Empirical Evidence on the Effect of Broadband Regulation

1. Empirical Evidence on the Effect of Broadband Regulation Thomas W. Hazlett Professor of Law & Economics thazlett@gmu.edu LESSONS FROM THE TELECOM WARS Broadband Deregulation & Network Neutrality Information Economy Project * Mini Conference * George Mason University Sept. 28, 2006

2. Amazon.com • Neutral? • Or priority conscious? Information Economy Project Net Neutrality

3. Amazon.com Sales Rank: #1,864,863 in Books (See Top Sellers in Books) Information Economy Project Net Neutrality

4. Net Neutrality: Market Evidence • Assessing the horribles • Business models developed via unregulated transactions • Unregulated transactions now a threat to those business models • Diagnosis • Are exclusive ISP deals anti-consumer? • Cures • Collateral damage? • Antitrust insufficient? Information Economy Project Net Neutrality

5. 3 Quick VoIP Calls • VoIP QoS Regulation • mandate power, 5 9s  kill VoIP • E911? • Digital Phone service • dedicated cable LAN bandwidth • pro-competitive in voice market • Clearwire • blocks Vonage • pro-competitive in broadband, voice Information Economy Project Net Neutrality

6. Gains from Trade • Market transactions discover efficient business forms • Internet: not “open” end to end • Internet: negotiated by contract end to end • “end to end” not an architecture • design principle…. case by case • an engineering principle • the economics: exclusive ownership • negotiated cooperative agreements • tons of exclusivity Information Economy Project Net Neutrality

7. Exclusivity • Essential ownership regime • Empowers quest for innovation • Service providers seek gains by claiming advantageous turf not available to rivals • “Openness” a policy aimed at reducing some other firms’ degrees of freedom Information Economy Project Net Neutrality

8. Evidence • Natural experiment • U.S. regulation of broadband networks • “open access” rules • “walled garden” prophylactic • innovation choked by vertical integration Information Economy Project Net Neutrality

9. The Broadband Race • Cable broadband a “closed platform” • Vertical integration (cableco + ISP) • No mandatory third party access • Regime upheld in Brand X case (June 2005) • DSL (recently) an “open platform” • ILEC must allow colocation for data switch • ILEC must rent local loop at regulated price • Dereg in Feb. 2003 – end of ‘line sharing’ • Dereg in Aug. 2005 – end of access rules Information Economy Project Net Neutrality

10. Feb. 20, 2003: Partial DSL Dereg • FCC ends “line sharing” • dCLECs pay full cost of local loop • “High-Speed Service May Cost More” --NY Times headline (Feb. 21, 2003) Information Economy Project Net Neutrality

11. Aug. 5, 2005: Full DSL Dereg "I hope next year the commission will put its money where its mouth is to see if the assumptions yield the results. And if it doesn't, I hope it will admit that and take appropriate action. I'll be keeping tabs." -- Commissioner Michael Copps Information Economy Project Net Neutrality

12. NN as Re-regulation • The New Republic: • net neutrality is needed because "last August, George W. Bush's Federal Communications Commission (FCC) exempted telcos that provide Internet connections from [open-access] restrictions, dealing a blow to both entrepreneurship and political discourse." “Open Net,” The Editors (June 19, 2006)

13. The Broadband Test: Two Regimes

14. The Broadband Test: Two Regimes

15. The Broadband Test: Two Regimes

16. Cable’s Lead Evaporates

17. Cable Modem Lead Evaporates

18. Quarterly DSL and Cable Modem Subscriber Additions, 2Q1999 - 1Q2006 2.0 1.8 1.6 1.4 1.2 1.0 Incremental Number of Subscribers (in millions) 0.8 0.6 0.4 DSL Cable 0.2 0.0 4Q04 4Q05 2Q05 2Q01 4Q01 2Q02 4Q02 2Q03 4Q03 2Q04 2Q99 4Q99 2Q00 4Q00 Source: Legg Mason New Subs per Quarter

19. Quarterly DSL and Cable Modem Subscriber Additions, 2Q1999 - 1Q2006 2.0 DSL 'Line Sharing' 1.8 Dereg 1.6 1.4 1.2 1.0 Incremental Number of Subscribers (in millions) 0.8 0.6 0.4 DSL Cable 0.2 0.0 4Q04 4Q05 2Q01 4Q01 2Q02 4Q02 2Q03 4Q03 2Q04 2Q05 2Q99 4Q99 2Q00 4Q00 Source: Legg Mason DSL Takes Lead Post Dereg

20. Quarterly DSL and Cable Modem Subscriber Additions, 2Q1999 - 1Q2006 2.0 DSL 'Line Sharing' 1.8 Dereg 1.6 1.4 1.2 1.0 Incremental Number of Subscribers (in millions) 0.8 0.6 0.4 DSL Cable 0.2 0.0 2Q01 2Q02 4Q02 4Q03 4Q01 2Q03 4Q04 2Q05 4Q05 2Q04 4Q00 2Q99 4Q99 2Q00 Source: Legg Mason “Keeping Tabs” Full Dereg

21. Summary • Network sharing mandates not associated with broadband innovation • Marketplace evidence on the effect of regulation Information Economy Project Net Neutrality

22. Useful Exclusivity • Yahoo! 1999 • Yahoo! 2006 • Google’s big breaks • revenue extraction from advertisers • selected by Yahoo! as search engine • Amazon as Sprint Wireless Web partner Information Economy Project Net Neutrality

23. Wireless Web • DoCoMo Model • Early success in wireless web • 37 million subscribers (2002) • “At the heart of all this is a paradox: i-mode depends on outside providers for everything from handsets to content, yet it’s managed so carefully that nothing is left to chance.” (Wired, 9.01) • “walled garden” • blocks JPEG • DoCoMo provides platform for content • provides billing • charges content providers 9% of revenue

24. Business Models • Innovation good • Artificial limits bad Information Economy Project Net Neutrality

25. Optimizing Spectrum Use • Wireless carriers not agnostic wrt devices • Lengthy carrier approval process • Even with wireless broadband, MB limits • see DirecPC’s customer agreement • EV DO, HSPDA limits • The limits extend the network, increase functionality, create value Information Economy Project Net Neutrality

26. NN Regulation • Constrains market transactions • Shackles existing business forms • Illegalizes the Clearwire bundle or the DoCoMo garden • Fails to promote competition • As has deregulation of “open access” • As would more liberal policies wrt to broadband • More spectrum availability (exclusive rights) • Video franchise reform Information Economy Project Net Neutrality

27. THANK YOU. Information Economy Project Net Neutrality