Is there a way for the FCC to apply Title II regulations to the Internet without embarrassing itself? Yes, but it would require a change in direction.
“Title II” is the section of the Communications Act that was intended to regulate monopoly telephone companies as public utilities. Its roots go far back in history, but an effective starting place for understanding Title II is an 1876 Supreme Court case, Munn v. Illinois (0). The case involved grain elevators that the court found were situated uniquely between a river harbor and railroad tracks, giving the elevators monopoly control over grain movements from farmers in certain Midwestern states to markets on the East coast. The elevators extracted economic rent to such an extent that they seriously hindered the agricultural economies in the affected areas.
Through Munn and some subsequent cases, the court formulated a two-part test to determine whether a business should be considered a utility. The first part stated that a firm must have the potential for exploitation or extortion because of its monopoly power. The second part said that the business’s service has to be construed as a necessity, i.e., fundamental to a community’s well-being.
Unfortunately the FCC is discarding the economic and legal logic underlying Title II by ignoring the first test: that of possessing monopoly power sufficient to exploit and extort. Applying this test would diminish greatly the damage done by adopting Title II.
How could the FCC adopt this test? The approach is well known and effectively embodied in the US Department of Justice’s Merger Guidelines (1). Subject to some recent innovations, the Guidelines provide a two-step process for regulators assessing a given business. First, they advise that regulators define the market – that is, the product and geographic space beyond which customers are unwilling or unable to find substitutes for the service in question, plus within which potential suppliers are effectively unable to enter. Next, the guidelines dictate that regulators examine whether the firm or firms in the market are able to exploit or extort consumers.
The FCC has applied these guidelines before (2), but the commissioners who plan to vote for Title II are ignoring them. In his recent presentation at Silicon Flatirons, FCC Chairman Tom Wheeler explained how he reached the conclusion that the market for ISP services had failed. First, he arbitrarily choose a particular level of service – 25 Mbps down and 3 Mbps up – that few customers choose to buy and many ISPs find uneconomical to provide. He followed this definition with the non sequitur that the reason customers aren’t buying broadband services at these speeds is because ISPs exercise exploitative market power. By that logic, he concludes the FCC must not only apply Title II, but also regulate interconnection and transit services that ISPs supply to content providers.
What should the FCC do instead of the approach outlined by the chairman? First the commission should instruct its staff to conduct proper analyses to see where, if anywhere, ISPs have sufficient market power to exploit and extort with respect to services customers actually purchase. If such market power is found, then the FCC’s first remedy should be to identify what is limiting competition, removing whatever barriers are within its power to remove and reporting to Congress any barriers that are beyond the FCC’s reach.
If any market is found to be an enduring natural monopoly for economic and/or technological reasons, then the FCC should take a light-handed approach to protecting customers by, for example, requiring an ISP with monopoly power to report any differences in prices and services between the monopoly market and all other markets served by the ISP. An annual analysis by FCC staff could determine whether differences were exploitive and extortive, or simply reflected economic differences between markets.
The FCC should resist outright bans on blocking, throttling, and other “bad behaviors,” and instead adopt rules that require full, understandable disclosure of such policies so that customers can make informed choices. In a world of two-sided markets, it is feasible that some fully informed customers would be willing to allow traffic to be throttled or blocked under certain conditions, such as price discounts.
The FCC should refuse to assert jurisdiction over markets that are not dominated by monopolies. For example, given the preponderance of content delivery networks (CDNs), pure transport providers, and the multiplicity of interconnection arrangements between networks, it is unlikely that a staff analysis would find market power in broadband transport or interconnection.
Perhaps customers would be better off if the FCC was not applying Title II. But given the current direction, the second-best option appears to be to adopt a rigorous standard for market power.