Source: Wikipedia

The Real Question Behind Zero-Rating: Who Should Pay?

On Friday, the Federal Communications Commission (FCC) officially closed an open investigation on zero-rating that began under Former Chair Tom Wheeler. The move makes sense. In various letters and a report, the previous administration made it clear it was focused more on calling out wireless carriers rather than illuminating the critical question in zero-rating, a question the agency admitted it couldn’t answer. Who should pay for mobile network upkeep?

When the FCC put out the 2015 Open Internet Order, regulation on zero-rating programs wasn’t included. Because zero-rating is a broad term for programs that exempt content from counting against consumers’ data caps, the agency reasoned that these business models could provide consumer and competitive benefits. Instead, the FCC choose to handle concerns on a case by case basis, but gave little guidance, which alarmed some.

Near the end of Wheeler’s tenure, the Wireless Telecommunications Bureau put out a report on the topic, which was meant to provide clarification. Yet, it didn’t clarify the FCC’s position and instead provided 18 broad questions that could trigger action and then reviewed the current offerings.

T-Mobile seems to have gotten a pass for their program, which changes the quality of video, because it “charges all edge provider participants an identical zero price” and can be shut off. In other words, if there isn’t an exchange of cash, then there isn’t a problem.

On the other hand, AT&T’s Sponsored Data program and Verizon’s FreeBee Data 360 each allow edge providers, like Netflix, Google and Facebook, to purchase bulk data that is then exempted from subscribers’ data caps. Because money is exchanged, the previous FCC worried that the terms and conditions of these offerings will make it difficult for other video competitors to get a foothold in the mobile market since the affiliated content providers will have to pay the wireless data rates, which could be cost prohibitive.

But the agency late last year admitted that, “We lack the information at this time, however, needed to assess whether AT&T’s current sponsored data price to third party providers… is reasonable under this standard.” Indeed, the agency agreed that it didn’t have the empirical evidence to ground their investigation. And weeks prior to this report, the FCC noted that “Sponsored Data rates are similar to the discounted wholesale rates paid by major wireless resellers.” If this is the case, the cost of transmission is merely being shifted from consumers to producers.

Transmitting data through these networks is costly, as the agency has admitted countless times. Traditionally, costs have been recovered via consumer data plans. Content producers, on the other hand, haven’t had to bear the consequences of network upkeep. If however, edge providers were forced to bear some of these costs, then they would find themselves pressured to push for technological advances to economize on bandwidth. Economists call these costs externalities, and a long line of work suggests that they lead to inefficient markets.

The report and the letters showed that the investigation rested on the belief that all content, whether it is zero-rated or not, conforms to an ideal of perfect competition. But, in the real world, there are search costs, barriers to entry exist, content has market power and there are significant transaction costs.

Mad Men and Breaking Bad transformed AMC into a powerhouse. Australians went to great lengths to see Game of Thrones. In a converged world, the desire to consume specific types of content is highly varied, depending on both the content costs and the transmission costs.

Zero-rating is just one way to compete in a world with quickly changing technological capabilities, but it isn’t the only one. For example, Netflix now allows consumers to download movies and videos to be watched offline, including mobile users. Let’s call this zero-streaming. Zero-rated content is still at a disadvantage to zero-streamed because Netflix wouldn’t suffer from buffering issues or changing video quality. Netflix has also upgraded its own delivery systems and is now using a codec that allows it to save 36 percent on bandwidth for Android phones and about 19 percent on iOS. Both are clear advantages.

What sank the analysis is that the previous FCC didn’t consider dynamic markets. Let’s say your plan allows 100 hours of downloadable content. In a non zero-rated world, you consume 50 hours of affiliated content and 50 hours of unaffiliated content. Once affiliated content has been zeroed-rated, you effectively gain 50 hours of downloads, making it more likely that you’ll select unaffiliated content. To those who only see the marketplace in a static mindset, it is deeply paradoxical to learn that the Binge-On program nearly doubled video viewing for T-Mobile, which was able to sustain average billing rates even as it zeroed out the biggest sources of data usage. Reducing transmission costs is only one part of the larger story about content innovation.

The last administration’s work on zero-rating was replete with stumbles, so dismissing the investigation was a logical step. To limit these kinds of problems in the future, FCC Chair Ajit Pai has discussed FCC reorganization efforts which would give the agency a proper bureau of economic analysis. Pai should be applauded for this effort. Only when economic analysis is the very core of agency decision-making will consumers be properly protected.

Senior Research Fellow | Center for Growth and Opportunity | @WillRinehart