SMART Letter #82
Here Comes the Bailout
January 7, 2003

            SMART Letter #82 -- January 7, 2003
            Copyright 2003 by David S. Isenberg
    - "quid with no pro quo" -- -- 1-888-isen-com

>  Here Comes the Bailout
>  Conferences on my Calendar
>  Copyright Notice, Administrivia

HERE COMES THE BAILOUT, by David S. Isenberg

The U.S. FCC is going to bail out the failing local telephone 
dinosaurs, despite our "fail fast" letter to FCC Chairman 
Michael Powell (, which calls on the 
FCC to shun measures that would prop up the dying telephone 
industry.  I'm shocked, shocked that Powell is ignoring our 

The FCC is planning to eliminate wholesale rate rules, 
called UNE-P, that make it possible for companies that do 
not yet own their own last mile to enter the local 
telephone service marketplace.  The UNE-P rules were 
established to make local competition possible.  (For a 
good overview of the current UNE-P debate see .)  

UNE-P rules, established by the FCC pursuant to the 1996 
Telecom Act, are solidly grounded in basic network 
economics.  If new-entrant telephone companies were 
required to build their own network in order to enter local 
service, they would need to spend huge amounts of capital 
before one penny of revenue came in.  Chairman Powell 
ignores this as he calls for, "only facilities-based 
competition" (e.g., see  Without 
UNE-P, potential local competitors (like AT&T and WorldCom) 
would shut down their local competition efforts because 
they'd have to build their own networks -- not an 
insurmountable barrier, but an untenable business 
proposition for a telephone company.  

Today, facilities-based competition is an oxymoron.  
Incumbent local telephone companies have facilities, but no 
competition.  Locked-in customers of the Bell System 
monopoly financed these facilities.  Arguably they belong 
to the customers as much as to monopoly-heritage telephone 
companies.  The post-1996 FCC was following this logic when 
it made rules requiring monopoly-heritage phone companies 
to make their network elements available to new entrants at 
discounted, wholesale rates.

Under the no-UNE-P scenario that the FCC is pushing, the 
ILECs will indeed have more cash -- but will they invest 
this cash in their networks?  It ain't necessarily so, 
according to what Bruce Kushnick has been saying for years 
(see  Kushnick presents an example 
of how in 1993, New Jersey Bell convinced the New Jersey 
Public Utilities Commission to institute new, "incentive 
based" rate rules.  In return, NJ Bell promised to spend 
US$1.5 billion to "greatly accelerate deployment of 
advanced technologies," including fiber to the home.  In 
1997, the New Jersey Ratepayer Advocate (a NJ State 
Official) reported that NJ Bell spent not $1.5 billion but 
only $79 million.  At the same time, Kushnick reports, the 
new regulatory "incentives" gave NJ Bell a $955 million 
windfall that resulted not in advanced services, but in $1 
additional dividend payouts of -- surprise! -- about $955 
million.  And -- more surprise! -- no New Jersey homes got 
"advanced technologies" under the "incentive based" system.  
It was all quid, and no pro quo.  

New Jersey is not an exception.  Kushnick found the same 
pattern in state after state -- the incumbent telephone 
company goes to the regulators hat in hand, saying, "Give 
us rate relief and we will bring you the future."  Then, 
years later, rates are higher, but the future has not 
arrived.  Now this drama plays at the FCC.

The incumbent telephone companies are actually right that 
they'll get a more sustainable business model without UNE-P 
-- this business model is called "monopoly".  And they are 
right when they say that existing UNE-P rules could weaken 
them to the point that they'll no longer be able to provide 
network service as usual.  But this is a good thing when 
the whole industry is dying!  Let the obsolete telephone 
companies die.  If current UNE-P rules help them die 
sooner, even better.

Neither today's UNE-P pricing, nor the unfettered incumbent 
telephone companies will bring the new "best network" we 
know is possible.  The best way to do that is via 
structural separation; we must recognize a new natural 
monopoly at the level of poles, conduits, dark fiber and, 
perhaps, spectrum.  The incumbent telephone companies have 
fought this kind of structural separation with every lawyer 
and lobbyist they could buy, because they have no business 
model for lower layer services that are separate from 
application-layer services.  Indeed, the current wholesale 
rules were forged in 1996 to ward off structural 
separation.  For the new network to arrive, the incumbents 
must die.

Michael Powell ascended to the FCC Chairmanship talking 
about economist Joseph Schumpeter's creative destruction 
view of capitalism.  Now Powell thinks he can trust the 
incumbent local telephone companies to bring creation 
without destruction.  When no marketplace exists, there is 
no magic hand, only magical thinking.  Powell should know 


February 4, 2003, Santa Barbara CA.  Center for 
Entrepreneurship and Engineering Management (CEEM) at UC 
Santa Barbara.

March 31 through April 3, 2003, San Jose CA.  VON.  I am 
organizing a panel on April 1 (5:00 to 6:15 PM) that I 
promise will have the most interesting speakers of the 
entire conference.  April 1 is one of my favorite holidays.  
You will believe EVERYTHING my panel presents.

April 22-25, 2003, Santa Clara CA.  O'Reilly Emerging 
Technology Conference.  Undefined, but it'll be something 
about why do The Stupid Network at all if you can't make 
money from it.

COPYRIGHT NOTICE: Redistribution of this document, or any 
part of it, is permitted for non-commercial purposes, 
provided that the two lines below are reproduced with it: 
Copyright 2003 by David S. Isenberg -- -- 1-888-isen-com 

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David S. Isenberg            , inc.                         888-isen-com                       203-661-4798 
     -- The brains behind the Stupid Network --