What is the Net Benefit of Net Neutrality?

An individual with internet service can access more information than she could ever consume. “Net neutrality” seeks to maintain information access by preventing pricing schemes that discriminate based on source and content. In recent years, internet service providers (ISPs) have begun monetizing traditionally free internet services, placing the principals of net neutrality in jeopardy.

One of the more frequently discussed pricing models involves ISPs charging both consumers and content providers. Such plans violate the principle of net neutrality by either blocking content from nonpaying content providers or offering faster internet speeds to those willing to pay a premium. In a recent study, economists Marc Bourreau and Romain Lestage develop a game theory model with which to examine regulatory schemes that allow for different combinations of payment from consumers and content providers, with the aim of identifying schemes that maximize consumer benefit. In their model, they present a pair of competing ISPs, which are differentiated by the fact that one “is vertically integrated and provides the other” with access to its “last mile” network. Last mile coverage can be compared to mailing a package. A postal service with an airline might have the ability to take the package to any city in the world, but not to the individual recipient due to lack of local infrastructure. As a result, the postal service will have to rely on a partner to complete “the last mile” of its obligation. With zero-pricing, the local partner would be barred from charging the person mailing the package. Similarly, in the internet, if there is a regulatory environment without net neutrality, a second ISP may charge the content provider to transmit a package of data from the first ISP to the final consumer. This leads to a market in which ISPs profit from both the content provider and the final consumer.

Through their analysis, Bourreau and Lestage find that schemes in which ISPs charge both consumers and content providers should not be categorically condemned. They argue that, under certain market conditions, they may promote competition between ISPs and increase incentives for them to extract revenue from content providers, thereby resulting in reduced prices for consumers. The question then becomes how best to distribute cost between content providers and consumers to maximize utility.

In their model, profit is held constant, meaning that limiting revenue from one side of the market causes the ISP to charge more to the other side and leads to a negative correlation between costs paid by consumers and those paid by content providers. They hypothesize that this finding is due to a strategic adaption called “the waterbed effect,” whereby prices are raised due to loss of income from one source brought on by changes in regulation. In light of the “waterbed effect,” regulators who are primarily concerned with consumer welfare may be incentivized to shift as much of the cost to content providers as possible. According to Bourreau and Lestage, such a policy may in fact not maximize consumer welfare. While higher fees for content providers may decrease costs to consumers, they may also limit the number of these providers that enter the market. Although schemes that lead to cheaper internet access may be perceived as beneficial to consumers, they can have deleterious societal effects, due to the fact that smaller outlets and forums can provide value to niche audiences and allow the promotion of minority viewpoints. This can lead to a vicious cycle in which fewer content providers may lead consumers to cancel their internet service, thus leading to increased costs and decreased profitability for content providers who may then choose to leave the market themselves. As a result, Bourreau and Lestage argue that it is preferable for all sides to have as many content providers accessible in the market as possible.

The authors suggest that the inverse relationship between content providers’ cost and consumers’ fees creates a tension between consumers’ interest in saving money and desire to maximize value provided by the internet. While Bourreau and Lestage’s study does not address the optimal ISP regulatory framework to maximize welfare, it does call into question the conventional wisdom that content providers, rather than consumers, must ultimately take on the brunt of costs in internet markets. Ultimately, this research outlines the challenge of balancing stakeholder interests in a two-sided market, while providing a useful framework for future regulators.

Article source: Bourreau, Marc, and Romain Lestage, “Net Neutrality and Asymmetric Platform Competition,” Journal of Regulatory Economics 55, no. 2 (2019): 140–171.

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