Network Neutrality, Consumers, and Innovation

In this Article, Professor Christopher Yoo directly engages claims that mandating network neutrality is essential to protect consumers and to promote innovation on the Internet. It begins by analyzing the forces that are placing pressure on the basic network architecture to evolve, such as the emergence of Internet video and peer-to-peer architectures and the increasing heterogeneity in business relationships and transmission technologies. It then draws on the insights of demand-side price discrimination (such as Ramsey pricing) and the two-sided markets, as well as the economics of product differentiation and congestion, to show how deviating from network neutrality can benefit consumers, a conclusion bolstered by the empirical literature showing that vertical restraints tend to increase rather than reduce consumer welfare. In fact, limiting network providers’ ability to vary the prices charged to content and applications providers may actually force consumers to bear a greater proportion of the costs to upgrade the network. Restricting network providers’ ability to experiment with different protocols may also reduce innovation by foreclosing applications and content that depend on a different network architecture and by dampening the price signals needed to stimulate investment in new applications and content. In the process, Professor Yoo draws on the distinction between generalizing and exemplifying theory to address some of the arguments advanced by his critics. While the exemplifying theories on which these critics rely are useful for rebutting calls for broad, categorical, ex ante rules, their restrictive nature leaves them ill suited to serve as the foundation for broad, categorical ex ante mandates pointing in the other direction. Thus, in the absence of some empirical showing that the factual preconditions of any particular exemplifying theory have been satisfied, the existence of exemplifying theories pointing in both directions actually supports an ex post, case-by-case approach that allows network providers to experiment with different pricing regimes unless and until a concrete harm to competition can be shown. Introduction ..................................................................................................................................... 2 I. The Forces Driving the Network Neutrality Debate ............................................................... 11 A. The Emergence of Internet Video ..................................................................................... 12 B. The Growth of Peer-to-Peer Technologies ....................................................................... 14 * Professor of Law and Communication and Founding Director of the Center for Technology, Innovation, and Competition, University of Pennsylvania. Portions of this Article were incorporated into my testimony at the Public Hearing on Broadband Network Management Practices held before the Federal Communications Commission on February 25, 2008; the Hearing on Net Neutrality and Free Speech on the Internet held before the Task Force on Competition Policy and Antitrust Laws of the House Judiciary Committee on March 11, 2008; and the Hearing on H.R. 5353: The Internet Freedom Preservation Act of 2008 held before the Subcommittee on Telecommunications and the Internet of the House Commerce Committee on May 6, 2008. 2 C. The Increasing Heterogeneity in Business Relationships Among Network Providers ..... 21 D. Variations in the Ways Congestion Can Arise in Different Transmission Technologies. 26 II. Potential Consumer Benefits from Deviating from Network Neutrality ................................ 29 A. Supply-Side Justifications for Prioritization and Differential Pricing .............................. 30 1. Maximizing Consumer Welfare in the Presence of Congestion ................................. 30 2. Consumer Benefits from Network Diversity .............................................................. 41 3. Alternative Institutional Solutions .............................................................................. 43 B. Demand-Side Justifications for Differential Pricing ......................................................... 46 C. The Relevance of Two-Sided Markets ............................................................................. 52 III. Potential Innovation Benefits from Deviating from Network Neutrality ............................... 58 A. The Role of Prioritization ................................................................................................. 58 1. The Limitations of Increasing Bandwidth as a Solution ............................................. 60 2. Prioritization as a Way to Promote Innovation ........................................................... 63 B. The Role of Price Signals ................................................................................................. 66 C. Short-Term Deadlock as an Inevitable Part of Economic Bargaining .............................. 71 D. The Role of Exclusivity .................................................................................................... 75 E. The Ambiguous Role of Network Economic Effects ....................................................... 76 IV. Network Diversity as an Appropriate Middle Ground When the Impact on Consumers and Innovation Is Ambiguous ................................................................................................. 79 Conclusion .................................................................................................................................... 97