6 March 2015

The debate over “Net Neutrality” has reached another significant milestone with the USA’s telco regulator, the FCC, announcing new rules for broadband providers. The outcome of this debate, which will likely continue for some time as the FCC’s rules come under legal challenge, will have far reaching impacts on the future of the internet.

In a nutshell the new FCC rules require that internet content is not blocked or divided into fast lanes and slow lanes based on ability of content providers to pay. This state of play comes after President Obama entered the debate in November 2014 encouraging the FCC to use old-style telco regulations to implement these new rules.

The politicisation of the Net Neutrality debate in the USA has even seen the FCC decision resolved along partisan lines with the Democrat majority commissioners outvoting their Republican counterparts.

In Australia, we are no strangers to political debates and partisanship regarding the internet and broadband, with the NBN policy front and centre at each federal elections since 2007.

However Net Neutrality has not been an issue in Australia. Popular content providers such as ABC’s iView have not been throttled by internet service providers and a plethora of new video streaming services are ready to be launched without raising Net Neutrality concerns.

How Australia side-steps Net Neutrality

To a large degree Australia has side-stepped the debate because our market has accepted the user-pays principle for internet content. Internet plans are priced primarily on the amount of data or content that can be downloaded per month. This is not the case in the USA, and many other markets, where flat rate price plans for fixed broadband services are largely independent of data downloaded.

Australia has seen some bundling of zero-rated data plans with content providers (for example iiNet and Netflix have recently announced such a relationship), but this demonstrates that the Australian internet user does understand the value of download caps and quotas and is not a case of fast and slow lanes being implemented. It is unlikely such differentiation will develop as along as a large portion of data is still under the user-pays model.

Australia’s internet market developed differently due to the high cost of transmission capacity to the backbone of the internet in the USA. This cost had to be covered by charges on users related to their downloading. However in the USA, the home of the internet, the transmission costs to connect to the backbone were minimal and the service providers absorbed this cost.

This model worked well in the USA until the huge growth of video content, led by Netflix, meant that significant network upgrades would be required. The service providers began threatening to restrict data from these video content providers to limit the cost of network upgrades. Net Neutrality became the catch cry of the interest groups, including the content providers, that railed against such restrictions.

User-pays holds the key

So in the USA, the unregulated internet has created a market structure that has avoided the user-pays principle for data or content. The obvious solution is to introduce such user-pay models but the market structure is well-embedded and difficult to change.

But now the regulators have quickly stepped in at the prompting of President Obama to “fix” a market structure problem. But rather than move the market back to a more sustainable structure, the new rules are taking old-style telecom utility regulation and applying it to the internet. Restrictions on agreements and “reasonableness” tests will be used to regulate how service providers connect their networks to content providers.

Australia has already been down this path with its telco sector. The near simultaneous process of Telstra privatisation and market de-regulation resulted in Telstra dominating the market for fixed broadband services through it ownership of cable pay TV and telephone network assets. Rather than addressing this market dominance, government policy has concentrated on regulatory access regimes to enable competitors to access Telstra’s infrastructure.

The inevitable outcome of this regulatory intervention has been an investment drought in fixed broadband with Australia lagging on international comparisons. In 2009, to address this lack of investment, Australia’s government founded its own telco, NBN Co, to build a national broadband network. So a failure to create a viable market structure that promotes investment has resulted in Australia’s taxpayers taking on significant risk in the creation of a broadband utility style network.

Is the USA now on the cusp of heading down the same path? Will government intervention using utility style regulation lead to an investment drought? The big broadband providers, such as Comcast, Verizon and AT&T in the USA are saying it will. Threats have been made that investments in fibre networks will slow or stop if the utility style regulation becomes the norm on broadband service providers.

Such a future may not fit well with the American preference for small government. But the telco industry has a long history of regulatory intervention. It now seems that this long history may overwhelm those who are seeking to keep the internet free of government regulation.

Artificial constructs bound to fail

So before the USA does head down this path of regulatory intervention perhaps it should have a look at Australia’s dismal track record of broadband investment. It is clear that both regulatory and political intervention to fix market structure problems have created disincentives to investment and innovation.

Ironically, a better path for the USA may be to follow Australia’s lead and introduce user-pays pricings plans for broadband services. Such market pricing mechanisms will likely create incentives to distribute popular content rather than the disincentives that currently exist.

The lesson from both markets is that government and regulatory policy actions regarding the internet and broadband should look to encourage competitive market mechanisms for creating incentives to invest and innovate. So far it seems that government intervention is intent on creating artificial market constructs that do the opposite and discourage the investment and innovation that has been such a vital characteristic of the internet – until now.