Economics, Regulation

Net neutrality as ‘crony capitalism’

Image credit: Official White House Flickr

Image credit: Official White House Flickr

Last week, Arthur Brooks blogged about my new paper on competition in broadband markets, noting that the economic power associated with pervasive regulation often leads to regulatory capture and “crony capitalism.”

In a famous 1959 article, Ronald Coase called out the Federal Communications Commission for letting political pressures affect the allocation of valuable broadcast licenses. More than 50 years later, not much has changed. Looked at through a Coasian lens, for example, one can’t help but notice that the Commission’s net neutrality rules have both the purpose and the effect of subsidizing internet “edge” companies at the expense of both consumers and internet ISPs. Not surprisingly, “edge” companies pushed hard for the rules, both at the FCC and on the larger political playing field, while ISPs resisted, and continue to do so.

Indeed, the express purpose of the net neutrality regulations is to force ISPs and consumers to subsidize “edge”’ firms by allowing them the free use of the ISPs’ networks, thereby increasing edge companies’ profits. Net neutrality advocates like Tim Wu make clear the goal is to “subsidize content,” even while acknowledging consumers may be harmed. In an article cited by the FCC in its Notice of Proposed Rulemaking, Wu wrote that:

Of course, for a given price level, subsidizing content comes at the expense of not subsidizing users, and subsidizing users could also lead to greater consumer adoption of broadband. It is an open question whether, in subsidizing content, the welfare gains from the invention of the next killer app or the addition of new content offset the price reductions consumers might otherwise enjoy or the benefit of expanding service to new users.

Similarly, Nicholas Economides’ work on the economic impact of net neutrality regulations—also cited by the FCC—concludes that removing net neutrality regulations would benefit consumers and harm content providers:

Comparisons between outcomes under the private equilibrium with two-sided pricing and the private equilibrium under net neutrality regulation indicated that a removal of net neutrality regulation would lead to a lower subscription price for consumers, but less content available due to an increase in fees to content providers. Content providers are worse off in the aggregate, while consumers are better off.

The FCC Commissioners who voted for the Net Neutrality Order did so explicitly on the grounds that it would increase edge providers’ profits. For example, the Order specifically finds that allowing ISPs to charge fees “could reduce the potential profit that an edge provider would expect to earn from developing new offerings….”  And while the Commission refused to explicitly admit that its rules would harm ISPs, there was no absence of evidence on this point. In his dissent, for example, Commissioner McDowell referred to the effect on a small Montana ISP, LARIAT networks.

LARIAT has told the Commission that the imposition of network management rules will impede its ability to obtain investment capital and will limit the company’s “ability to deploy new service to currently unserved and underserved areas.”

Commissioner Baker went further, stating in her dissent that in issuing the Order:

The Commission puts its thumb on the scale as to where innovation in the Internet economy will be focused, and how future networks will be financed. The Order repeatedly expresses concerns about the significant consequences to Internet edge companies if their incentive to innovate, invest, and compete is chilled. The majority ignores the same grave consequences of government action chilling the networks’ analogous incentives to innovate, invest, and compete.

Finally, in addition to transferring profits, the net neutrality rules also effectively transfer political power. As Commissioner McDowell said:

Using these new rules as a weapon, politically favored companies will be able to pressure three political appointees to regulate their rivals to gain competitive advantages. Litigation will supplant innovation. Instead of investing in tomorrow’s technologies, precious capital will be diverted to pay lawyers’ fees. The era of Internet regulatory arbitrage has dawned.

In short, the net neutrality rules set out to distort competition in order to benefit one group of companies and disadvantage another—the very definition of crony capitalism.

7 thoughts on “Net neutrality as ‘crony capitalism’

  1. Totally figures. If a democrat puts this much effort into something, it HAS to benefit someone/some group they are in bed with. To put such a name as ‘net neutrality’ on it only adds insult to injury. Libs all think ‘the people’ are stupid. Time to (re) educate them.

  2. I thought George Stigler got a Nobel long ago for demonstrating that regulators exist to serve the interests of those they regulate?

    • Thanks for this comment. Yes, Stigler did win the Nobel (1982) in part for his work on public choice. (It was awarded “for his seminal studies of industrial structures, functioning of markets and causes and effects of public regulation.”) Coase’s (1991) Nobel was “for his discovery and clarification of the significance of transaction costs and property rights for the institutional structure and functioning of the economy.” But Coase’s 1959 article in The Journal of Law and Economics (“The Federal Communications Commission”) preceded Stigler’s 1971 Bell Journal article (“The Theory of Economic Regulation”) by more than a decade.

  3. While I am leery of government interference in private enterprise, I’m not really buying the argument in the case of ISPs because, at least in the cable business, the nature of the industry is that they exist as quasi-monopolies, with geographical areas carved up between them. Obviously there are infrastructural reasons why this is so. But absent regulation, what is the incentive for my cable company not to throttle downloads from competing content middlemen such as Apple and Amazon in order to encourage me to use the ISP’s higher-priced and inferior services instead?

    Furthermore, to argue that removing net neutrality obligations will leave content providers worse off but consumers better off is nonsensical. I suppose you could call me “better off” if I have a cheaper cable bill but fewer content options because providers have found that creating and distributing content isn’t as profitable as it once was. But by that logic, as a consumer I’d be better off if cable disappeared altogether and I went back to the 3-channel universe of free TV.

    • Thanks for this comment. I understand your point. Two responses: First, I’m not suggesting ISPs should be allowed to engage in anticompetitive conduct, just that their conduct ought to be scrutinized on a case by case basis under the antitrust laws rather than banned outright, because a ban almost surely results in stopping a lot of beneficial conduct. Second, as for the effects of net neutrality regulation on consumers, the findings I cited are from Nick Economides, who is a Net Neutrality supporter. And really, what is the basis for thinking that forcing ISPs to subidize online content providers would, on net, benefit consumers?

      • The problem with relying on antitrust laws is that developing common law takes a hell of a long time and, particularly after Matsushita and Twombly, SCOTUS has all but neutered antitrust as an easily available means of enforcing such laws. This is particularly troublesome when a plaintiff would almost certainly require discovery to develop a case (i.e. it would be exceptionally difficult for one to determine their ISP was throttling their access alone); discovery which under Twombly would be nearly impossible to force without some sort of fairly strong factual groundwork to support your claim. I don’t think we need any sort of strong regulation of the net (look how the FCC has screwed up TV) but enforcing network neutrality and keeping it minimal and reasonable would keep the net open and continue the status quo established by dial ups’ common carriage regime.

        What’s quite troubling is that while broadband providers now exist as quasi monopolies or duopolies, DSL is seen as a rather quickly dying technology, meaning that in a few years your only means of accessing broadband may very well be through a single provider, the cable company. Even Verizon has noted it has no intention of going national with its fiber optics to the X initiatives. American broadband speeds are god awful compared to countries with fractions of our GDP and much of that is chalked up to the fact that their governments force those that own the cable and fiber optics to sell access to other cable providers, creating a robustly competitive market in broadband provision. That is what we had in dial up (i.e. why you could choose from dozens of ISPs), unfortunately the Bush era FCC made sure that regime wouldn’t apply to broadband and now were stuck in this inherently anti-competitive black hole where consumers cannot rely on the free market to ensure nondiscrimination (or fast broadband speeds), in effect relying on companies that have much in common with natural monopolies.

  4. this removal is net neutrality is taking things back to the concept of termination rate as content providers will be now paying to terminate content of carrier networks while on the other hand the FCC is arguing for eliminating termination rate regime by 2016 in favour of “bill and keep” settlement regime. Wouldn’t bill and keep tacitly be eliminating net neutrality in the long run as no settlements will accrue between content providers ISP carriers or between ISPs and ISp for that matter? Unless, of course “Bill and Keep” is made to not include content and application providers terminating on ISPs

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