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May 2007
Volume 10 / Number 5
Regulation Watch
William B. Wilhelm

Will Somebody Please Fix Intercarrier Compensation

By John Cimko, Columns: Regulation Watch

The FCC has been trying to do something about intercarrier compensation (IC) for at least six years. Progress has been slow. Almost everybody agrees that the system is broken. But nobody can agree on the best way to fix it.

What exactly is the intercarrier compensation problem? And why is the issue important to VoIP providers and their customers?

Intercarrier compensation is a system by which carriers pay each other for use of their respective networks and facilities to originate and terminate communications. IC princi-pally consists of access charges (payments from long distance carriers to local carriers) and reciprocal compensation (payments between local carriers). Before the AT&T dives-titure, most of these cash flows took place within the Bell System. Regulators and carriers fashioned rate structures that included long distance rates that subsidized local exchange service to subscribers in rural and other high-cost areas. After divestiture, the FCC adopted an access charge system that replaced some of the Bell System’s internal cash flows, and that continued subsidies for local exchange services.

The problem with intercarrier compensation is that its subsidies and rate structures have not worked well in a competitive environment marked by the rapid growth of new tech-nologies. IC rates are uneconomic because they’re generally based on embedded costs, instead of forward looking costs that would better promote efficient provision of service. Worse, the rates are set at different levels, depending on the type of traffic being carried, the type of carrier handling the traffic, and the geographical jurisdictions where that traf-fic originates and terminates. These variations in rates for essentially the same service have distorted the market, hampered competition, and slowed the adoption and deploy-ment of new technologies.

Almost all stakeholders agree that the current IC system cannot be sustained much longer. But most of these stakeholders are fighting over the best way to fix the problem. A key element of the dispute involves whether the current system, which is grounded in the circuit-based public switched telecommunications network, should be preserved with some modifications to make rates more uniform across services, carriers, and jurisdic-tions, or whether more radical steps should be taken in order to embrace the movement toward IP-based telecommunications networks.

Some industry players in the former camp argue that the IC system should be revised to fix rate inequities and thus mitigate arbitrage problems, but that termination rates (to-gether with subscriber line charges and universal service support) must be used to protect the revenue streams of high-cost incumbent local carriers. They argue that any changes to the current system that would interfere with these carriers’ recoupment of investments in expensive infrastructure would threaten universal service to rural and other high-cost cus-tomers.

Proponents of a more sweeping overhaul favor a “bill and keep” system in which all car-riers would recover their network costs from their own customers. Carriers terminating calls originated by other carriers would no longer receive compensation from those carri-ers. Advocates of this approach argue that the current system does not give local carriers any incentive to reduce costs and bring operating efficiencies to their networks, because they don’t have to rely on their own customers to recover their network costs associated with terminating traffic.

The most recent IC reform plan submitted to the FCC - the “Missoula Plan,” so named because meetings to develop the plan were held in Missoula, Montana - purports to bridge the gap between these two camps by moving toward a more unified rate structure, but also by setting up three rate tiers for small, medium, and large local carriers. But crit-ics of the Plan argue that it fails to overhaul market-distorting universal service subsidies and, according to Vonage, fails to eliminate the “disparate, asymmetric rate regimes for compensation related to traffic termination.”

What does all this mean for VoIP? So far, although a recent FCC decision (which has been appealed) requires that interconnected VoIP providers must contribute to the federal universal service fund, VoIP has not been directly affected by the IC system. This is because current FCC rules exempt IP-enabled service providers from paying access charges and, as the VON Coalition has explained in FCC pleadings, VoIP providers are permitted to originate and terminate calls as business providers “or through the use of local carriers, paying cost based rates based on reciprocal compensation.”

But all this may change if the FCC adopts a new system that applies to interconnected VoIP providers. The agency is focusing on three goals for IC reform. The new rules should promote economic efficiency, which is necessary to advance competition and new technologies. Also, IC reform must preserve universal service, enabling carriers to con-tinue serving high-cost customers and to expand into unserved or underserved areas. Fi-nally, artificial regulatory distinctions between technology platforms, categories of pro-viders, and different types of traffic must be eliminated. Failure to achieve this goal would risk retaining discriminatory aspects of the present system, thus hamstringing competition and harming consumers.

Decisions the FCC makes in pursuing these goals could have a significant effect on VoIP providers. Three issues will be important. First, VoIP providers should be concerned if the FCC postpones a global overhaul and instead adopts piecemeal measures to shore up the current system. These band-aid measures could impose burdens on VoIP without any countervailing benefits. As the VON Coalition has argued, there needs to be “overall, complete reform.”

Second, VoIP (define - news - alert) providers would benefit from a new system that banishes inequitable rate structures in favor of unified rates based on forward-looking costs. As Vonage has con-tended, if VoIP providers are required to pay compensation to terminating carriers, then this rate should be the same as the rate paid by all originating carriers.

Finally, if the FCC does bring interconnected VoIP providers into the new IC system, then a key issue will be whether the FCC, if it retains termination rates, ensures that VoIP providers are compensated for traffic that originates on the circuit-switched network and is terminated by VoIP providers.


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