Economic Implications of Net Neutrality for ISPs

On May 18, 2017, the Federal Communications Commission (FCC) voted to repeal net neutrality laws that had been put in place by the Obama Administration (Fiegerman, 2017). The earlier regulations had ensured that no service provider could restrict individual components of the Internet. Groups that favor net neutrality believe it supports freedom of expression and creates an environment where small companies can thrive (Curtis & Hellard, 2019). Meanwhile, groups that are against net neutrality believe it allows dangerous content to exist on the Internet and that large amounts of data are able to be used without consequences (Curtis & Hellard, 2019). Net neutrality is a very divisive topic, especially as western countries begin to understand its importance and either create net neutrality laws or give Internet service providers (ISP ́s) freedom to do as they choose. Government lobbying and regulatory costs, innovation, and investment are all factors that are affected by net neutrality regulation.

Rent Seeking

As the ISP market is regulated more through net neutrality laws, the prevalence of rent seeking increases (Faulhaber, 2011). Rent seeking is the process by which companies gain money from competitors instead of directly from consumers. This process usually occurs through government lobbying (Marotta, 2013). Though rent seeking does irregularly benefit some companies, hence why it occurs, most of the time it is economically detrimental. The economic effects of regulation were felt almost immediately after the FCC released a new net neutrality law in 2010. A dispute arose after Comcast began charging Level 3, a telecommunications company, excess Internet traffic that Comcast was handling (Faulhaber, 2011). The dispute warranted no government intervention, but due to the fact that the FCC had just passed new regulation, Level 3 filed a suit regardless. No charges were made and it was clear the current laws were being followed, but both parties lost money as a result of the dispute. Situations such as this only happen more often as the government gets involved in an industry.

Innovation

As an industry becomes more regulated, as in the case of the ISP market in several countries, innovation becomes significantly more expensive and infrequent (Alesina et.al., 2003). With more regulation comes legal fees and employee's time that a company has to pay for to adhere to the new rules. Antitrust regulation, market entry regulation, price regulation, and regulation of monopolies are all examples of forms of government regulation that cost companies in work time. The pharmaceutical industry is a prime example of this phenomenon. Research and development in the pharmaceutical market is vital to a company's success, yet the number of new molecular entities being researched and produced has fallen since the 1990’s (Terry, 2004). Much of this has to do with price. The average cost for developing a new drug between 1995 and 2000 was 1.2 billion dollars (Mark, 2004). By 2002 this had increased to 1.7 billion dollars (Terry, 2004). This increase in price mostly came from new regulation costs. With such high price tags innovation becomes extremely difficult. Money that previously could have been allocated to creating new products and innovations has to be spent on making sure all regulations are being followed. With less innovation comes more problems for ISPs, particularly in their ability to raise investments.

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Investment

Tight regulation of net neutrality makes Internet providers less attractive options for investors. Degreglation on the other hand has been found to increase investment in certain industries (Alesina et. al., 2003). More regulation means it costs more money to innovate. Investors are looking for the highest returns and Internet service providers that are tightly regulated simply don’t look as attractive to investors as those otherwise less regulated. An example of this occurring is with the Netherlands service provider KPN. In June of 2011, the Netherlands passed a new net neutrality law preventing companies to block voice calls over the Internet using Skype (‘Netherlands Makes Net Neutrality a Law’, 2011). Another law in 2016 would create even more stringent net neutrality regulation. At the start of June, before the law was passed, KPN’s stock was valued at close to 7.00 euros (Markets Insider, 2019). By the end of June after the new net neutrality regulation announcement, the stock value hovered around 6.91 euros (MC, 2019). Finally, by July 2012, KPN’s stock was valued at only 1.54 euros (MC, 2019). Stock value is not necessarily an indicator of a company’s true value or profitability, rather an indicator of what investors think of a company. Companies like Apple and Microsoft will consistently have high stock values as they are always coming out with new products and attracting new investors. Innovation is the key word here. Tech companies have high stock values not necessarily because they are more profitable than an ISP like KPN, but because they innovate. Every few years tech companies come out with new products that attract customers and investors alike. KPN on the other hand lost investors as individuals realized they could make more money investing elsewhere. The world now contains a globally connected economy. People can invest in thousands of companies across the world. If an ISP is restricted in one country due to regulation, investors can simply sell their shares and move them to a different and less regulated ISP in a different country. Without investment capital, companies lack the money to spend in research and development, infrastructure, capital purchases, and other variable company expenditures.

Competition

A common belief among net neutrality supporters is that an industry without net neutrality is more expensive for consumers and more profitable for ISP’s. If companies can discriminately divide the Internet into different packages for consumers to purchase, people are going to have to spend more in order to get the same service. Competition is being forgotten. Competition is what keeps prices low even without net neutrality. Customers do not have loyalty to ISP’s. If people are dissatisfied with the prices offered by one provider, they can switch to another. Already, customers switch providers at the rate of 2 to 2.5% per month (Faulhaber, 2011). With competition like that, prices are going to be competitive no matter what.

Conclusion

The implementation of net neutrality would hinder ISP innovation and economic growth while having no positive economic impacts for customers. Furthermore, by nature net neutrality hurts competition in the industry and drains profits as rent seeking appears more often. The evidence indicates that net neutrality has significant negative economic effects on ISP’s.