The Unraveling, Part 2

After authorizing private microwave networks in the Above 890 decision, the FCC might have hoped that they could leave those networks penned in their quiet little corner of the market and forget about them. But this quickly proved impossible.

New challengers continued to press against the existent regulatory framework. They proposed a variety of new ways to use or sell telecommunications services, and claimed that the telecommuncations incumbents were obstructing their path. The FCC responded by steadily slicing away portions of AT&T’s monopoly, allowing competitors into various parts of the telecommunications market.

AT&T responded with actions and rhetoric designed to counter, or at least mitigate the effects of, the new competition: publicly propounding their opposition to further FCC action, and setting new rates that sliced profits to the bone. From within the company, these seemed like natural responses to new competitive threats, but from the outside they only served as evidence that stronger measures would be needed to curb an insidious monopoly. When regulators pushed for telecom competition, they did not mean to encourage a struggle between for dominance between contending parties, and may the best company win. Their intent was to create and support lasting alternatives to AT&T. AT&T’s efforts to escape the net closing around it thus only served to ensnare it more deeply.¹

The new threats came at both the edge and the the center of AT&T’s network, tearing away AT&T’s control over the terminal equipment attached to its lines by customers, and over the long-distance lines that interlinked the whole United States into a single telephone system. Each of these threats started with lawsuits by two small, seemingly insignificant upstarts: Carter Electronics and Microwave Communications, Incorporated (MCI), respectively. But the FCC not only favored the upstarts, but chose to interpret their cases expansively, as representing the needs of a whole new class of competitor which AT&T would have to accept and respect.

Yet, in terms of the legal framework of regulation, nothing had changed since the Hush-a-Phone case of the 1950s. At that time the FCC had firmly rejected the claims of a far more innocuous challenger than Carter or MCI. The same 1934 Communications Act that had created the FCC in the first place still governed its actions in the 1960s and 70s. The shift in FCC policy did not come from new congressional action, but from a change in political philosophy within the commission. That change, in turn, was prompted to a large degree by the rise of the electronic computer. The emerging hybridization between computers and communication networks helped to set the conditions of its own further development.

An Information Society

For decades, the FCC had seen its main responsibility as maximizing access and fairness within a relatively stable and uniform telecommunications system. From the mid-1960s, however the FCC staff developed a different idea of their mission, and increasingly focused on maximizing innovation within a dynamic and diverse market. In large part this change can be attributed to the emergence of the new, though relatively tiny, market in data services.

The data service industry originally had nothing to do with the telecommunications business at all. Its origins lay in service bureaus – companies that did data-processing on behalf of clients, then shipped them the results, a concept that in predated the modern computer by decades. IBM, for example, had offered on-demand processing for clients who couldn’t afford to lease their own mechanical tabulating equipment since the 1930s. In 1957, as part of an anti-trust deal with the U.S. Justice Department, they spun this business off into its a separate subsidiary, the Service Bureau Corporation, by that time running on modern electronic computers. Likewise, Automatic Data Processing (ADP), began as a manual payroll processing business in the late 1940s before computerizing in the late 1950s. In the 1960s, however, the first on-line data services began to appear, which allowed users to interact with a remote computer by terminal over a private, leased telephone line. Most famous of these was SABRE, a derivative of SAGE, designed to handle reservations for American Airlines using IBM computers.

Just as with the first time-sharing systems, however, once you had multiple users talking to the same computer, it was a small step to letting those users talk to each other. It was this new way of using computers, as a mailbox, that brought computers to the attention of the FCC.

In 1964, Bunker-Ramo², a company best known as a defense contractor, decided to diversify into data services by acquiring Teleregister. Among Teleregister’s lines of business was a service called Telequote, which had provided stock information to brokers over telephone lines since 1928. Teleregister, however, was not itself a regulated common carrier. It relied on private lines leased from Western Union for communications between its users and its data center.

Bunker-Ramo Telequote III terminal. It could display information about requested stocks, as well as market summary data.

Telequote’s state-of-the-art system in the 1960s, Telequote III, allowed users to use a terminal with a tiny CRT to screen to punch up the price of a stock stored on Telequote’s remote computer. In 1965, Bunker-Ramo proposed the next iteration, Telequote IV, with the additional feature of allowing brokers in different offices to submit buy or sell orders to one another via their terminals. Western Union, however, refused to allow their lines to be used for this purpose. They claimed that using the computer to transmit messages between users would turn a purported private line into a de facto common carrier message-switching service (not unlike Western Union’s own telegraph service), and requiring the operator (Bunker-Ramo) to be regulated by the FCC.

The FCC decided to turn this dispute into an opportunity to answer a broader question – how should the growing contingent of on-line data services be treated, vis-a-vis telecommunications regulation? The resulting investigation is now known simply as the Computer inquiry. The ultimate conclusions of that inquiry are less important for us at this point than their effects on the mentality of the FCC staff. Long-established boundaries and definitions seemed liable to be redrawn or abandoned, and this shake-up conditioned the FCC’s mindset for the challenges to come. Every so often, over the previous decades, a new communications technology had emerged. Each developed independently and acquired its own distinct character and its own regulatory rules: telegraphy, telephony, radio, television. But with the emergence of the computers these distinct lines of development began to converge on the imagined horizon into an intertwined information society.

Not just the FCC, but the intelligentsia in general anticipated major changes afoot. Sociologist Daniel Bell wrote of the coming “post-industrial society”, management expert Peter Drucker spoke of “knowledge workers” and the “age of discontinuity.” Books, papers, and conferences abounded in the second half of the 1960s on the topic of a coming world based in information or knowledge rather than material production. The authors of these works referred often to emergence of high-speed, general-purpose computers, and the new ways that they would allow data to be transmitted and processed within communications networks in the coming decades.

Some of the newer FCC commissioners, appointed by Presidents Kennedy and Johnson, were themselves active in these intellectual circles. Kenneth Cox and Nicholas Johnson both participated in a Brookings Institute symposium on “Computers, Communications, and the Public Interest,” whose chair imagined “a national or regional communication network that connects video and computer facilities at universities to homes and classrooms in local communities …The citizenry could be students ‘from cradle to coffin…” Johnson later wrote a book on the prospect of using computers to transform broadcast TV into an interactive medium, entitled How to Talk Back to Your Television Set.

Beyond these general intellectual currents that were pushing communications regulation in new directions, one man in particular had a particular interest in steering regulation onto a new course, and played a major role in shifting the FCC’s attitudes. Bernard Strassburg belonged to the layer of the FCC bureaucracy just below the seven politically-appointed commissioners. The career civil servants who populated most of the FCC were divided into bureaus based on the technological area that they regulated. The commissioners relied on the legal and technical expertise of the bureaus to guide them in the rulings process. The domain of the Common Carrier Bureau, to which Strassburg belonged, lay in the wireline telephone and telegraph industry, consisting primarily of AT&T and Western Union.

Strassburg joined the Common Carrier Bureau during World War II, rose to become its Chairman by 1963, and played a major role in pushing the FCC to chip away at AT&T’s dominance over the following decade. His distrust of AT&T originated with the anti-trust suit that the Justice Department launched against the company in 1949. At issue, as we’ve mentioned before, was the question of whether Western Electric, AT&T’s manufacturing arm, inflated its prices in order to allow AT&T, in turn, to artificially inflate its profits. Strassburg became convinced during the investigation that it was simply impossible to answer the question, given AT&T’s near-total monopsony in telephone equipment. There was no telephone equipment market to compare against to determine what constituted reasonable prices. AT&T was simply too large and powerful to effectively regulate, he concluded³. Much of his advice to the Commission in the coming years could be traced to this belief that competition needed to be forced into AT&T’s world, to weaken it sufficiently to make it regulable.

Challenge at the Center: MCI

The first serious challenge to AT&T’s long distance network, since its inception at the turn of the twentieth century, began with an unlikely man. John Goeken was a salesman and small businessman with at least as much enthusiasm as good sense. Like many boys of his time, he had developed an interest in radio equipment as a youth. He joined the Army out of high school as a microwave radio technicia, and, after completing his active service, he went into radio sales for General Electric (GE) in Illinois. His day job didn’t fill his need for entrepreneurship, however, so he also developed a side business with a group of friends, selling more GE radios in other parts of Illinois outside of his assigned territory.

Goeken in the mid-90s, when he was working on an in-flight telephone

When GE got wind of the operation and shut it down in 1963, Goeken began to look for other ways to supplement his income. He decided to build a microwave line from Chicago to St. Louis, selling radio access to the line to truckers, bargemen, flower delivery vans, and other small businesses along the route who had a need for inexpensive, mobile communications. He believed that AT&T’s private-line service was “gold-plated” – over-staffed and over-engineered – and that by being leaner and more cost-conscious he could provide lower prices and better service to the smaller users neglected by Ma Bell.

Goeken’s concept did not conform to then-current FCC rules – the Above 890 ruling had authorized private companies to build microwave systems for their own use. Under pressure from smaller businesses without the wherewithal to build and maintain a whole system, a 1966 ruling had allowed multiple entities to share a single private microwave systems. But this still did not authorize them to become common carriers themselves, retailing service to third parties.

Moreover, the reason that AT&T’s prices appeared excessive was not due to gilded wastefulness, but regulated cost-averaged rates. AT&T charged for private line service according to the distance and number of lines leased, whether those lines lay along the high-density Chicago-St. Louis route or a low-density route with little traffic across the Great Plains. Regulators and telephone companies had intentionally devised this structure to level the playing field between areas with differing population densities. MCI was thus proposing to engage in a form of arbitrage – taking advantage of the differential between the market and the regulated price on a high-traffic route to extract guaranteed profits. AT&T called this cream-skimming, a term that served as their primary rhetorical touchstone in the debates to come.

It’s not clear whether Goeken did not initially know these facts, or chose blithely to ignore them. In any case, he went after his new idea with gusto, on a shoestring budget funded mainly by credit cards. He and his partners, all of similarly modest means, nonetheless dared to form a company to take on the over-mighty AT&T, which they called Microwave Communications, Inc . Goeken flew around the country looking for investors with deeper pockets, with little success. He had better luck, however, arguing MCI’s case before the FCC.

The first hearings on the case began in 1967. Strassburg was intrigued. He saw in MCI an opportunity to achieve his goal of weakening AT&T, by further prying open the market for private lines. But he wavered at first about whether to follow through. Goeken did not impress him as a serious and effective businessman. MCI, he worried, might not be the best test case. He was nudged off the fence by an economist from the University of New Hampshire named Manley Irwin. Irwin had a steady consulting gig with the Common Carrier Bureau, and had helped to formulate the terms of the Computer inquiry. He convinced Strassburg that the nascent on-line data service market revealed by that inquiry needed companies like MCI that would provide new offerings; that AT&T alone would never be able to fulfill all the potential of the coming information society. Strassburg later reflected that “the ‘fallout’ from the Computer Inquiry… substantiated MCI’s claim that its entry into the specialized intercity market would be in the public interest.”⁴

With the blessings of the Common Carrier Bureau in-hand, MCI breezed through the initial hearing, then squeaked by with approval before the full commission in 1968, which split 4-3 along party lines. All the Democrats (Cox and Johnson included) voted in favor of approving MCI’s license. The Republicans, led by the chair, Rosel Hyde, dissented.

The Republicans did not want to disrupt a well-balanced regulatory system with a scheme concocted by fly-by-night operators of questionable technical and business savvy. They pointed out that the decision, though limited on its face to a single company and a single route, carried profound implications that would transform the telecommunications market. Strassburg and the pro-approval commissioners treated the MCI case as an experiment, to see if a business could successfully operate alongside AT&T in the private line services market. But in fact it was a precedent, and, once approved, dozens of other companies would immediately come out of the woodwork to file their own applications. Reversing the experiment, the Republicans saw, would effectively be impossible. Morever, MCI and similar specialized entrants could scarcely survive with just a scattering of disconnected routes like the one from Chicago to St. Louis. They would demand interconnection with AT&T, and force the FCC to continue making changes to the regulatory structure.

The land rush predicted by Hyde and the other Republicans did indeed ensue, with thirty-one companies filing 1713 separate applications for a total of 40,000 miles of microwave network within two years of the MCI decision.⁵ The FCC lacked the capacity to carry out individual hearings on all of these applications, and so it gathered them all together as a single docket on Specialized Common Carrier Services. In May 1971, with Hyde out, they unanimously decided to open the market fully to competition.

Meanwhile, MCI, still starved for money, found a new wealthy investor to set its finances in order, William C. McGowan. McGowan was virtually Goeken’s opposite, a sophisticated and established businessman with a degree from Harvard, who had built successful consulting and venture capital businesses in New York City.  Within a few years, McGowan took effective control of MCI and pushed Goeken out. He had a very different vision for the company from that of his predecessor. He had no intention of messing around with bargemen and florists, nibbling around the periphery of the telecommunications market wherever AT&T deigned not to notice him. Instead he would go right for the heart of the regulated network, competing directly in all forms of long-distance communications.

Bill McGowan in later years

The stakes and implications of the original experiment with MCI thus continued to ratchet upward. Having committed itself to seeing MCI succeed, the FCC now found itself taken for a ride, as McGowan’s demands continued to broaden. Arguing (again, as predicted), that MCI could not survive as a small collection of disconnected routes, he demanded a wide variety of interconnection rights into the AT&T network; for example the right to connect to what was called a “foreign exchange,” allowing MCI’s network to connect directly into AT&T’s local telephone exchanges at the terminus of MCI private lines.

AT&T’s responses to the new specialized common carriers did not help its cause. It answered the intrusion of competitors by introducing much lower rates on private lines along high-traffic routes, abandoning regulated, rate-averaged prices. If it thought this would appease the FCC by showing competitive spirit, it misconstrued the FCC’s purpose. Strassburg and his allies were not trying to help consumers by reducing communications prices, at least not directly. Instead they were trying to help new producers enter the market, thereby weakening AT&T’s power. Thus AT&T’s new competitive rates were seen by the FCC and other observers, especially at the Justice Department, as vindictive and anti-competitive, because they threatened the financial stability of new entrants like MCI.

AT&T’s combative new president, John deButts, also did himself no favors with his aggressive rhetorical responses to competitive incursions. In a 1973 speech before the National Association of Regulatory Utility Commissioners, he belittled the FCC with his call for “a moratorium on further experiments in economics.” This kind of intransigence infuriated Strassburg, and further convinced him of the necessity of taking AT&T down a peg. The FCC duly ordered the interconnections requested by MCI in 1974.

McGowan’s escalation climaxed with Execunet, launched the following year. Advertised as as a new kind of metered service for sharing private lines among small businesses, it gradually became apparent to both the FCC and AT&T that Execunet was in fact a competing long-distance phone network. It allowed a customer in one city to pick up a phone, dial a number, and reach arbitrary customers in another city (taking advantage of MCI’s foreign exchange connections) for a charge based on the distance and duration of the call. No dedicated point-to-point line came into the picture at all.

Execunet connected MCI customers directly to any AT&T customer in any major city.

At this point the FCC finally balked. It had intended to use MCI as a cudgel to beat back the complete dominance of AT&T, but this was a blow too far.  By this time, however, AT&T had other allies in the courts and the Justice Department, and continued to advance its case. The unraveling of the AT&T monopoly, once begun, was not easily stopped.

Challenge at the Periphery: Carterfone

While the MCI case was playing out, another threat approached. The similarities between the Carterfone and MCI stories are striking. In both cases, an upstart entrepreneur – possessed of more gumption and grit than good business sense – brought a successful challenge against the largest corporation in the United States. Both men, however – Jack Goeken and our new protagonist, Tom Carter – were shortly thereafter eased out of their companies by sharper operators and then faded into obscurity. Both men began as protagonists, but ended as pawns.

Tom Carter was born in 1924 in Mabank, Texas, south east of Dallas. Another young radio enthusiast, he joined the Army at 19, becoming, like Goeken, a radio technician. He spent the latter years of World War II manning a broadcasting station in Juneau, providing news and entertainment to troops at far-flung outposts across Alaska. After the war he returned to Texas and formed Carter Electronics Corporation in Dallas, operating a two-way radio station that he leased out to other businesses – florists with delivery vans; oil companies with operators out at drilling rigs. Over and over, Carter heard requests from clients for a way to patch their mobile radios directly into the phone network, rather than having to relay messages to people in town through the base station operator.

Carter devised an instrument to satisfy this need, which he called Carterfone. It consisted of a black plastic lozenge with a molded top designed to cradle a telephone handset, containing a microphone and a speaker, both wired to the radio transmitting/receiving station. To connect someone in the field with someone on the telephone, the base station operator still had to place a call manually, but then they could then rest the handset in the cradle, and the two parties could converse uninterrupted. A voice-activated switch tripped the radio’s send/receive mode, sending when the person on the telephone was speaking and receiving otherwise. He began selling the device in 1959, with a manufacturing operation that consisted of a small brick building in Dallas where senior citizens assembled Carterfones on plain wooden tables.

A 1959 Caterfone. The phone handset would rest in the cradle and activate the device via the small switch at top.

Carter’s invention was not entirely novel. Bell had its own mobile radio telephone service, which it first offered in St. Louis, Missouri in 1946. Twenty years later it served 30,000 customers. But there was plenty of room for a competitor like Carter – AT&T only offered the service in about a third of the United States, and the waiting list could be years long. Moreover, Carter offered a significantly cheaper price, if (large caveat) one already had a access to a radio tower: a one-time $248 purchase for the equipment, versus a $50-60 lease for a Bell mobile phone.

Carterfone was, from AT&T’s point-of-view, a “foreign attachment”, a piece of third-party equipment attached to its network, a practice that it forbade. In the earlier Hush-a-Phone case, the courts had forced AT&T allow simple mechanical attachments to a telephone, but Carterfone did not fall in that category, being acoustically-coupled to the network – that is, it transmitted and received sound over the telephone line. Due to the small scale of Carter’s operations, it was two years before AT&T took notice, and started to warn retailers carrying Carterfone that their customers risked having their telephone service shut off – the same angle used to attack Hush-a-Phone over a decade earlier. With these kinds of tactics, AT&T chased Carter out of one market after another. Unable to reach any kind of deal with his antagonists, Carter decided to sue in 1965.

None of the big Dallas firms would take the case, so Carter ended up at  the small office of Walter Steele, with only three lawyers to its name. One of them, Ray Besing, later painted this character portrait of the man who arrived in his office:

He fancied himself a handsome man, with his side-combed white hair, which was all the whiter thanks to Grecian Formula, but his double-knit suit and cowboy boots presented a different kind of image. He was a self taught man, handy with any kind of electronic, radio, or telephone equipment. Not much of a business man. A strict family man with an equally strict wife. Yet he sought to appear a cool, successful businessman even though he was basically broke.

The case came before the FCC’s preliminary examiner in 1967. AT&T and its allies (primarily the other, smaller telephone companies and the state telephone regulatory agencies) argued that Carterfone was not a simple attachment at all, but a piece of interconnection equipment, that unlawfully coupled AT&T’s network into local mobile radio networks. This violated the telephone company’s end-to-end responsibility for communications within its system.

But as with MCI, the Common Carrier Bureau issued a statement decisively in favor of Carter. Once again the belief in a coming world of digital information services, simultaneously integrated and diversified, loomed in the background. How could a single monopoly supplier foresee and satisfy all the market needs for terminals and other equipment for all these coming applications?

The final decision of the commission, on June 26, 1968, concurred with the CCB and found that AT&T’s foreign attachments rule was not only unlawful, but had been unlawful from its inception – therefore Carter stood eligible for back damages. AT&T, the FCC ruled, had failed to properly distinguish potentially harmful attachments (ones that might send errant control signals into the network, for example) from essentially harmless ones such as Carterfone. AT&T would have to allow Carterfones immediately, and devise technical standards for the safe interconnection of third-party devices.

Shortly after the decision, Carter tried to exploit his success by going into business with two partners, including one of his lawyers, forming Carterfone Corporation. After pushing Carter out of the company, his partners made millions by selling to the British telecom giant Cable and Wireless. The Carterfone itself disappeared; the company continued on selling teletypewriters and computer terminals.

Carter’s story has a curious epilogue. In 1974, he actually went into business with Jack Goeken, founding the Florist Transworld Delivery system to send flowers on demand. It was just the kind of market – using telecommunications to support small businesses – that both men had wanted to serve in the first place. Carter soon quit that company, too, however, and moved back to his roots southeast of Dallas, where, in the mid-80s, he operated a small radio telephone company called Carter Mobilefone. He remained there until his death in 1991.⁶

Unraveled

Like Carter and Goeken, the FCC had set into motion forces it could not control or even fully understand. By the mid 1970s, Congress, the Justice Department and the courts took the debate over AT&T’s future out of the FCC’s hands. The climax of AT&T’s great unraveling, of course, came with final break-up of AT&T, carried out in 1984. But we have already gotten well ahead of the rest of our story.

The world of computer networking did not feel the full implications of MCI’s victory, and the intrusion of competition into the long-distance market, until the 1990s, when private data networks began to proliferate. The decisions on terminal equipment had a more immediate effect. Acoustically coupled computer modems could now be manufactured by anyone and connected to the Bell system, under the sheltering hand of the Carterfone ruling, making them less expensive and easier to find.

But the most important implication of AT&T’s unraveling lay in the big picture, rather than the particulars of individual rulings. Many of the early visionaries of the information age imagined a single, unified American computer-communications network, under the aegis of AT&T, or perhaps even the federal government itself. Instead computer networks developed piecemeal, in fragments, which were only gradually connected, or, “inter-networked.” No single overarching corporation controlled the various sub-networks as had been the case with Bell and its local operating companies; they came to one another  not as master and subordinate, but as peers.

But that, too, is getting ahead of ourselves. To continue our story we must turn back to the mid-1960s, to see where computer networks came from in the first.

[Previous part]

Further Reading

Ray G. Bessing, Who Broke Up AT&T? (2000)

Philip L. Cantelon, The History of MCI: The Early Years (1993)

Peter Temin with Louis Galambos, The Fall of the Bell System: A Study in Prices and Politics (1987)

Richard H. K. Vietor, Contrived Competition: Regulation and Deregulation in America (1994)

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1. This basic argument derives from Vietor, Contrived Competition, 203-205. ↩
2. A part of the larger Thomson-Ramo-Woolridge company, a.k.a. TRW. ↩
3. Temin, Fall of the Bell System, 41. ↩
4. The History of MCI: The Early Years, 63, citing “Case Study: FCC’s Specialized Common Carrier (SCC) Decision”, in Mahoney, Greene, and Hargrove eds., Organization Analysis of the Regulatory Process (1977). ↩
5. MCI: The Early Years, 99. ↩
6. Andrew Pollack, “The Man Who Beat AT&T,” New York Times, July 14, 1982; “Thomas Carter, 67, Who Beat A.T.& T. In Lawsuit, Is Dead,” New York Times, Feb. 26, 1991. ↩