According to wireless guru John Stanton, he and Steve Jobs repeatedly discussed the feasibility of creating a "synthetic carrier" over Wi-Fi connections—thereby squeezing out AT&T—between 2005 and 2007. Stanton didn't elaborate on why he abandoned the idea, though I'd guess it's because Jobs figured out how to get Sprint to give him $15.5 billion for the right to sell iPhones. Further analysis is available at Computerworld.
One cool fact about that, is if this were to actually happen, the iPhone would have failed miserably. Even in a populated city like Chicago. Hell, even New York City! WiFi barely exists all over the city. And the signal doesn't really carry so far. They'd have had to create an entire infrastructure. You'd be a fool to even consider it.
I've had a few friends who used their iPods+Skype as a phone only to arrive in Chicago only to realize their dream of using their iPods wasn't going to work so well as wifi is hardly a free service all over. And the buildings pretty much block signals from getting too far.
tl;dr: this would have been a really stupid thing to do. Hell, to even consider it...