The quarrel over whether Internet service providers (such as Verizon) should be allowed to charge extra to content providers (such as Hulu) for enhanced service has had an inside-ball quality. On the one hand, advocates of new regulation warn of the dark day ahead when the big network operators will use their market power to squeeze both rivals and little guys. On the other, anti-regulation types forecast a slowdown in innovation and investment if the FCC gains total regulatory authority over the Internet. Thus far, though, nobody can really point to outrages that cry for regulation, or instances in which government muscle has stopped progress on the Internet.
But the potential for damage is quickly becoming more tangible. The rules being pressed by groups advocating what the policy wonks call “net neutrality”(see, for example, the position of Free Press) would likely deter investment and slow innovation at a time in which the Internet is rapidly changing from a text-based tool to one that offers a dazzling choice of data-heavy multimedia-based services.
Everybody agrees that online multimedia is revolutionizing communications. But the revolution is definitely a work in progress: streaming movies still occasionally break into pixel soup, and Internet phone calls all too often reverberate with echoes. The more extreme versions of net neutrality rules would bar the network operators from guaranteeing better performance to one content provider unless they offered the same service to all at no extra charge. Why, then, would the telecoms invest the billions needed to fulfill the promises of the Internet?
Why, indeed. The network operators will need to spend about $30 billion annually over the next five years – about half of it on advanced-generation wireless infrastructure for smartphones and tablets – to deliver what customers want. And they are now caught between a rock and a hard place, knowing they need the capacity, but reluctant to raise the capital without reasonable certainty of a solid return. The independent Phoenix Center for Advanced Legal & Economic Public Policy Studies estimated that simply the announcement by the FCC that it was pondering new Internet rules cut the market capitalization of cable companies by 10 percent. And what’s bad for network operators is, more often than not, bad for the rest of us. An analysis by Stratecast, a private analytical firm, estimates that the shortfall in investment could impose a $7 billion cost on the economy in the first year alone.
Broadband is sold in what economists call a “two-sided market” that creates value for two distinct groups: content providers and consumers. And, in theory, Internet service providers could raise consumer access fees enough to make up for what would amount to price controls on content side. But that’s a problematic route, too, because the resulting sticker shock would almost certainly undermine infrastructure development. Cambridge Strategic Management Group, another consulting company, concluded that attempting to recoup the costs of fiber-optic cable to households in this way would cut new demand by half.
New York University’s Institute for Public Integrity, a champion of net neutrality, concedes that strict rules would erode network operators’ revenues, but suggests that government make up the difference with subsidies for broadband infrastructure. But why adopt policies that require government bucks for investment that the private sector could shoulder itself? The idea seems particularly unappealing (and politically implausible) in an era of large and rapidly escalating budget deficits.
Don’t get us wrong: regulatory vigilance is the price of healthy markets in Internet services. It’s possible, for example, that one vertically integrated telecom that sells both broadband services and broadband content – say, movies on demand – would have incentives to deliver inferior services or charge extortionate rates to a competing movie provider.
But we don’t need price controls or blunt non-discrimination rules to guard against such abuses. Congress could give the FCC the job of addressing the grievances of alleged victims of discrimination on a case-by-case basis – the method the FCC and other enforcement agencies have successfully used to protect consumers in other markets while leaving room for innovation and growth. Indeed, congressional middle-roaders – notably Olympia Snowe – appear to be headed in this direction.
With net neutrality decisions on hold until the November elections, policymakers have some breathing room to ponder a sensible compromise. Somebody needs to guard the store against felons. But it’s clear that giving the FCC the task of deciding what the store sells, to whom, and at what price would be an expensive mistake.
(This post was also published on Forbes.com.)