39 Pages Posted: 12 Dec 2010 Last revised: 24 Dec 2013
Date Written: January 27, 2012
Pricing of Internet access has been characterized by two properties: Parties are directly billed only by the Internet service provider (ISP) through which they connect to the Internet. Pricing, moreover, is not contingent on the type of content being transmitted. These properties define a regime known as “network neutrality.” In 2005, some large ISPs proposed that application and content providers directly pay them additional fees for accessing the isps’ residential clients, as well as differential fees for prioritizing certain content. We analyze the private and social incentives to introduce such fees when the network is congested and more traffic implies greater delays. We derive conditions under which network neutrality would be welfare superior to any feasible scheme for prioritizing service. Extending our analysis to encompass ISPs’ incentives to invest in more bandwidth, we show that the ability to price discriminate increases their incentives to invest. In terms of overall welfare, we show the additional investment may or may not offset any static inefficiency associated with discrimination.
Keywords: Network Neutrality, Two-Sided Markets, Internet, Monopoly, Price Discrimination, Regulation, Congestion
JEL Classification: L1, D4, L12, L13, C63, D42, D43
Suggested Citation: Suggested Citation
Economides, Nicholas and Hermalin, Benjamin E., The Economics of Network Neutrality (January 27, 2012). RAND Journal of Economics, 2012; NET Institute Working Paper No. 10-25; NYU Law and Economics Research Paper No. 10-57. Available at SSRN: https://ssrn.com/abstract=1723945 or http://dx.doi.org/10.2139/ssrn.1723945