Adam Gifford: Tinkering with the internet model is not a smart move

TelstraClear should be on a roll about now. It is winning some important corporate customers because of the quality of its service and the robustness of its fibre networks and its state-of-the-art data centre.

Changes in the wholesale market mean the company can now go after the home customer. Then it goes and spoils it all by doing something stupid like de-peering.

Peering is what built the internet. Network owners such as internet service providers, universities, Government agencies and telecommunications companies agree to swap data from their networks at no cost at certain fixed points called peering exchanges. CityLink, which has a fibre network in the capital, runs two such exchanges: the Wellington Internet Exchange or WIX, and the Auckland Peering Exchange, APE, on the Skytower.

What TelstraClear is calling a free ride is no such thing. Instead of charging for the transfer of data from one network to another - the traditional telco arrangement as it applies to voice calls - all parties are free to create value by having access to a much larger network than they could build themselves.

This was called the new economy during the dotcom era, when a lot of venture capital was chasing schemes to capitalise on increased interconnectedness.

That many of those business models were faulty did not disprove Metcalfe's Law - that the value of a network increases exponentially as the number of nodes on the network increases. More phones, more people to call. More eyes connected to the internet, more people you can sell to.

Try explaining Metcalfe's Law to the wholesale guys at TelstraClear and they will talk about the $1.5 billion they have spent building up a network. We don't cross-subsidise, they say, with the can't-see-the-wood-for-the-trees zealotry of a Rogernomics-era Treasury analyst.

They want to see every switch in the network paying its way, rather than asking whether the network as a whole is a viable proposition.

Then they will fire off a bunch of lame analogies, which only goes to prove they don't understand how the internet works technically, socially or economically.

The Herald charges both its readers and its advertisers, I am told, as if this will make me feel all embarrassed and shut up.

Yes, but it could also charge one and not the other. The Herald's owners give away The Aucklander because the number of householders it reaches makes it valuable to advertisers.

Some specialist newsletters carry no advertising but come at a high subscription price. Television comes in free-to-air or subscription flavours.

Maybe it can be blamed on TelstraClear's remuneration plan, where the wholesale guys get commissions based on whatever revenue they bring in, even if that revenue comes at the expense of other parts of the business.

If so, the company needs to do a bit of strategic thinking.

Its main business is connectivity, with a sideline in services.

What TelstraClear is proposing with its domestic internet charge is a toll for access to its customers, in effect double-dipping on the same traffic. What its customers want and are paying for - the best internet access they can afford - is ignored.

TradeMe boss Sam Morgan reckons 60 per cent of New Zealand domestic internet traffic is to his site.

Rather than recognise that its customers want to get fast response times at TradeMe, TelstraClear closed its front door and told customers they have to go round the side of the house and climb in the window.

Instead of a short hop across Wellington, or from an Auckland address to APE to WIX to the TradeMe servers, connections make a detour to the United States before coming back to put that bid on.

That means extra expense for Morgan, sending data up to the US, and extra expense for TelstraClear bringing it back. Morgan could cut that expense by shifting his servers to the US, but TelstraClear would still be paying, eating up whatever revenue the wholesale guys have gathered.

Given that 85 per cent of New Zealand's internet traffic is with overseas sites, it makes little sense to discourage local businesses from hosting their servers here.

Competitor Telecom is lukewarm on peering, but recognises the value of TradeMe to its internet connectivity business by running ads on TradeMe encouraging customers to switch from dial-up to its Jetstream ADSL service.

Interconnect agreements haven't served voice customers in New Zealand well. They have even ended up in court as the telcos jostle for small advantage.

The internet is now part of New Zealand's essential economic infrastructure. It is not good enough that one division in a major access provider should deliberately degrade its performance in such a way.

As Australian telecommunications analyst Paul Budde has observed, the Commerce Commission is underfunded and underpowered, and the telecommunications commissioner is unable to act on things like peering if they are not specified in the Telecommunications Act.

Former Bell Labs engineer David Isenberg has characterised the struggle as between dumb networks such as the internet, where the intelligence is at the edges, versus smart networks such as traditional telco voice circuits, where intelligence and services are built into the network itself.

Dumb will beat smart, he says.

But it seems the dumbest part of the equation is the guys who try to turn the dumb network into a smart network.