Net Neutrality: How Sponsored Data Plans Would Promote Competition on the ‘Edge’

This is the fourth post in the CBIT net neutrality series.

I’ve previously explained how the theory of ‘gatekeeper control’ underlying the FCC’s 2010 approach to net neutrality is applicable to any Internet intermediary that is capable of blocking, degrading, or favoring particular Internet services, applications, or content — a category of ‘non-ISP gatekeepers’ that includes the mobile operating systems offered by Apple and Google. The FCC has nevertheless focused its net neutrality efforts entirely on ISPs.

The result of the FCC’s myopic regulatory strategy: Google has engaged in precisely the type of behavior that net neutrality was intended to prevent in order to cement its control over the Android operating system and mobile search.

Google has been particularly successfully in leveraging the FCC’s one-sided regulatory environment to discriminate against current and potential rivals on the mobile Internet. For example, Google has used the so-called ‘Open Handset Alliance’ to contractually prohibit any major equipment manufacturer from producing the Kindle Fire for Amazon, including Acer, Asus, Dell, Foxconn, Fujitsu, HTC, Huawei, Kyocera, Lenovo, LG, Motorola, NEC, Samsung, Sharp, Sony, Toshiba, and ZTE. The denial of access to the manufacturing expertise and economies of scale offered by the world’s premier handset OEMs presents a significant barrier to entry for potential rivals to Android.

The FCC’s one-sided approach to net neutrality makes this barrier even harder to overcome for potential Android rivals. In an unrestricted two-sided market, Amazon could respond to Google’s marketing restrictions by entering into partnerships with ISPs in order to ease its entry into the mobile market. For example, consumers might be more willing to take a chance on a new mobile operating system if their usage of apps and services did not count against their data plan.

Of course, when AT&T was brave enough to propose sponsored data as a voluntary, non-exclusive option to benefit its customers, the net neutrality movement that Google helped create howled in protest. Their fear? That Google and Apple would sponsor data to drive smaller competitors out of the mobile market.

The notion is absurd on its face. Google and Apple don’t need to pay ISPs to drive smaller competitors out of the market — they are already quite capable of doing that on their own. As of August, 2014, 89% of end users worldwide access the mobile Internet on smartphones and tablets using either Apple’s iOS (44.19%) or Google’s Android (44.62), and Google alone has a 91% share of the search engine market. Microsoft has been unable to establish its Windows brand in the mobile segment, and despite accolades for its newest OS, Blackberry is on the verge of becoming an also-ran.

If the FCC applies prophylactic net neutrality rules to mobile ISPs, it is likely that Google and Apple will continue to dominate the mobile segment for the foreseeable future. Because mobile operating systems are technically incompatible intermediaries in a two-sided network, mobile operating systems are subject to network effects: (1) consumers tend to prefer operating systems that offer more apps, and (2) app developers tend to prefer operating systems that have more users. Due to their first-mover advantages and substantial market share, Android and iOS both enjoy enormous support among app developers and benefit from the consumer lock-in generated by app purchases.

Net neutrality advocates love to paint ISPs as the 800 pound gorilla when it comes to gatekeeper or ‘bottleneck’ control in the Internet ecosystem. For whatever reason, these advocates refuse to acknowledge that the companies who control mobile operating systems and devices have just as much or more bottleneck power than ISPs. Unlike ISPs, whose geographic scope is relatively limited, mobile operating systems have gatekeeper control — not to mention economies of scope and scale — on a global basis.

The economics of the mobile OS market make competitive entry a considerable challenge. Having a better OS might not be enough to persuade consumers to abandon their sunk investment in Android or iOS apps and devices in order to try a new OS with limited app support that may or may not survive over the long haul.

If the Kindle Fire and other OS competitors are permitted to offer sponsored data plans, however, it might be enough to overcome the costs of switching operating systems for many consumers. For new entrants in the mobile OS segment, sponsored data could be the difference between success or failure.

That is the ultimate irony of the FCC’s discriminatory approach to net neutrality. It has been sold as a means of protecting Internet startups when its real purpose is to protect existing or emerging non-ISP monopolies in mobile operating systems, search engines, online advertising, and online video distribution. In addition to stifling competition with their direct rivals, these monopolies could become so powerful that they stifle competition among mobile ISPs as well. The end result wouldn’t protect the ‘open Internet’ — it would merely shift net neutrality advocates’  concerns over gatekeeper control upstream from ISPs to other participants in the Internet ecosystem.

If the FCC wishes to preserve competition in the mobile Internet segment, its best bet is too maintain a light regulatory touch that maximizes opportunities for market negotiation. If the FCC won’t do that, then it should apply whatever net neutrality rules it adopts to all mobile Internet gatekeepers, ISP and non-ISP alike.

Reinstating the FCC’s ISP-only approach to Internet regulation is by far the worst option for regulating the mobile Internet. We already know where that market distorting road leads: To new monopolies in the middle.

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