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Postmortem: Ajit Pai’s main argument against net neutrality still doesn’t add up

As time passes, FCC chairman Ajit Pai’s central argument for doing away with net neutrality rules looks weaker and weaker.

The rules, which prohibited internet service providers (ISPs) from slowing or expediting delivery of any legal content on their networks, were part of the Tom Wheeler FCC’s 2015 Open Internet Order, which reclassified broadband as a Title II service to be regulated more like a public utility. After being appointed FCC chair by Donald Trump in early 2017, Pai fast-tracked an order to roll back Wheeler’s widely popular net neutrality rules, getting it passed in a 3-2 vote along party lines last December. And six months later, as of Monday, June 11, the protections were dead.

Perhaps taking a cue from his boss Donald Trump, Pai’s main tool for smoothing the path to destruction of the popular rules was good old-fashioned FUD (fear, uncertainty, and doubt). Pai, an ex-Verizon lawyer, claimed over and over again that the 2015 Title II classification stifled broadband operators’ investment in their networks, which hampered innovation and hurt consumers.

“So what happened after the Commission adopted Title II? Sure enough, infrastructure investment declined,” Pai said in a mid-2017 speech. “Among our nation’s 12 largest internet service providers, domestic broadband capital expenditures decreased by 5.6%, or $3.6 billion, between 2014 and 2016, the first two years of the Title II era.”

Doubting Pai

His numbers came from an analysis by Hal Singer, a senior fellow at the George Washington Institute of Public Policy. But Singer may not have been an objective, dispassionate observer. Tom Wheeler referred to Singer as “somebody who has never liked the open internet rules [and] has always taken the position of the ISPs.” The broadband operators’ trade group, US Telecom, later expanded on his work to include the network investments of more than 12 operators.

The US Telecom study’s main thesis is that broadband providers’ spending on upgrading their networks slowed during 2015 (the new Open Internet Order rules went into effect June 12 of that year). And capital expenditures did indeed appear to dip in full in 2015. But the truth is in the details. According to the IHS Markit numbers, much of the decrease in capex in 2015 resulted from reductions at AT&T and Sprint, and the decreases appear to have had little to do with new government regulation.

By far the biggest capex decrease that year came from AT&T, which reported $20.7 billion in capex during 2015, down from 21.4 billion in 2014. Thing is, AT&T was just finishing up a big upgrade to its 4G LTE network, so capex investment naturally receded. And the company’s capital expenditures rose sequentially throughout 2015, despite the fact that the new network neutrality rules went into effect June 12. In 2015 Sprint spent a huge chunk of its capex–more than $2 billion–on handsets it planned to lease. Singer and US Telecom rightly pulled that investment out of their totals because it has nothing to do with network improvements. Still, it makes for an odd year at Sprint, and raises the possibility that Sprint’s normal network spend may have been pulled down by all the money it committed to handsets.

The consumer group Free Press worked up its own analysis of network spending in the wake of the Open Internet Order, and found that ISPs collectively increased their infrastructure spend by about 5% during the two years after the Open Internet Order was passed.

Source: IHS Markit

More important is what happened after 2015. If the new net neutrality protections did depress capex spending in 2015, the chilling effect certainly didn’t last very long. Spending by the Big Four ISPs (see above), and operators in general (see below), nearly returned to 2014 (pre-Open Internet Order) levels in 2016. In 2007, Big Four capex receded slightly, but the industry as a whole (including AT&T, Verizon, T-Mobile, and Sprint) increased capex significantly.

Source: IHS Markit. Note: Capex totals include those from wireline, wireless, and cable ISPs.

IHS believes the Big Four carriers will spend a cumulative $51 billion on capex in 2018, while the industry as a whole (including the Big Four) will spend almost $80 billion. That’s a significant jump from 2017 levels, and, if the estimates are right, could be interpreted as a positive effect of the FCC’s rollback of network neutrality rules and/or the reclassification of broadband as a Title II service. But it’s more likely that the projection reflects carrier spending on infrastructure to support the next big leap forward in wireless broadband service–5G.

In truth the main drivers of network investment are competitive pressure and opportunity–yes, fear and greed–not the shifting sands of regulation.

The advocacy group Public Knowledge points out that even executives from the big ISPs themselves have said publicly that government regulations have little bearing on their network upgrade spending. Verizon CFO Francis Shammo, who has since retired, told investors that the Title II classification “does not influence the way we invest.” Sprint’s then-CFO Stephen Bye stated in a letter to the FCC that it would “continue to invest in data networks regardless of whether they are regulated by Title II, Section 706, or some other light-touch regulatory regime.” The year following the passage of the Open Internet Order, AT&T wrote in its annual report that it would  “remain one of the largest investors in the United States.”

The ghost of net neutrality

And there’s still plenty of regulatory uncertainty around network neutrality rules. It’s not a done deal. Voters are still largely in favor of network neutrality protections, polls show. Many lawmakers are, too. It’s notable that the Senate on May 16 voted to reverse the Pai FCC’s ruling, even if the last-ditch effort ended there.

The fight now moves to the state level. Twenty-two state attorneys general have already sued the FCC, claiming that the decision to roll back network neutrality is invalid because of irregularities in the legally required FCC public comment system. And states like California and Oregon are now moving on passing their own network neutrality protections. AT&T and Verizon lobbyists, in fact, are now in full-court press mode in Sacramento to stop an aggressive (and so far successful) network neutrality bill from passing in California. Should the bill become law, it could well serve as a model for legislation introduced in other states.

In some ways a patchwork of state network neutrality laws might be just as negative for the big broadband carriers as the reinstatement of the network neutrality rules at the federal level. AT&T, Verizon, T-Mobile, and Sprint sell broadband service nationwide, taking advantage of economies of scale to maximize profits. This applies to everything from buying and installing new equipment to launching and marketing new services. A new service or traffic management practice that is legal in some states but not in others could be a costly administrative nightmare.

More than anything else, network operators want to drain every last drop of profit from the networks they’ve spent so much to build. But they’re increasingly becoming media companies and content owners, as we saw yesterday with the approval of AT&T’s bid to buy video content owner Time Warner. Expect to see a lot more of this in 2018. Such pairings create a situation where ISPs like AT&T and Comcast are asked to indiscriminately deliver the content of direct competitors like Netflix over the last mile to households. The incentive for an operator to favor their own video traffic over a competitor’s is growing. ISPs will get creative to find ways of subtly pressing the advantage of owning “the pipe.” We may need strong network neutrality rules now more than ever.

Meanwhile, Pai’s order ceded responsibility for policing this to the Federal Trade Commission, an agency with nowhere near the FCC’s telecommunications expertise.

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