Free Internet access: When is it suitable?

Since 1998 a lots of European Internet Service Providers (ISP) started to provide internet access freely. Why does a profit maximizing operator adopts this pricing policy? A consumer who wants to surf on the net needs to buy two services: the access from the ISP and the connection from the Telephone Operator. Since the two services are complements, the price of one service creates a negative externality on the demand for the other one. One way to remove this externality is by writing a contract in which one of the two operators offers an amount of money to the other one, if the latter fixes his price to zero. In this paper we show that, under particular conditions regarding the development of internet market, the contractual solution is better than the independent one in which both operators set their prices independently, without taking into account the negative externality effect. JEL Classification: L11, L12, L22, L86