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Embracing Failure: The FCC's Disastrous Internet Policy

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January 31, 2011

Embracing Failure: The FCC's Disastrous Internet Policy

By Fred Goldstein, ionary Consulting

If I didn’t know better, I might feel a twinge of sympathy with Federal Communications Commission chairman Julius Genachowski. In arriving at his December 2010 Network Neutrality Order, he managed to displease pretty much all sides. The activists who have been clamoring for strict regulation of the Internet are not happy, and the impacted service providers are not happy. Both MetroPCS and Verizon Wireless (News - Alert) have already filed appeals. About the only folks who are happy, it seems, are the inside-the-Beltway “centrist” pundits who assume that any position that splits the difference must be the right one. You know the types; they are the ones who keep crashing into the Jersey barriers in the center of the highway.

But sometimes you can make people unhappy by just doing a bad job. In this case, the FCC’s (News - Alert) policy is indeed an “epic fail.” What makes it epic is that the Order itself describes the fact that so much of FCC policy is a failure. But then instead of directly addressing the failure, they dance around the issue, leave the failure in place, and enshrine the failure underneath a new second layer of failure. 

The Bush-era FCC adopted a set of anticompetitive policies that closed telephone company networks to independent ISPs. This created a market failure in the information service business, resulting in a public clamor for increased regulation. Most Americans now have a choice of two ISPs, plus the costly, limited services provided over their cell phones. The new policy does nothing to address the lack of competition; indeed, if anything, it puts further pressure on the few surviving independent ISPs. It maintains and accepts the vertical integration of ISP service with the underlying physical media. It embraces the duopoly.

The Order itself admits that market power is excessively concentrated. “The risk of market power is highest in markets with few competitors, and most residential end users today have only one or two choices for wireline broadband Internet access service.” [at 32]. It quotes a Department of Justice submission in which they “observed that: (1) the wireline broadband market is highly concentrated, with most consumers served by at most two providers; (2) the prospects for additional wireline competition are dim due to the high fixed and sunk costs required to provide wireline broadband service; and (3) the extent to which mobile wireless offerings will compete with wireline offerings is unknown.” [footnote 143]. Relying on market forces in such a situation seems troublesome, to be sure. 

Is this market failure? This is where the commissioners dance gingerly around the question. The chairman’s statement doesn’t raise the issue, but in this 3-2 decision, one of the concurring statements, from Commissioner Michael Copps (News - Alert), is more forthright. He notes the source of the problem: “Over my strenuous objections -- and those of my colleague Jonathan Adelstein -- the FCC took American consumers on a dangerous deregulatory ride, moving the transmission component of broadband outside of the statutory framework that applies to telecommunications carriers.” There is little doubt that the Commission has the legal authority to regulate the telecommunications component of broadband Internet service under Title II of its rules, which regulate common carriers. But the chairman has refused to go there. The current FCC is not 3 to 2 Democratic. It is 4 to 1 anti-competition, with Copps the sole dissenter.

Under Title II regulation, as it once existed, open access to broadband facilities would have allowed any number of ISPs to compete to provide end users with what the Telecom Act calls “information service.” This was a highly competitive business in the late 1990s. While most users used dial-up service in those days, even DSL was subject to open access regulations, so ISPs could rent the raw DSL from the telephone companies. Ironically, the detailed financial reports that the incumbent telephone companies were required to file in those days showed that they made their profits on the telecommunications component and lost money on the ISP services that rode atop it. So by shutting off access to independent ISPs, they were probably reducing their own profits. But they were gaining control, a commodity they found even more enticing.

Dissenting Commissioner Robert McDowell charts out a rather lengthy list of reasons why the Order itself is illegal, giving appellants a virtual road map for a return to the D.C. Circuit Court of Appeals, who is likely to again find fault with the commission. But he goes rather far in denying that there is market failure. More accurately, dissenting Commissioner Baker notes that the official Order fails to identify that failure. Having a choice of one or two vendors is, in their opinion, sufficient competition. This is the sort of argument that one uses when making a perfunctory point that one does not really expect anyone to believe, but which is a useful lemma for arguing one’s politically-motivated position.

Were there actual, open competition for Internet service, then competition would certainly provide consumer benefits. Prices and services of different ISPs would not be uniform.   Different ISPs might offer different policies for different prices. This is entirely to be expected, since information service is fundamentally about computing, not about telecommunications. The FCC’s Order, however, leaves the market failure of the duopoly in place, and regulates the content policies of all fixed non-dial-up consumer ISPs, including the small business survivors who rent facilities from the duopoly carriers on a short-term commercial contract basis, and those who provide service using fixed-wireless facilities of their own. These ISPs never had broad market power. But they have smaller legal teams than the duopoly giants, so they are more likely to be put out of business by malicious prosecution.

Does the commission really believe that having two providers of information service (Internet access) is enough? There’s subtle irony in some of their justifications for regulating ISP practices. Seeking to find a bit more legal “nexus” for their actions without the logical step of applying Title II regulation, they cite the competitive impact of “over the top” ISP services on regulated services. So the closest they come to Title II is to talk about how “interconnected VoIP services, which include some over-the-top VoIP services, ‘are increasingly being used as a substitute for traditional telephone service.’ Over-the-top services therefore do, or will, contribute to the marketplace discipline of voice telecommunications services regulated under Section 201.” [at 125]  

The Telecom Act was supposed to open up competitive voice service. That, too, has failed: The most recent FCC report on telephone competition devotes far less space to Competitive Local Exchange Carriers and instead focuses on over-the-top VoIP operations. And for good reason: The Commission’s post-2001 anticompetitive policies have dramatically reduced the number of non-cable CLEC lines in service. Full-quality consumer dial tone is now largely a duopoly too, with the incumbent telephone carrier competing with the cable company. Low-tier VoIP service is the price-leading competitor, though it depends on the customer’s having a broadband ISP already. If a broadband ISP were to discriminate against such services, there might only be two voice services available, besides wireless of course, and that is unacceptable.

The same argument is applied to video service, where the telephone carriers offer competition to the cable companies in a few locations, though it is not as widespread as cable telephony. Instead, direct broadcast satellite, with two major vendors, is the primary competition to traditional cable… not counting over-the-air broadcasting, of course. By ordering ISPs to carry television programs, cable rates are supposedly going to be held down, thus providing more of that magical “nexus” to a legal purpose of regulation: “The Commission likewise has authority under Title VI of the Act to adopt open Internet rules that protect competition in the provision of MVPD services. A cable or telephone company’s interference with the online transmission of programming by DBS operators or standalone online video programming aggregators that may function as competitive alternatives to traditional MVPDs would frustrate Congress’s stated goals in enacting Section 628 of the Act, which include promoting ‘competition and diversity in the multichannel video programming market’; ‘increase[ing] the availability of satellite cable programming and satellite broadcast programming to persons in rural and other areas not currently able to receive such programming…’” [at 129]. 

So since two providers of satellite and one or two of wireline cable service is not enough, the ISP duopoly has to devote its resources to carrying more TV.   Even more ironically, the justification above refers to the “cable or telephone company” as the subject of the new Internet rules, but they apply to unaffiliated ISPs as well. Many ISPs are small businesses, with no market power, and they are not exempted from rules whose authors were clearly thinking about the largest incumbents. Broadcast-quality video consumers far more capacity than other Internet applications, and thus has a substantial cost impact on ISPs, especially on smaller ISPs and those in rural areas. And the Order specifically cites rural areas as a place where ISPs are expected to provide video competition. So the high likelihood of higher ISP rates and less ISP competition is being justified by the off chance that some cable rates might not rise quite as fast. Where again is the real market failure, and is that what’s being fixed?

If one goes looking for precedent for this type of monopolistic behavior, the best example seems to be the period leading up to the FCC’s formation in 1934. In the early 20th Century, the telephone industry was hotly competitive, but AT&T (News - Alert) ran most of its competitors out of business. Antitrust actions left a handful in place, but a system of local monopolies grew up instead, and by 1930, there were no competitors left. The new FCC then followed regulatory policies that banned competition in favor of a regulated monopoly, only starting to change course a few decades later. 

We’re getting the monopoly back; it’s just not being regulated sensibly. The past decade’s FCC policies have created a huge market failure. The current FCC has embraced this failure and its new Internet policies are merely cover for it.

Want to learn more about how federal regulations are shaping and re-defining communications and information technology? Then be sure to attend the Regulatory 2.0 Workshop, collocated with TMC’s (News - Alert) ITEXPO East, taking place Feb 2-4, 2011, in Miami. Federal Communications Commission Chairman Julius Genachowski has pursued the singular goal of ubiquitous broadband access to an open Internet. While some progress has been made, the most difficult decisions are ahead. What's the Commission to do? This program will examine the important issues facing the FCC including net neutrality, inter-carrier compensation and universal service reform, new CALEA legislation, next generation 911, additional spectrum for wireless broadband and the evolving role of state regulation. To register, click here.

Fred Goldstein, principal of Ionary Consulting, writes the Telecom Policy column for TMCnet. To read more of Fred’s articles, please visit his columnist page.

Edited by Tammy Wolf

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