Internet Policy’s Next Frontier: Data Caps, Tiered Service Plans, and Usage-Based Broadband Pricing

TABLE OF CONTENTS I. INTRODUCTION II. THE SHIFT TO USAGE-BASED PRICING IN BROADBAND MARKETS A. A Taxonomy of Usage-Based Pricing B. Usage-Based Pricing for Fixed Broadband Service C. Usage-Based Pricing for Wireless Broadband Service III. USAGE-BASED PRICING AS A COST RECOVERY TOOL A. Distributional Effects of Flat-Rate and Metered Pricing 1. Simple Metered Pricing 2. Data Caps and Tiered Service Models B. Recovering Costs Through Price Discrimination 1. Marginal and Fixed Broadband Costs 2. The Potential Value of Price Discrimination 3. Ramsey Pricing and Price Discrimination in the Broadband Industry 4. Price Discrimination and Increasing Broadband Penetration Rates IV. USAGE-BASED PRICING AS A CONGESTION MANAGEMENT TOOL A. Broadband Service and the Possibility of Congestion Costs B. Measuring Broadband Congestion C. Usage-Based Pricing as a Congestion Management Tool V. POTENTIAL ANTICOMPETITIVE EFFECTS OF USAGE-BASED PRICING A. Data Caps as a Vertical Restraint on Trade B. The Xfinity-Xbox Dispute C. Data Caps and Market Power VI. THE IMPORTANCE OF TRANSPARENCY VII. CONCLUSION I. INTRODUCTION The United States is in the midst of an explosion in Internet content and applications. In 2012 alone, Internet traffic in the United States grew thirty-six percent, reaching a volume sixteen times greater than that of the entire U.S. Internet in 2005. (1) Peak-time traffic grew even faster, (2) driven by the rising popularity of bandwidth-intensive real-time entertainment such as Netflix, which by itself generates nearly one-third of all downstream traffic during peak hours. (3) And that growth will continue for the foreseeable future: network equipment giant Cisco Systems expects U.S. Internet traffic nearly to triple between now and 2017. (4) Globally, more data will traverse the network in 2017 than in every year from 1984 through 2012 combined. (5) This steady growth in demand, and the continuing capital investment required to meet it, has prompted broadband providers to reconsider the flat-rate pricing model that has dominated the consumer Internet access market since the late 1990s. Flat-rate, or all-you-can-eat pricing, has proven popular with consumers, primarily because such plans are simple and predictable. Customers know how much they will pay for broadband access each month, and can use the Internet without worrying that excessive use will eat into the family budget. But flat-rate unlimited use can also create inefficient network operation. Because price is not tied to online use, consumers have little incentive to economize their bandwidth consumption. Moreover, network costs are spread evenly throughout the customer base, forcing light Internet users to subsidize heavier users' data-intensive lifestyles. Broadband providers have begun experimenting with alternative pricing strategies to address these inefficiencies. This movement is most visible in the wireless industry, where the smartphone revolution grew much faster than providers expected. Smartphone use, in turn, spawned a new industry in mobile content and applications and at times has caused wireless broadband demand to outstrip network capacity (a phenomenon sometimes called the "iPhone effect"). (6) Tiered pricing has now become the norm in wireless broadband, where consumers can choose from several different pricing and service options. (7) Many residential fixed broadband providers have also explored tiered service, monthly data caps, and overage charges. While regulators (8) and many academics (9) have largely supported this shift, many public interest groups have reacted with skepticism. (10) Groups such as Public Knowledge and Free Press, which helped lead the charge for net neutrality, have argued that broadband providers should charge customers the same amount regardless of use. (11) They fear that monthly consumption limits create artificial scarcity, allowing providers to pad profits and avoid future network upgrades. …