Welcome to the roadkill café

Notwithstanding Texas politician Jim Hightower’s observation (courtesy of Commissioner Ajit Pai of the Federal Communications Commission) that “there is nothing in the middle of the road but yellow stripes and dead armadillos,” it is a time-honored government tradition to frame an issue so that the preferred option is the one in the middle. This appears to be what Federal Communications Commission (FCC) Chairman Tom Wheeler has in mind as he navigates the open Internet minefield. However, the middle ground is not as safe as it might seem.

The three options available to the FCC can broadly be characterized as light, medium and heavy regulation. Light regulation entails not adopting a new open Internet order at all. This would represent a return to the status quo ante. Since the Internet thrived for many years under this regime, it is my preferred option. It is virtually inconceivable, however, that Wheeler will choose this option because it would bring howls of outrage from net neutrality proponents. If he had wanted this outcome, he could have declined to propose a new order in the first place and saved himself a lot of trouble.

The “heavy” regulation option at the other end of the spectrum entails reclassifying broadband as a Title II telecommunications service subject to common carrier regulation. Going this route would bring howls of outrage from the internet service providers whose comments regarding the Notice of Proposed Rulemaking seem to collectively imply, “do anything you like as long as it’s not Title II.”

{mosads}Which leaves the middle ground: “medium” regulation along the lines the FCC has proposed. Such a compromise option may be the best available when there are sharply differing viewpoints. But this doesn’t mean it is without risks. At least two of the three main provisions of the FCC’s “medium” regulation proposal have the potential to be quite harmful.

The first involves “transparency.” The commission appears to believe more information is always better and is proposing detailed disclosure of broadband providers’ operations, including their pricing. The economics literature is clear, however, that mandatory price disclosure can discourage price competition and even facilitate anti-competitive behavior among providers, particularly in markets with high levels of concentration and high barriers to entry. As a 2001 Organization for Economic Cooperation and Development report noted, “The competitive risks of increased price transparency, under certain market conditions, have not always been sufficiently appreciated by government policy makers. There have been instances where government mandated increases in price transparency seemed to have produced higher rather than lower prices, probably because they facilitated anti-competitive co-ordination among sellers.”

Price competition often takes the form of secret discounting. Price disclosure requirements make it more difficult for customers (on either side of the two-sided broadband market) to negotiate price discounts because providers may be reluctant to offer discounts that must be made public to everyone.

Similarly, mandated price disclosure helps facilitate cartel behavior. Cartels are difficult to keep going, because participants have an incentive to cheat — to offer secret discounts in order to attract more business. Mandated price disclosure aids in the detection of cheaters, allowing a stable anti-competitive equilibrium to develop.

Another central element of the FCC’s proposal is the prohibition against “commercially unreasonable” practices. The commercially unreasonable standard, particularly in combination with the detailed disclosure requirements, risks generating a steady stream of complaints from interested parties. Indeed, the mere existence of this provision is likely to distort negotiations between private parties who would know they can appeal to the commission if they are not satisfied with the deal they can negotiate on their own. In addition, it could lead to continual second-guessing of providers’ business practices and pricing decisions on the part of the commission itself. Putting broadband providers in the position of constantly having to justify their business practices as “reasonable” goes a long way toward establishing a de facto utility-type regulatory regime, with all its attendant problems — reduced incentives to innovate, invest and provide services consumers want — even in the absence of Title II reclassification.

This “middle ground” of medium regulation, while not the Title II “nuclear” option, would still represent a sharp departure from the status quo, with the potential to yield many of the negative consequences associated with public utility regulation. Despite the commission’s repeated declarations of the need to protect openness, the Internet has flourished under a light-handed regulatory regime, without any formal open Internet rule and with broadband classified as a Title I information service. The risk of being in the middle of the road is that you end up as roadkill.

Lenard is president and senior fellow of the Technology Policy Institute.