The sharing economy is growing faster than ever and becoming a hot policy topic these days. I’ve been fielding a lot of media calls lately about the nature of the sharing economy and how it should be regulated. (See latest clip below from the Stossel show on Fox Business Network.) Thus, I sketched out some general thoughts about the issue and thought I would share them here, along with some helpful additional reading I have come across while researching the issue. I’d welcome comments on this outline as well as suggestions for additional reading. (Note: I’ve also embedded some useful images from Jeremiah Owyang of Crowd Companies.)

1) Just because policymakers claim that regulation is meant to protect consumers does not mean it actually does so.

1. Cronyism/ Rent-seeking: Regulation is often “captured” by powerful and politically well-connected incumbents and used to their own benefit. (+ Lobbying activity creates deadweight losses for society.)
2. Innovation-killing: Regulations become a formidable barrier to new innovation, entry, and entrepreneurism.
3. Unintended consequences: Instead of resulting in lower prices & better service, the opposite often happens: Higher prices & lower quality service. (Example: Painting all cabs same color destroying branding & ability to differentiate).

2) The Internet and information technology alleviates the need for top-down regulation & actually does a better job of serving consumers.

1. Ease of entry/innovation in online world means that new entrants can come in to provide better options and solve problems previously thought to be unsolvable in the absence of regulation.
2. Informational empowerment: The Internet and information technology solves old problem of lack of consumer access to information about products and services. This gives them monitoring tools to find more and better choices. (i.e., it lowers both search costs & transaction costs). (“To the extent that consumer protection regulation is based on the claim that consumers lack adequate information, the case for government intervention is weakened by the Internet’s powerful and unprecedented ability to provide timely and pointed consumer information.” – John C. Moorhouse)
3. Feedback mechanisms (product & service rating / review systems) create powerful reputational incentives for all parties involved in transactions to perform better.
4. Self-regulating markets: The combination of these three factors results in a powerful check on market power or abusive behavior. The result is reasonably well-functioning and self-regulating markets. Bad actors get weeded out.
5. Law should evolve: When circumstances change dramatically, regulation should as well. If traditional rationales for regulation evaporate, or new technology or competition alleviates need for it, then the law should adapt.

3) Sharing economy has demonstrably improved consumer welfare. It provides:

1. more choices / competition
2. more service innovation / differentiation
3. better prices
4. higher quality services  (safety & cleanliness /convenience / peace of mind)
5. Better options & conditions for workers

4) If we need to “level the (regulatory) playing field,” best way to do so is by “deregulating down” to put everyone on equal footing; not by “regulating up” to achieve parity.

1. Regulatory asymmetry is real: Incumbents are right that they are at disadvantage relative to new sharing economy start-ups.
2. Don’t punish new innovations for it: But solution is not to just roll the old regulatory regime onto the new innovators.
3. Parity through liberalization: Instead, policymakers should “deregulate down” to achieve regulatory parity. Loosen old rules on incumbents as new entrants challenge status quo.
4. “Permissionless innovation” should trump “precautionary principle” regulation: Preemptive, precautionary regulation does not improve consumer welfare. Competition and choice do better. Thus, our default position toward the sharing economy should be “innovation allowed” or permissionless innovation.
5. Alternative remedies exist: Accidents will always happen, of course. But insurance, contracts, product liability, and other legal remedies exist when things go wrong. The difference is that ex post remedies don’t discourage innovation and competition like ex ante regulation does. By trying to head off every hypothetical worst-case scenario, preemptive regulations actually discourage many best-case scenarios from ever coming about.

5) Bottom line = Good intentions only get you so far in this world.

1. Just because a law was put on the books for noble purposes, it does not mean it really accomplished those goals, or still does so today.
2. Markets, competition, and ongoing innovation typically solve problems better than law when we give them a chance to do so.

[P.S. On 9/30, my Mercatus Center colleague Matt Mitchell posted this excellent follow-up essay building on my outline and improving it greatly.]

Additional Reading

• Randolph J. May & Michael J. Horney, “The Sharing Economy: A Positive Shared Vision for the Future,” Free State Foundation, Perspectives from FSF Scholars, Vol. 9, No. 26, July 30, 2014.
• R.J. Lehmann, “The Sharing Economy Will Thrive Only If Government Doesn’t Strangle It,” Reason, August 2, 2014.
• Andrew Moylan and R.J. Lehmann, “Five Principles for Regulating the Sharing Economy,” R Street, Policy Study No. 26, July 2014.
• Eli Lehrer & Andrew Moylan, “Embracing the Peer-Production Economy,” National Affairs, 2014, p. 51-63.
• Arun Sundararajan, “Why the Government Doesn’t Need to Regulate the Sharing Economy,” Wired, October 22, 2012.
• Matthew Mitchell and Michael Farren, “If you Like Uber, You Would’ve Loved the Jitney,” LA Times, July 12, 2014.
• Daniel M. Rothschild, “How Uber and Airbnb Resurrect ‘Dead Capital,’” The Umlaut, April 9, 2014.
• Daniel M. Rothschild, “Renters and Rent-Seeking in San Francisco,” Technology Liberation Front, April 15, 2014.
• [podcast] Michael Munger on the Sharing Economy, EconTalk, July 7, 2014.
• video of Michael Munger talk on the Sharing Economy, September 25, 2014.
• John C. Moorhouse, “Consumer Protection Regulation and Information on the Internet,” in Fred E. Foldvary & Daniel B. Klein (eds), The Half-Life of Policy Rationales: How New Technology Affects Old Policy Issues (Cato Institute, 2003).
• Rachel Bostman, What’s Mine is Yours: The Rise of Collaborative Consumption (2010).
• Jeremiah Owyang, A Glossary of Emerging Terms in the Collaborative Economy, August 29, 2014

In mid-April, the Federal Trade Commission (FTC) requested comments regarding “the consumer privacy and security issues posed by the growing connectivity of consumer devices, such as cars, appliances, and medical devices” or the so-called “Internet of Things.” This is in anticipation of a November 21 public workshop that the FTC will be hosting on the same issue.

These issues are finally starting to catch the attention of the public and policymakers alike with the rise of wearable computing, remote home automation and monitoring technologies, smart grids, autonomous vehicles and intelligent traffic systems, and so on. The Internet of Things represents the next great wave of Internet innovation, but it also represents the next great battleground in the field of Internet policy.

I filed comments with the FTC today in this proceeding and made a few simple points about why they should proceed cautiously here. A summary of my filing follows.

Avoiding a Precautionary Principle for the Internet of Things

First, while it is unclear where the FTC is heading with this proceeding—or for that matter, whether this even a formal proceeding at all—the danger exists that it represents the beginning of a regulatory regime for a new set of information technologies that are still in their infancy. Fearing hypothetical worst-case scenarios about the misuse of some IoT technologies, some policy activists and policymakers could seek to curb or control their development.

Policymakers should avoid acting on those impulses. Simply put, the Internet of Things—like the Internet itself—should not be subjected to a precautionary principle, which would impose preemptive, prophylactic restrictions on this rapidly evolving sector to guard against every theoretical harm that could develop. Preemptive restrictions on the development of the Internet of Things could retard technological innovation and limit the benefits that flow to consumers.

In other words, to the maximum extent possible, the default position toward new forms of technological innovation such as the Internet of Things should be innovation allowed, or what Paul Ohm, who recently joined the FTC as a Senior Policy Advisor, refers to as an “anti-Precautionary Principle.” This policy norm is better captured in the well-known Internet ideal of “permissionless innovation,” or the general freedom to experiment and learn through trial-and-error experimentation. As I noted in a recent essay here:

Wisdom is born of experience, including experiences involving risk and the possibility of mistakes and accidents. Patience and openness to permissionless innovation represent the wise disposition toward new technologies not only because it provides breathing space for future entrepreneurialism, but also because it provides an opportunity to observe both the evolution of societal attitudes toward new technologies and how citizens adapt to them.

Adaptation Is Not Just Possible but Likely

Which leads to the next major point I make in my filing: Humans adapt! The more I study the history of various technological innovations the more I find the same story unfolding: again and again society has found ways to adapt to new technological changes by employing a variety of coping mechanisms or new social norms. In fact, we see a common cycle of initial resistance, gradual adaptation, and then eventual assimilation of new technologies into society. (I previously outlined this cycle in my law review article, “Technopanics, Threat Inflation, and the Danger of an Information Technology Precautionary Principle.”)

I offer several specific examples of this process in action—from the rise of the telephone and the camera to RFID and Gmail. I argue that these examples should give us hope that we will also find ways of adapting to the challenges presented by the rise of the Internet of Things.

Norms Evolve and “Regulate”

Third, my filing discusses how societal norms evolve in response to new technologies and even come to “regulate” acceptable use of those technologies. Law tends to regulate in sweeping ways and then get locked in. Social norms and technological etiquette, by contrast, flexibly evolve in unique ways over time.

Some of these norms or social constraints are more “top-down” and formal in nature in that they are imposed by establishments or organizations in the form of restrictions on technologies. In other cases, these norms or social constraints are purely bottom-up and group-driven. I offer examples of both types of norms in my filing.

Other Remedies Exist or Will Develop as Needed

Finally, I argue in my filing that policymakers should exercise restraint and humility in the face of uncertain change and address harms that develop—if they do at all—after careful benefit-cost analysis of various remedies. I note that many federal and state laws already exist that could address perceived harms associated with these technologies.

And let’s be clear: some misuses and harms will develop, just as they have for every other information technology ever invented. But, to reiterate, we have generally not preemptive applied precautionary regulation to each and every new information technology based on the potential threat of some misuses developing. Instead, we have allowed experimentation and innovation to take place largely unimpeded and then relied on a combination of education, user empowerment, various social norms and coping mechanisms, and then targeted laws as needed after serious harms were demonstrated. That same approach should govern the Internet of Things.

If we succumb to the opposite impulse and apply a “Mother May I?” permissioned approach to the Internet of Things—with innovation only being allowed after regulators deem those technologies “safe” or “acceptable”—then we risk derailing the next great wave of Internet-based innovation. The implications for America’s consumers and our global competitiveness could not be more profound. The result will be fewer services, lower quality goods, higher prices, diminished economic growth, and a decline in the overall standard of living.

Hopefully the FTC is not going down that path with this proceeding or its forthcoming workshop on the Internet of Things. But stay tuned. This set of issues is expanding rapidly and promises to produce heated privacy, security, and safety debates for many years to come.

Please read my filing for more details. I’ve also embedded it below.

Comments of Adam Thierer Mercatus Center in FTC Internet of Things Proceeding (June 2013)

Of all the shockingly naive and shamelessly self-serving editorials I’ve read by businesspeople in recent years, today’s Wall Street Journal oped by Netflix general counsel David Hyman really takes the cake. It’s an implicit plea to policymakers for broadband price controls. Hyman doesn’t like the idea of broadband operators potentially pricing bandwidth according to usage /demand and he wants action taken to stop it. Of course, why wouldn’t he say that? It’s in Netflix’s best interest to ensure that somebody else besides them picks up the tab for increased broadband consumption!

But Hyman tries to pull a fast one on the reader and suggest that scarcity is an economic illusion and that any effort by broadband operators to migrate to usage-based pricing schemes is simply a nefarious, anti-consumer plot that must be foiled. “Consumers and regulators need to take heed of what is happening and avoid winding up like the proverbial frog in a pot of boiling water,” Hyman warns. “It’s time to jump before it’s too late.”

Rubbish! The only thing policymakers need to do is avoid myopic, misguided advice like Hyman’s, which isn’t based on one iota of economic theory or evidence.

Hyman’s economic illiteracy is evident from the get-go. He tries to spook people with the headline, “Why Bandwidth Pricing Is Anti-Competitive.” No it isn’t. Usage-based pricing is used in countless economic sectors every day and it is overwhelming viewed by economists as a sensible way to calibrate supply and demand while ensuring costs are covered. But Hyman says the laws of economics don’t apply to broadband!  No seriously, he says:

Cable and telecom companies argue that bandwidth is a scarce resource and that imposing caps and overage fees will relieve pressure on high-speed networks. Families pay more when they use more electricity, these companies point out, so why shouldn’t households pay more if they use more bandwidth?  The analogy is a false one. Wireline bandwidth is an almost unlimited resource due to advances in Internet architecture. Adding more capacity is easy. The marginal cost of providing an extra gigabyte of data—enough to deliver one episode of “30 Rock” from Netflix—is less than one cent, and falling. […] Consumer access to unlimited bandwidth is good for society. It fosters innovation, drives commerce, and advances political and social discourse. Given that bandwidth is cheap and plentiful and will only grow more so with time, there is no good reason for bandwidth caps and fees to take root.

Oh my goodness. Really? Hyman appears to be suffering from a rather serious case of marginal cost fallacy: the belief that prices should, as a rule, equal marginal costs. The problem with such thinking is that it leaves zero room for investment, innovation, and other real-world dynamics that get conveniently forgotten as “fixed costs.”  Of course, if you begin with the truly outrageous claim that “bandwidth is an almost unlimited resource,” and “bandwidth is cheap and plentiful and will only grow more so with time,” then it’s only logical that you’d fall prey to this fallacy!

Meanwhile, back in the real world, economists and financial analysts will explain to you that high fixed-cost goods like broadband networks don’t just grow on trees or fall like manna from heaven. Yes, of course it is true that “consumer access to unlimited bandwidth is good for society.”  But the same is true of countless other goods that we’d all like to have access to at zero cost. But that doesn’t invalidate the fundamental laws of economics. Someone financed and built those networks and someone has to keep building and improving them. You’d never get anything built if you adopted the view that scarcity was a myth and that prices must equal marginal cost.

On that point, I was tickled to see in the online comments to Hyman’s piece that one gentleman asked, “what happens when you allow unlimited access at.. marginal cost?” and for another to say in response, “Answer: You turn into Greece.”   Quite right. There is no free lunch. Something has to pay the bills, including the broadband bills. You can’t just free-ride on the future forever by pretending that bandwidth is an abundant good and holding prices at or below marginal cost.

Once you understand these facts you can point out what’s really wrong with Mr. Hyman’s reasoning: He basically wants average costs for all consumers to go up so that his costs (or the costs of any high-bandwidth use or user) will never go up. Shameful!  Indeed, let’s just call Mr. Hyman’s editorial what it is: a blatant attempt to get government to impose price controls on broadband providers to favor his company. End of story.  He could have spared us all the sloppy economic sophistry and just told us that. It would have made it a bit easier to take him seriously.

P.S. Incidentally, Mr. Hyman’s one and only suggestion for how to deal with network demand/congestion is this: “If Internet service providers really wanted to manage traffic efficiently, they would limit speeds at peak times.” Interesting. I wonder how the Net neutrality crowd feels about Netflix’s new-found love of broadband throttling!

You really have to hand it to the folks over at the (Un)Free Press with their endlessly shameful attempts to use doublespeak to remake the entire media, communications, and Internet landscape in their preferred Big Government image.  Their latest bit of charlatanism is the so-called “Stop the Internet Rip-Off of 2009” campaign.  It’s another one of their computerized “stuff-the-FCC-and Congressional-complaint-box-with-electronic-form-letters” efforts that involves getting their merry band of radical reformistas to encourage lawmakers to sign on to Rep. Eric Massa’s (D-NY) newly-introduced “Broadband Internet Fairness Act.”

Ah yes, “Internet fairness.”  Who can possibly be against it?  Well, before you rush to click send on that UnFree Press form letter, let’s be clear what this effort is really all about.  Free Press claims that the Massa bill is needed because “phone and cable giants [are] weighing schemes to hike prices, shut down the free-flowing Web and keep user innovation in check.”  How are those companies doing that?  Tiered pricing!   Rep. Massa says that, “Time Warner has announced an ill-conceived plan to charge residential and business broadband fees based on the amount of data they download.”  Oh my God, no… you mean some people might be charged for the costs they impose?  What’s next?  Are we going to force people to pay for their own energy use by metering gasoline, electricity, or water?  Think of the horror!  (This is sarcasm, folks.  All those things are metered currently. And yet, somehow, the Earth hasn’t spun off its axis.)

Like all the other propaganda produced at the Free Press techno-spin factory, their latest crusade is based on a combination of outright lies and blatant economic ignorance.  Metering broadband access is not an effort “to restrict Internet use,” as Free Press claims. Rather, like every other metered system under the sun, it’s an effort to price a scarce resource in such a way so as to maximize use.  Broadband operators don’t sit around all day scheming to find ways to decrease network usage.  They wouldn’t make any money that way!!  They need to find business models that encourage increased uptake while also investing in and growing their networks to meet new demand and competitive challenges.

Moreover, there are other pro-consumer reasons for companies to consider metering options.  Unless it is your goal to allow some particularly aggressive users to be subsidized by all other users, it is sometimes sensible to price usage based on demand.  If you don’t, you potentially create a perverse incentive for a small handful of over-grazers to to be feeding at the trough at everyone else’s expense. As economist Russell Roberts aptly noted in the title of a famous 1995 Wall Street Journal editorial, “If You’re Paying, I’ll Have Top Sirloin.”  Thus, you would never want to make the “all-you-can-eat” pricing model the only option for the provision of a scarce resource. Even if you choose not to deploy it, it is useful to have the metered pricing model available in case you need to charge the over-grazers at some point.

As I’ve pointed out before, part of the reason broadband operators have been cautious about metering of the pipe so far is that they knew it would likely encounter a great deal of resistance–from both consumers and potentially even policymakers.  (Time Warner found this out the hard way when they began a recent experiment with metering.)  I made this point in this older essay on networking pricing:

First, broadband operators are probably concerned that such a move would bring about unwanted regulatory attention. Second, and more importantly, cable and telco firms are keenly aware of the fact that the web-surfing public has come to view “all you can eat” buffet-style, flat-rate pricing as a virtual inalienable right. Internet guru Andrew Odlyzko has correctly argued that “People react extremely negatively to price discrimination. They also dislike the bother of fine-grained pricing, and are willing to pay extra for simple prices, especially flat-rate ones.” And George Gilder, another famous Net guru, noted in his book Telecosm that, “Everyone wants to charge different customers differentially for different services. Everyone wants guarantees. Everyone wants to escape simple and flat pricing. Forget it.” Gilder basically argues that simple and flat pricing is almost always preferable from a consumer perspective and, therefore, network providers should avoid more complicated pricing schemes.

I understand where Odlyzko and Gilder are coming from, but I do not think that means we need to give up on metered pricing altogether. What I think would be the most efficient and pragmatic solution is what economists call a “Ramsey two-part tariff.” A two-part tariff (or price) would involve a flat fee for service up to a certain level and then a per-unit (or metered) fee over a certain level of use. I don’t know where the demarcation should be in terms of where the flat rate ends and the metering begins; that’s for market experimentation to sort out. But the clear advantage of this solution is that it preserves flat-rate, all-you-can-eat pricing for casual to moderate bandwidth users and only resorts to less popular metering pricing strategies when the usage is “excessive,” however that is defined.

Regardless, what we need right now is more experimentation with various business / pricing models. We should not be foreclosing such innovation with misguided bills like the “Broadband Internet Fairness Act,” which is tantamount to a price control regime for the Internet.  It’s not surprising that UnFree Press would favor such a destructive notion, but let’s hope Congress doesn’t follow their misguided lead.