Realities of Zero Rating and Internet Streaming Will Confront the FCC in 2016

For tech policy progressives, 2015 was a great year. After a decade of campaigning, network neutrality advocates finally got the Federal Communications Commission to codify regulations that require Internet service providers to treat all traffic the same as it crosses the network and is delivered to customers.

Yet the rapid way broadband business models, always tenuous to begin with, are being overhauled, may throw some damp linens on their party. More powerful smart phones, the huge uptick in Internet streaming and improved WiFi technology are just three factors driving this shift.

As regulatory mechanisms lag market trends in general, they can’t help but be upended along with the industry they aim to govern. Looking ahead to the coming year, the consequences of 2015’s regulatory activism will create some difficult situations for the FCC.

Zero rating will clash with net neutrality

 The FCC biggest question will be whether “zero rating,” also known as “toll-free data,” is permissible under its new Open Internet rules. Network neutrality prohibits an ISP from favoring one provider’s content over another’s. Yet by definition, that’s what zero rating does: an ISP agrees not to count data generated by a specific content provider against a customer’s overall bandwidth cap. Looking at from another angle, instead of charging more for enhanced quality—the Internet “toll road” network neutrality is designed to prevent, zero rating offers a discount for downgraded transmission. As ISPs, particularly bandwidth-constrained wireless companies, replace “all-you-can-eat” data with tiered pricing plans that place a monthly limit on total data used—and assess additional charges on consumers who go beyond the cap—zero rating agreements become critical in allowing companies like Alphabet (formerly Google), Facebook and Netflix, companies that were among the most vocal supports of network neutrality, to keep users regularly engaged.

T-Mobile has been aggressive with zero rating, having reached agreements with Netflix, Hulu, HBO Now, and SlingTV for its Binge On feature. Facebook, another network neutrality advocate, has begun lobbying for zero rating exceptions outside the U.S. Facebook founder and CEO Mark Zuckerberg told a tech audience in India, where net neutrality has been a long-standing rule, that zero rating is not a violation, a contention that some tech bloggers immediately challenged.

When it came to net neutrality rulings, the FCC may have hoped it would only have to deal with disputes dealing with the technical sausage-making covered by the “reasonable network management” clause in the Title II order (to be fair, zero rating involves some data optimization). But any ruling that permits zero rating would collapse its entire case for network neutrality. The Electronic Frontier Foundation, another vocal net neutrality supporter, understands this explicitly, and wants the FCC to nip zero rating in the bud.

The problem is that zero-rating is not anti-consumer, but a healthy, market-based response to bandwidth limitations. Even though ISPs are treating data differently, customers get access to more entertainment and content without higher costs. Bottom line: consumers get more for their money. For providers like Alphabet and Facebook, which rely on advertising, there stands to be substantial return on investment. Unlike blanket regulation, it’s voluntary, sensitive to market shifts and not coercive.

How long before these companies who lobbied for network neutrality begin their semantic gymnastics to demand exemptions for zero rating? The Court of Appeals may make it moot by overturning Title II reclassification outright. But failing that, expect some of the big Silicon Valley tech companies to start their rhetorical games soon.

 Internet streaming will confound the FCC

The zero rating controversy is just one more outgrowth of the rise in Internet streaming.

For the past seven years, the FCC’s regulatory policy has been based on the questionable assertion that cable and phone companies are monopoly bottlenecks.

Title II reclassification is aimed at preventing ISPs from using these perceived bottlenecks to extract higher costs from content providers. Yet at the same time, the FCC, in keeping with its cable/telco/ISPs-are-monopolies mindset, depends on them to fund its universal service and e-rate funds and fulfill its public interest mandate by carrying broadcast feeds from local television stations.

The simple fact is that the local telephone, cable and ISP bundlers are not monopolies. The 463,000 subscribers the top 8 cable companies lost in the second quarter of 2015 are getting their TV entertainment from somewhere. Those who are not cutting the cord completely are reducing their service: Another study estimated that 45 percent of U.S. households reduced the level of cable or satellite service in 2014.

Consumers are replacing their cable bundle with streaming options such as Roku, Amazon Fire, Apple TV and Google Play. These companies aggregate and optimize the Internet video for big screen TVs and home entertainment centers. Broadcast and basic cable programs are usually free (but carry ads); other programming can be purchased by subscription (Netflix, HBO Now) or on demand (iTunes, Amazon). While in many cases consumers retain their broadband connection, that remains their only purchase from the cable or telephone company. But even that might be optional, too. Millennial consumers are comfortable using free WiFi services or zero-rated wireless plans like T-Mobile’s Binge On.

But as consumers cut the cord, cable revenues go down. When cable revenues drop, so does the funding for all those FCC pet causes. The question is how hard will the FCC push to require streaming services to pay universal service fees, or include local TV feeds among their channel offerings? Under the current law, the FCC has no regulatory jurisdiction over streaming applications, unless, as with Title II, it tries to play fast and loose with legal definitions. The FCC has never been shy about overreaching, and as early as October 2014 Chairman Tom Wheeler suggested that IP video aggregators could be considered multichannel video programming distributors, a term that to date has been applied only to cable television companies.

Ironically, streaming stands to meet two long-held progressive policy goals—a la carte programming selection and structural separation of the companies that build and manage physical broadband networks and the companies that provide the applications that ride it. Cable and Internet bundles are so 2012! Yet 2016 finds the FCC is woefully unprepared for this shift. In fact, last we looked was encouraging small towns to borrow millions of dollars to get onto the cable TV business.

Over the past seven years, the FCC has pursued Internet regulations from an ideological perspective—treating it as a necessary component of the overall business ecosystem. In truth, regulation is supposed to serve consumer interests, and should be applied to address extant problems, not as precautionary measures. Unfortunately, the FCC has chosen to ignore market realities and apply rules that fit its own deliberate misperceptions. The Commission’s looming inability to find consistency in enforcing its own edicts is a problem solely of its own making.