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Avoiding the Pitfalls of Net Uniformity: Zero Rating and Nondiscrimination. Net Neutrality Special Issue Blog #6

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The current net neutrality regulations set forth in the 2015 Open Internet Order (2015 OIO) prohibit Internet service providers (ISPs) from blocking or throttling lawful content or engaging in paid prioritization of Internet traffic. These three “bright line rules” cover a wide swath of ISP practices and are intended to promote competition and ensure quality service transmission for content providers and end users. At the same time, however, they fail to consider more nuanced issues that complicate achieving these outcomes.

Christopher Yoo, Professor of Law, Communication, and Computer and Information Science at the University of Pennsylvania Law School, and founding director of the Center for Technology, Innovation, and Competition, makes the case for one such issue in his recent work, “Avoiding the Pitfalls of Net Uniformity: Zero Rating and Nondiscrimination.”

This post is the sixth in a series featuring the contents of a recent special issue of the Review of Industrial Organization, organized by the Technology Policy Institute and the University of Pennsylvania’s Center for Technology, Innovation, and Competition.

The 2015 OIO did not explicitly prohibit zero rating, a practice in which an ISP exempts certain applications or traffic from data charges or caps. Even so, zero rating inherently discriminates among different types of content, a practice which is otherwise prohibited.

Yoo argues that, contrary to the FCC’s claim in the Order, practices like zero rating can stimulate competition among infrastructure providers and edge services. He contends that zero rating should not be prohibited but rather handled on a case-by-case basis. He supports these claims with economic theory, competition theory, and a number of case studies featuring zero rating.

At its core, zero rating is simply product (in this case, service) differentiation. Yoo notes that, from an economic perspective, product differentiation can benefit both consumers (end-users) and suppliers (ISPs) and encourage Internet adoption as well. Diverse end users are able to tailor their Internet service, paying only for the service level they want, be it access to basic free applications or high-speed connections for video streaming. Similarly, ISPs can specialize in particular type(s) of service, allowing smaller market players to carve out their own niche consumer bases, forgo high fixed costs, and compete on dimensions other than price and firm size.

Competition theory approaches zero rating from a slightly different angle, focusing on the content exempted from data charges rather than the exemption itself. Yoo proposes that vertical arrangements are not necessarily anticompetitive, but acknowledges that under certain conditions they hold potential for anticompetitive behavior. He suggests that such behavior is more likely when ISPs zero rate their own content. In contrast, where ISPs zero rate content belonging to upstream firms that are not owned by ISPs, anticompetitive behavior is less obviously incentivized.

Modern economics has found that vertical restraint – agreement between upstream third-party firms and downstream ISPs harms competition only in specific circumstances. Yoo cites literature that argues that vertical coordination can actually benefit consumers. Given the range of possible zero rating arrangements involving different combinations of ISPs, content providers, vertical relationships, and end users, policymakers will have a difficult time establishing a comprehensive per se rule regarding zero rating. An easier, if more labor-intensive, practice would be to evaluate such arrangements on a case-by-case basis.

To further stress this point, Yoo unpacks zero rating challenges in six countries with varying degrees of net neutrality regulations. To date, enforcement authorities have not seriously challenged most zero rating arrangements, particularly when the ISP involved holds only a small share of the market. Those countries that have handed down rulings have done so on a case-by-case basis and determined that some forms of zero rating are more acceptable than others.

Yoo points to these case studies as evidence that enforcement authorities should allow smaller ISPs some flexibility with regard to zero rating. He supports a case-by-case approach in the interest of promoting competition in the broadband Internet market.

In February 2017, the FCC dropped its investigation into zero rating, ensuring that, for the time being, practices will be assessed on a case-by-case basis as Yoo advocates. Perhaps policymakers will use this time wisely to study zero rating. If case-based regulations on zero rating can truly be used to promote Internet adoption, competition on both sides of the market, and improve the end-user experience, isn’t that a win-win-win?