The history of cable and cable programming strongly suggests that without specific FCC safeguards, we can expect a massive “arms race” by providers to vertically integrate and to discriminate against unaffiliated services.
On December 14, the Federal Communications Commission (FCC) is scheduled to vote on an order explicitly repealing the rules adopted in 2015 to protect network neutrality and “the open Internet.” The rules explicitly prevent a broadband access provider from blocking any content or services, throttling any content or services (aka creating “slow lanes” or “toll lanes,” because the broadband provider requires the content or service provider to pay an additional fee to avoid throttling), or prioritizing any content or services (aka creating “fast lanes”). The rules also include a “general conduct rule” that prohibits a broadband provider from otherwise acting in a “non-neutral” manner when delivering content or services.
The draft order goes well beyond any previous FCC order or policy in encouraging broadband providers to experiment in various business arrangements that would include either creating fast lanes or charging tolls to get out of slow lanes. Whatever one may think of the merits of this policy, it raises a critical concern on a principle that has—until now—guided federal policy around net neutrality. Vertically integrated broadband providers, such as Comcast (which owns NBC Universal and a variety of other online content and services), AT&T (which owns DirectTV, and is trying to acquire Time Warner), and Verizon (which owns AOL, Yahoo!, and other online properties), have both the means and the method to favor their own content and services over their rivals’. In addition to vertically integrated content, nearly every major broadband provider also offers a traditional cable service that competes both with online video streaming services for traditional video-on-demand content, and with rival “virtual” distributors such as Verizon’s Go90 or AT&T’s DirecTV Now.
The history of cable and cable programming strongly suggests that without specific FCC safeguards, we can expect a massive “arms race” by providers to vertically integrate and to discriminate against unaffiliated services. From what we have seen so far in the broadband market, we can expect this history to repeat itself once the FCC deregulates broadband.
Cable Deregulation, Without FCC Oversight, Leads to Cable Concentration
Congress essentially deregulated the cable industry with the Cable Act of 1984. The act severely limited local franchise authorities from regulating local cable providers, and essentially removed the FCC from overseeing the industry. As part of the “Reagan Revolution” experiment in deregulation, Congress determined that antitrust law alone, combined with the general oversight by the Federal Trade Commission (FTC), would provide adequate protection for competitors and consumers. This decision proved disastrous for both competitors and consumers. The situation became so intolerable that Congress completely reversed itself a mere eight years later by passing (over President Bush’s veto) the Cable Act of 1992.
As Congress explained in both the official Congressional findings in Section 2 of the 1992 Act, as well as in the extensive legislative history, neither traditional antitrust enforcement nor the FTC could adequately restrain cable operators from exercising market power. Because cable operators were local monopolies (due in large part to the economics of network deployment), they controlled access to the “eyeballs” needed by programmers to survive. Cable operators began a cycle of expanding horizontally, then using the increased size of their geographic monopoly to demand that independent programmers sell them a controlling interest. Cable operators then withheld the needed programming from potential rivals trying to offer competing services, such as the fledgling satellite industry.
“The net neutrality repeal order does for broadband exactly what the 1984 Cable Act did for cable—create an environment with virtually no effective restraint on the ability of providers to favor their own content and discriminate against rivals.”
Without this must-have programming, rivals could not effectively compete, strengthening the cable monopoly and enhancing the ability to demand ownership interest as a condition of carriage. To incentivize existing programmers too popular to exclude entirely to sell them an ownership interest, cable operators would move independent programmers to new channels at random (disrupting their ability to maintain an audience), bundling them in more expensive “premium” tiers (effectively raising the price of rival programming), and other discriminatory methods. By 1992, Congress found that the most popular cable programming (other than broadcast networks, which have an alternative means of distribution) was owned by the largest cable providers.
It took the Cable Act of 1992—and over 10 years of active FCC enforcement of conduct rules designed to prohibit discrimination against independent programming and requiring vertically integrated cable operators to make programming available to rivals—before satellite providers such as DISH and DirecTV successfully established themselves in the marketplace. Additionally, the mid- to late 2000s saw a dramatic and consistent decline in vertical integration. Without the ability to favor their own content, the ability to withhold content from rivals, or the need to maintain a portfolio of programming to trade with other cable operators for access to their programming, cable operators chose to focus on their core business and divest their programming assets.
This changed radically in 2010, when Comcast acquired NBC Universal. As the Department of Justice and the FCC found when reviewing the transaction, Comcast’s renewed emphasis on content was directly related to its concerns that online video distributors could effectively compete against them. As the competitive threat of online video distribution has grown, we have once again seen an accelerating trend of both horizontal and vertical integration. Charter bought Time Warner Cable in 2015, and AT&T bought DirecTV. Verizon has gone on a spending binge of online content and services, including AOL and Yahoo! AT&T is in the process of trying to buy Time Warner. Once again, horizontal and vertical integration have become the tools of staving off new competitors and, in the absence of net neutrality, favoring one’s own content.
Net Neutrality: A Troubling History of Favoring Affiliated Content and Services
It is not surprising that the history of net neutrality offenses mostly involves companies discriminating against rival services or favoring their own content. In 2008, the first major network neutrality complaint to the FCC concerned Comcast’s blocking of peer-2-peer applications—such as BitTorrent—that allowed subscribers to exchange rival video content. Comcast argued that it was interfering with BitTorrent to discourage customers from overloading the system, but the FCC found that Comcast was also acting from an anticompetitive motive of degrading a potential video competitor.
In 2014, the four largest broadband providers—Comcast, Time Warner Cable, AT&T, and Verizon—effectively forced Netflix to pay higher connection fees to deliver content to their subscribers (an arrangement called a “content delivery network,” or CDN, for which broadband providers traditionally charge a much higher connection and maintenance fee than for simple interconnection). Again, although these providers characterized this dispute with Netflix as a perfectly normal marketplace negotiation and a means of addressing the much higher bandwidth capacity required by Netflix video traffic, this clearly had the effect of raising costs to the most effective online rival to these companies’ competing video services.
Additionally, broadband providers in recent years have been shifting from unlimited plans to plans with “data caps.” When a customer on a data cap plan exceeds the plan limit, the customer pays overcharges. This has led to the practice of “zero rating” content, having content that does not count against a customer’s capacity count. Both AT&T and Comcast offer affiliated streaming services that they zero rate, while counting video streaming from rival services toward the data cap. The FCC began to address concerns about this conduct under the net neutrality rules in 2016. But after the change in administration and the appointment of Ajit Pai as chairman, the FCC reversed course and declared zero-rating a pro-consumer (and even potentially pro-competitive) market innovation that should not be subject to “heavy-handed” government regulation.
Get Ready For the Consolidation Frenzy
Based on the history of both the cable industry and the broadband industry (which is, after all, almost entirely derived from the cable industry), we should expect repeal of the net neutrality to rules to accelerate the trend toward vertical and horizontal consolidation. This is particularly true in light of the public statements of chairman Pai and other Republican commissioners indicating they believe that consolidation can offer benefits to consumers and that the dangers of anticompetitive behavior are exaggerated. This is not only true about net neutrality, but generally. Although chairman for less than a year, Pai has already announced that the FCC will simply defer to the Department of Justice on antitrust and to the Federal Trade Commission on consumer protection, and has either repealed or begun the process of repealing the FCC’s longstanding limits on vertical and horizontal media ownership.
Additionally, although Pai and the other Republican commissioners repeatedly refer to state consumer protection laws as providing an additional layer of protection, the draft order repealing net neutrality also contains sweeping language preempting the states from any laws “inconsistent” with the “deregulatory policy” the FCC will adopt on December 14. Charter Communication (which now owns Time Warner Cable) has already rushed to use this language to file a motion to dismiss a lawsuit by the New York state attorney general relating to Time Warner Cable’s 2014 conduct denying New York subscribers access to Netflix. Whether or not this particular motion to dismiss succeeds, we can expect broadband provider to use the broad preemption language in the net neutrality repeal order to block precisely the kind of state consumer protection statutes chairman Pai claims will make FCC oversight unnecessary.
In short, the net neutrality repeal order does for broadband exactly what the 1984 Cable Act did for cable—create an environment with virtually no effective restraint on the ability of providers to favor their own content and discriminate against rivals. We should therefore expect the same result: rapid horizontal and vertical consolidation. While chairman Pai and other supporters of the repeal order dismiss these concerns, they offer no plausible explanation for why this round of deregulation should produce different results beyond an airy wave that all that consolidation is ancient history and how could that possibly happen again?
As we all know, those who refuse to learn from history are doomed to repeat it.
Disclaimer: The ProMarket blog is dedicated to discussing how competition tends to be subverted by special interests. The posts represent the opinions of their writers, not those of the University of Chicago, the Booth School of Business, or its faculty. For more information, please visit ProMarket Blog Policy.