Internet Analogies: Remember When the Internet Was the Information Superhighway? (Part 2)

by on April 18, 2013 · 6 comments

Why did the government impose a completely different funding mechanism on the Internet than on the Interstate Highway System? There is no substantive distinction between the shared use of local infrastructure by commercial “edge” providers on the Internet and shared use of the local infrastructure by commercial “edge” providers (e.g., FedEx) on the highways.

In Part 1 of this post, I described the history of government intervention in the funding of the Internet, which has been used to exempt commercial users from paying for the use of local Internet infrastructure. The most recent intervention, known as “net neutrality”, was ostensibly intended to protect consumers, but in practice, requires that consumers bear all the costs of maintaining and upgrading local Internet infrastructure while content and application providers pay nothing. This consumer-funded commercial subsidy model is the opposite of the approach the government took when funding the Interstate Highway System: The federal government makes commercial users pay more for their use of the highways than consumers. This fundamental difference in approach is why net neutrality advocates abandoned the “information superhighway” analogy promoted by the Clinton Administration during the 1990s.

The Interstate Highway System was authorized by the Federal Aid Highway Act of 1956, which created the Highway Trust Fund (HTF) to finance the new “superhighway.” The HTF is a user-supported fund that derives hypothecated tax revenues from excise taxes on motor fuels and heavy commercial vehicles, which are the primary source of revenue for federal-aid highways. When it was designing this funding mechanism, the government recognized that the additional congestion and road damage caused by the commercial trucking industry imposes additional costs on highway infrastructure. Although all users contribute to the HTF through fuel taxes, the commercial trucking industry pays higher excise taxes than consumer users. Diesel fuel, which is used primarily by the commercial trucking industry, is taxed at a higher rate than gasoline (diesel is taxed at 24.3 cents per gallon, gasoline is taxed at 18.3 cents per gallon). The HTF also receives revenues produced by excise taxes imposed exclusively on tires used for heavy vehicles, the retail sale of heavy highway vehicles (e.g., semi-trucks), and from the heavy vehicle use tax. These taxes are intended to “better reflect the cost responsibility of heavy trucks” for shared use of the highway infrastructure.

If the theory of the ESP exemption and the net neutrality payment exemption were applied to the highways, commercial users wouldn’t pay any hypothecated taxes for their use of the Interstate Highway System. In net neutrality terms, FedEx uses the highways to offer an “edge” service to consumers who ask FedEx to deliver packages to their home using a shared highway infrastructure that FedEx doesn’t own or operate. If the government treated FedEx the same way it treats “over the top” Internet companies, the government would eliminate taxes on diesel fuel and, rather than charge a heavy vehicle use tax, the government would provide a heavy vehicle use exemption. As a result, consumers would have to pay higher gasoline taxes to make up for the funding lost when shipping companies stopped paying hypothecated taxes (similar to the way telephone subscribers paid for the ESP exemption with their phone bills). The higher gasoline taxes would impact every consumer who uses the highways – even consumers who never use FedEx. Any suggestion that FedEx pay its fair share for use of the highways would be deemed a “plot to block highway freedom” by threatening the “commercial model” of the “open highways” (the terms used by FCC Chairman Julius Genachowski to describe any suggestion that would eliminate the net neutrality payment exemption in the Internet context).

Why did the government impose a completely different “commercial model” on the Internet than on the Interstate Highway System? There is no substantive distinction between the shared use of local infrastructure by commercial “edge” providers on the Internet and shared use of the local infrastructure by commercial “edge” providers (e.g., FedEx) on the highways. The difference in treatment is a historical anomaly resulting from the initially “temporary” ESP exemption that has morphed into a desire to permanently subsidize the profits of “over the top” Internet companies in order to “preserve” the historical payment models of the Internet. In its order adopting net neutrality rules, the FCC exempted “edge” providers from paying for their use of local Internet infrastructure because ISPs “may have incentives to increase revenues by charging edge providers,” which the FCC believed would reduce incentives for edge providers to invest by reducing “the potential profit that an edge provider would expect to earn from developing new offerings.” (Emphasis added.) Excise taxes also reduce the potential profits of FedEx and other users of heavy commercial vehicles on the highways, but the federal government has not exempted them from the ordinary costs of doing business to encourage investment in new shipping offerings. To the contrary, a brochure released by the Department of Transportation (DOT) asks, “What can be done to enhance [heavy vehicle use tax] revenues?” The DOT views the heavy use vehicle tax as a way to “level the playing field” for consumers “by ensuring that operators of heavy trucks pay a little more for the highway network.” Of course, the FCC says net neutrality, which exempts commercial users from paying anything for their use of the local Internet, creates a “level playing field” for consumers too.

In an economic system based on capitalism, companies are not routinely exempted from the ordinary costs of doing business, including the use of shared infrastructure. Though the Interstate Highway System is not a free market, the government has at least attempted to correlate usage and costs. When FedEx uses heavy vehicles to deliver packages, it pays more for its use of the highways than consumers, even when consumers have requested FedEx deliveries. This has the effect of reducing the potential profits of FedEx – the “harm” to “edge” providers the FCC relied on to justify the net neutrality payment exemption on the Internet – but it also has the effect of encouraging FedEx to innovate and invest in more efficient methods of package delivery that cause less congestion and harm to the highways.

The FCC took the opposite approach with net neutrality. Its rules are designed to maximize the profits of commercial “edge” providers on the Internet while reducing their incentives to use bandwidth more efficiently. As a result, Internet consumers who never watch a video on the Internet nevertheless share a portion of the cost of upgrading local Internet infrastructure to deliver high definition video while “over the top” Internet companies – no matter how large or successful they become – pay nothing. No wonder net neutrality advocates have stopped talking about the “information superhighway.” If policymakers were to examine the analogy too closely, they might realize that net neutrality isn’t intended to “level the playing field” for consumers – it’s intended to protect the profits of commercial “edge” providers at the expense of consumers.

  • http://twitter.com/johnjac John Jackson

    You say “content and application providers pay nothing”

    Would you be willing then to pay YouTube’s bandwidth cost, even for a day? Surely you can afford the low low cost of “nothing”.

  • http://twitter.com/johnjac John Jackson

    You are making the same flaw in part 1 and part 2. In part 1 you ignore the LD cost for the data circuits to the modem pool. In part 2 you in ignore the cost content provider pay to connect to the Internet.

    The internet doesn’t just magically appear at the local provider’s network shack in your town. There is a whole infrastructure of networks peers, and connections.

    Your analysis only holds if you only look a the cost occurring inside the little brown network shack in Anytown, USA. There is a whole lot more going on outside that shack. Where content providers and network providers negotiate peering relationships. That is where the real money is spent. And if the network providers feel they have the bargaining power of user demand, that should be reflected is the cost of the peering connections to other networks and content providers.

    These peering relationships are the definition of free markets. The two parties come to the table and agree on a cost, with little (if any) regulation. Sometimes it gets ugly (see the spat between Level3 (serving Netflix) and Comcast). But in the end the market sets the price for content connecting to the network.

  • Fred Campbell

    I said “over the top” providers pay nothing for accessing the “local” network. I did not say “over the top” providers pay nothing at all for traffic delivery. You assume local network owners have bargaining power in the peering market or can otherwise influence the delivery of traffic to their networks. In some cases that may be true, but there are hundreds of local broadband ISPs in this country (including small cable operators, rural local exchange carriers, WISPs, etc.) that don’t own transit facilities and are too small to have any bargaining power in the peering market. And even broadband ISPs that do own transit facilities or otherwise have bargaining power in the peering market are handicapped in their negotiations by the net neutrality rules (which is presumably the point of the rules).

    I’ve blogged about the Netflix “Super HD” example previously (when Netflix decided to withhold its Super HD content from ISPs who refused to agree to its terms), but that is only one example of the market distortions caused by net neutrality. The fact that a content provider pays a transit provider for Internet distribution does not mean the content provider has contributed to the costs of all of the local networks that must ultimately deliver its traffic to consumers. The net neutrality rules prohibit local ISPs from refusing to accept Internet traffic or prioritizing among different types of traffic, which means that, if a local ISP’s network cannot adequately deliver that traffic, it must upgrade its network. Nobody is required to pay the local ISP for the upgrade, and the fact that a content provider may have paid someone else to deliver its traffic to the local ISP doesn’t mean the content provider paid the local ISP.

    So, while I agree that there is a whole lot going on outside “little brown network shack,” that doesn’t necessarily help “little brown network shack” or its subscribers pay for local Internet infrastructure, and due to the operation of the net neutrality rules, the government is preventing them from helping themselves. Net neutrality advocates argue this is a good policy outcome, but it is not a free market outcome and it is not analogous to the way highways are funded.

  • http://twitter.com/johnjac John Jackson

    Don’t get me wrong, I’m not in favor of net neutrally laws. But I’m coming from a completely different direction it seems. I’m coming form more a Hayek view that even well intentioned government intervention is very likely to be misguided because of lack of full vision and reaction speed.

    But If I had to pick sides between content ‘distributors’ like YouTube and Netflix, where there is abundant competition, and Network access Providers where there is often just a duopoly if you are lucky, I’d pick content providers.

    The problem is the lack of competition at the local access. I don’t buy that argument that is a natural monopoly. MAYBE the fiber in the ground is, but we can burry that once and open up competition to place the equipment on that fiber. We haven’t been able to test these models because of the power the legacy players have. Which gets back to my my Hayekian views.

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