Zero-rating is a good for consumers, right?

“Going forward, the Federal Communications Commission will not focus on denying Americans free data.”  FCC Chairman Ajit Pai, February 3, 2017.

How can a recent court case pertaining to the credit card market inform us on whether the practice of zero-rating by internet service providers (ISPs) is good or bad for consumers?  On June 25^th, in a 5-4 ruling, the Supreme Court found that the antisteering provisions in American Express’s merchant contracts were not anticompetitive in violation of Section I of the Sherman Antitrust Act.  In the Court’s majority opinion, Justice Thomas wrote that the value of a credit card network depends on the mutual interdependence of two sides —cardholders and merchants— and therefore should be treated as one market instead of two separate markets.  Specifically, if merchants were permitted to steer patrons to use alternative payment cards and, as a result, the Amex card was used less frequently, some cardholder perks would go away and interbrand competition would be reduced.

How might this concept of one market with a two-sided platform relate to the internet and the practice of zero-rating by fixed and mobile ISPs?  In its simplest form, zero-rating excludes the bytes associated with some internet traffic from counting towards the allowed monthly data amount paid for by the ISP subscriber.  The more bytes excluded the less likely the subscriber will encounter his/her data cap and have to pay the universally-disdained overage charges.  Zero-rating benefits the consumer as s/he receives more content over the network without overtly paying for it.  Moreover, to lure and retain subscribers, ISPs have upped the ante by offering more and more plans that exclude content from data caps.  In the short-run and supportive of Chairman Pai’s statement, there appears to be a net competitive benefit to those on the consumer side of the internet market. 

But, what about the other side of the platform and might what happens there impact the consumer in the long run?  To tie back to the Amex case, let’s say that the content owners and ISPs are the equivalent of the credit card companies and merchants, respectively.  What if the ISPs favor some content (e.g. HBO) over another (e.g. Comedy Central)?  Maybe it is because the content owner has tremendous brand loyalty that the ISP wants to leverage for its bottom line.  Maybe it is because the content owner can pay the additional fees to ensure its content is zero-rated?  Maybe it is because the content is owned by the ISP? 

These pricing strategies fall into the category of price discrimination, where different customers are charged different prices even though there are no differences in costs.  They are perfectly legal IF they do not harm competition (Section II of the Clayton Act).  We’ve all gone to the movies or checked into a hotel knowing that the person sitting in the seat or in the room next to us might be paying a different price than we are. The price difference could be because they are a different age, they made the reservation at a different time, or they participate in a loyalty program.  Competition is not harmed in these markets and there are some efficiency gains from the practice.  But, what about its use in content distribution over the internet?  While the FCC Chairman doesn’t want to address zero-rating and “free” data for consumers, favoritism on the content-side may eventually impact demand and what is paid on the consumer-side of the market by reducing interbrand competition.  The probability of competitive harm increases if regulators approve more vertical mergers without behavioral safeguards and give latitude to firms like AT&T to favor their own content through zero-rating schemes and other ploys.

See: https://www.supremecourt.gov/opinions/17pdf/16-1454_new_1a72.pdf and http://transition.fcc.gov/Daily_Releases/Daily_Business/2017/db0203/DOC-343345A1.pdf