at work or home, have a limit as to how long a phone conversation or computer screen can be endured.

According to comments by the Consumer Federation of America (CFA) in FCC docket CC 99-249, "In the Matter of Low Volume Distance Users," one-half of all residential customers in the United States made less than 45 minutes of calls per month outside their local calling areas last year--not much revenue at 10 cents or less a minute. Thus, the death-of-distance forces the merger of companies like Sprint and MCI WorldCom.

There's another side to this story: Per-minute charges are declining, but the slack has been captured by minimum monthly fees ranging from $5 to $10 and minimum charges per call such as 99 cents for the first 20 minutes of a call, even if it lasts only 3 minutes. Setting minimum prices per call is an effective tactic because one-half of all residential long-distance calls are 3 minutes or less, according to FCC statistics. Also, the CFA says that "considerably more than half the population has endured a substantial increase in their [long-distance] bills over the last two years."

Obviously, all profit is not being squeezed out of long-distance companies, so what is their incentive to offer a "package" instead of a discrete service? Bell Atlantic's explanation of the Sprint-MCI WorldCom merger is apt: "Clearly...[the two companies] have recognized what we have understood for several years now--the fundamental importance of being able to offer a complete set of services in all markets." The "complete set" scenario provides an opportunity for long-distance to disappear as a separately identified service, and when it does, "local service" loses its meaning as well.

Once the uses are indistinct, industry will collect revenue through predominantly fixed charges, heavily billing consumers for being connected to the telecommunications system rather than garnering much revenue for using the system. For this plan to work well, all major competitors have to de-emphasize the marketing of discrete services and offer a "telecommunications package."

Industry unity has been achieved through a group called the Coalition for Affordable Local and Long-distance Services, an unusual alliance between Sprint, AT&T, Bell Atlantic, and Bell South, among others. The coalition filed voluminous comments in FCC docket CC 99-249 advocating a pricing system where a portion of the fixed charges currently appearing in the long-distance bill will be transferred to the local bill and increased. If the new pricing system is approved, it will be quietly implemented over the next three to five years and will allow all providers to bundle services into a package and price it without being required to separate line items for "local," "long-distance," and "Internet service." Of course, the new pricing scheme serves a political purpose: It allows the FCC to avoid the rancorous issue of whether Internet users must one day pay a federally imposed fee for their access to the Internet, in addition to the charges normally paid today.

The FCC set the stage last February for the new pricing when the agency, by a majority vote of the commissioners, imposed its exclusive jurisdiction over calls to the Internet. Although jurisdiction had been shared with the states, calls to the Internet were exempt from federal access fees because of the agency's decade-old Enhanced Service Provider (ESP) policy.

The exemption is a marked contrast with a long-distance call, which includes in its price a per-minute access fee paid by the carrier to the local phone company. FCC Commissioner Harold Furchtgott-Roth disagreed with the majority opinion, believing exclusive federal jurisdiction would destroy the agency's ESP policy. Internet users responded negatively to the decision, prompting the agency to issue a press release and set up a Web page saying access fees would not be imposed on Internet calls. Unfortunately, the new pricing scheme will provide ample cover to achieve an effect equivalent to imposing such fees.

For example, the carrier offering a package may feel $200 a month is a perfect price for "all-you-can-eat." Since there is no longer a price linking the service and the amount of consumption, what can the consumer complain about--"My bill is too high?" People always say that. But there is going to be a huge public-relations problem because no one in the USA likes to be force-fed. Consumer groups are sure to lead the fight against high fixed charges. But if the groups won, the result would be visible access fees on the Internet, tremendous protest from its users, and a charge of betrayal aimed at the FCC. Neither the agency nor the companies want this outcome, so the consumer groups will probably lose.

More than a year ago, local telephone companies challenged the ESP policy by saying it contradicted the Telecommunications Act. But the Eighth Circuit court disagreed, and likened the use of the Internet to someone calling a hardware store to order a part for a machine, and then the hardware store making a call to an out-of-state supplier. This is known as the "2-call" theory. It contrasts with the "1-call" theory" or "end-to-end" transaction that applies to a long-distance call. The court said, "ISPs [Internet service providers] subscribe to LEC [local-exchange carrier] facilities in order to receive local calls from customers who want to access the ISP's data, which may or may not be stored in computers outside the state in which the call was placed. An IXC [interexchange carrier], in contrast, uses the LEC facilities as an element in an end-to-end long-distance call that the IXC sells as its product to its own customers."

The ESP policy was upheld by the court because it saw Internet calls as being in state jurisdiction, but the FCC's claim of exclusive jurisdiction over these calls is an explicit rejection of a 2-call process and an assertion that the 1-call theory applies. The FCC's Internet exemption policy rests on a legal contradiction that cannot be long sustained, as implied in Commissioner Furchtgott-Roth's dissent from the majority opinion.

But with exclusive jurisdiction, the agency has made itself the only regulatory arbiter between all companies seeking to include Internet "services" in a telecommunications "package." To be an effective arbiter, the agency must assure the various competitors are able to offer Internet access to consumers. To that end, and in the context of digital-subscriber-line (DSL) technology, the FCC must assure that the local loop is not only subdivided between voice and data services but also subdivided between competitors.

Thus SBC Communications Inc.'s announcement that it intends to offer DSL services to 77 million people entails plenty of loop sharing with other companies. Dhruv Khanna, general counsel of Covad Communications Inc., a local competitor of SBC, regards line sharing as "the next big issue" for the FCC and expects "continuing enforcement" of line sharing to be a primary duty for the agency. Khanna is correct, but it seems the unbundled local loop has a controversial price: a shift in revenue from usage-sensitive rates to fixed charges sure to rile certain segments of public opinion.

Stephen N. Brown writes on public policy in telecommunications. He can be contacted by e-mail at [email protected] or telephone: (615) 399-1239.

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