Followup on Net Neutrality -- AT&T Adopts Tiered Pricing Structure for Cell Phones

Last week, I discussed in a lengthy post the current disputes about the pricing of joint products, including internet service.  I noted that the entire net neutrality fight was a dispute between heavy and more moderate users of internet bandwidth.  The latest news is that AT&T has attempted to do something to apply appropriate pricing so that bandwidth hogs are not subsidized by the rest of us.  David Pogue, the NY Times technology guy explains the new pricing structure.

Merchant Fee Battle Continues in House

According to one recent comprehensive trade press article, the battle over the merchant fee provisions in the Senate Finance bill is continuing in the House.  The article notes that while small merchants are the public face for merchants, it is really the large merchants that are doing lobbying and will benefit most from the legislation.

The article notes the consequences of one of the bizarre provisions of the bill.  The "reasonableness" requirement for merchant fees will not apply to banks with $10 billion or less in assets, to 99% of the banks in the country.  As the article explains:

"Meanwhile, merchant acquirers are trying to figure out how to make the back-office changes necessary to implement Durbin’s provisions should they become law. The measure would exempt from possible regulation the interchange income of financial-institutions with $10 billion or less in assets—a group Durbin said includes 99% of banks and credit unions. The amendment instructs the Federal Reserve to assess what would be “reasonable and proportional” debit card interchange based on the processing costs incurred. That means there could be one set of interchange rates for a few large debit card issuers and another set for all the others—on top of existing rates based on transaction volume and merchant type."

So the Senate has proposed to regulate the debit card charges of only the largest banks.  It has apparently given no thought to the competitive distortions this would impose on the debit card industry.

Credit Cards and Internet Service: Joint Products Continue to Raise Controversy

    When I practiced law, I spent much of my time defending a computerized reservation system (CRS) against claims of monopoly pricing.  After four years of litigation, we won a four-month jury trial, in which the jury found that we weren't a monopoly, and weren't engaged in unjust pricing.  Now, the same economic issues involved in the CRS litigation are again front and center in two current regulatory disputes.

    The basic economic issue with CRSs arose from their nature as what economists call "joint products." This is defined by Wikipedia as "two or more products, produced from the same process or operation, considered to be of relative equal importance"   The CRS produced a reservation transaction that equally benefited the airline that provided service and the travel agent who made the booking (and ultimately the consumer).   Since it is recognized that cost allocation of common cost is entirely arbitrary, the pricing of CRS services was controversial for many years.  In the early days of CRS, travel agents paid a little, many airlines got a free ride, and the vendors lost substantial amount of money.  The vendors were able to get significant booking fees from some smaller airlines, who complained of discrimination.  After the CAB adopted regulations requiring nondiscriminatory fees, all airlines were required to pay booking fees, and the CRS's became highly profitable.  The vendors then engaged in intense competition for placement in travel agencies, which resulted in competing away some of the profits generated from airlines in increasing discounts to travel agents.

    The battle over pricing of joint products is now again being fought in Washington -- this time over Internet services and credit cards.  Both are joint products.  The Internet is similar to the classic example of a joint product -- a newspaper.  Indeed, it is so similar, that it is quickly displacing newspapers.  The Internet connects suppliers and users, both of whom contribute to the cost of the systems.  Users pay fees to the telephone or cable company that provides Internet service.  Websites also pay fees for their connection to the Internet, and offset these fees by collecting revenue from advertisers, or sometimes subscription fees from viewers.
  
    Some vendors use substantially more bandwidth than others.  Sites such as YouTube that provide video or movies are obviously intensive users who absorb tremendous amounts of Internet capacity.  The whole "net neutrality" issue arose when network providers suggested that they might charge more for high consumers of bandwidth.  This was quickly labeled discrimination by vendors that might have to pay more, and the battle has been fought under the appealing banner of "net neutrality."  But it is really a battle over pricing -- heavy consumers are trying to avoid a pricing structure that reflects their impact on the network.  They want all users priced equally, thus forcing light users to subsidize bandwidth hogs.  It is not very reasonable to require users who use the Internet for e-mail and browsing news articles to pay as much for their Internet service as young people who use the Internet for watching movies and playing games.

    The credit card issue is similar.  Credit cards are a joint product, providing equal benefits to both merchants and users.  Again, the traditional pricing structure charges both beneficiaries.  Subscribers usually pay annual fees, plus interest of bills were paid in a timely manner.  Merchants also paid in the form of discount fees, equal to a small portion of the amount charged by the consumer.  MasterCard and Visa  discount fees were usually somewhat less than 2%, while American Express charged more -- sometimes 3% for merchants, and even higher for smaller companies such as restaurants. 

    Merchants have fought for years to restrict these fees, and have recently found some success.  In early May,  the Senate adopted an amendment to the Financial Reform bill that would require merchant fees for debit cards to be "reasonable and proportionate" to the actual cost of processing these transactions.  (The amendment does not apply to credit card fees.)  Of course, this runs right into the question of how to allocate the common costs of a joint product.  The House bill does not contain a similar provision, so the amendment may not survive the conference committee.

    It does seem that merchants may be paying too much, not because their prices exceed some cost standard, but because credit card companies are competing away much of their revenue from merchants to attract new consumers.  Rewards cards are the prime example of credit card vendors using revenue from merchants to give points that consumers may use to redeem merchandise, or even simply to pay consumers one or two percent of the total amount charged.  Of course, in the current economic environment, the card companies are suffering tremendous losses, and can reasonably argue that they need to maximize revenue from both merchants and consumers in order to survive.

    I will do some more research on both credit card and net neutrality issues, and continue to blog on these questions.

Airlines Cancel First Flights Bacause of New DOT Delay Rules

When DOT adopted new rules that airlines counld not delay flights before take-off for more than three hours before facing draconian DOT penalties. carriers and others warned that they would have every incentive to cancel the flights before the deadline, rather than become liable to millions of dollars in penalties.  Consumer groups rejected this possibility.  Now that the rule has become effective we are receiving reports of the first cancellations.  Surprise -- corporations react to economic incentives.

Obamacare Projected Costs Increase by $115 Billion; Wipe Out Alleged Savings

The hard light of reality has finally wiped out all the alleged cost savings from the healthcare bill.  The Congressional Budget Office has identified $115 billion in additional costs in administration and other areas.  As reported by ABC:


"The director of the Congressional Budget Office said Tuesday that the health care reform legislation would cost, over the next ten years, $115 billion more than previously thought, bringing the total cost to more than $1 trillion.
The revised figure is due to estimated costs to federal agencies to implement the new health care reform bill – such as administrative expenses for the Internal Revenue Services and the Department of Health and Human Services -- and the costs for a "variety of grant and other program spending for which specified funding levels for one or more years are provided in the act."
CBO had originally estimated that the health care reform bill would result in a net reduction in federal deficits of $143 billion from 2010-2019; this revised number would eliminate most of that savings"

Health Care Bill Limits Deductibility of Medical Expenses

So much for the claim that President Obama won't raise taxes on incomes of under $250,000.  One little-noticed provision of the health care bill changes itemized deductions to reduce the deductibility of medical expenses.  As explained in a timeline published by the national Council of State Legislatures, starting in fiscal 2013, the legislation "increases the adjusted gross income threshold for claiming the itemized deduction for medical expenses from 7.5 percent to 10 percent. Individuals age 65 and older would be able to claim the itemized
deduction for medical expenses at 7.5 percent of adjusted gross income through 2016. [Sec. 9013 of H.R.3590]

I haven't seen this reported anywhere.  In 2013, you won't be able to claim medical expenses unless they exceed 10% on adjusted gross income.  For Seniors, the threshold will increase in 2017.

Here is the actual language of Section 9013:

SEC. 9013. MODIFICATION OF ITEMIZED DEDUCTION FOR MEDICAL
EXPENSES.
(a) IN GENERAL.—Subsection (a) of section 213 of the Internal
Revenue Code of 1986 is amended by striking ‘‘7.5 percent’’ and
inserting ‘‘10 percent’’.
(b) TEMPORARY WAIVER OF INCREASE FOR CERTAIN SENIORS.—
Section 213 of the Internal Revenue Code of 1986 is amended
by adding at the end the following new subsection:
‘‘(f) SPECIAL RULE FOR 2013, 2014, 2015, AND 2016.—In the
case of any taxable year beginning after December 31, 2012, and
ending before January 1, 2017, subsection (a) shall be applied
with respect to a taxpayer by substituting ‘7.5 percent’ for ‘10
percent’ if such taxpayer or such taxpayer’s spouse has attained
age 65 before the close of such taxable year.’’.
(c) CONFORMING AMENDMENT.—Section 56(b)(1)(B) of the
Internal Revenue Code of 1986 is amended by striking ‘‘by substituting
‘10 percent’ for ‘7.5 percent’ ’’ and inserting ‘‘without regard
to subsection (f) of such section’’.
(d) EFFECTIVE DATE.—The amendments made by this section
shall apply to taxable years beginning after December 31, 2012.

Health Care Bill Substantially Increases Premiums

One of the alleged benefits of the health care bill is that insurance companies will no longer be able to deny coverage  to persons with pre-existing conditions.  There have been numerous anecdotal stories of persons who lose their jobs, but can't get other coverage because they already have cancer or some other serious illness.  Nowhere in the health care debate did any member of Congress or the Obama administration, so far as I could discover, admit that this additional benefit would substantially increase insurance premium costs, not only for those with a pre-existing condition, but also for everybody in the insurance pool.

However, the New York Times as run in an interesting article on a laboratory state that already has a requirement that insurance cover pre-existing conditions.  That state is New York, which already has among the highest insurance rates in the country.  See New York Offers Costly Lessons on Insurance
http://www.nytimes.com/2010/04/18/nyregion/18insure.html?ref=todayspaper&pagewanted=all

The article explains the problem:

Premiums for individual and small group policies have risen so high that state officials and patients’ advocates say that New York’s extensive insurance safety net for people like Ms. Welles is falling apart.
The problem stems in part from the state’s high medical costs and in part from its stringent requirements for insurance companies in the individual and small group market. In 1993, motivated by stories of suffering AIDS patients, the state became one of the first to require insurers to extend individual or small group coverage to anyone with pre-existing illnesses.
New York also became one of the few states that require insurers within each region of the state to charge the same rates for the same benefits, regardless of whether people are old or young, male or female, smokers or nonsmokers, high risk or low risk.
Healthy people, in effect, began to subsidize people who needed more health care. The healthier customers soon discovered that the high premiums were not worth it and dropped out of the plans. The pool of insured people shrank to the point where many of them had high health care needs. Without healthier people to spread the risk, their premiums skyrocketed, a phenomenon known in the trade as the “adverse selection death spiral.”

As a result, "Since 2001, the number of people who bought comprehensive individual policies through HMOs in New York has plummeted to about 31,000 from about 128,000, according to the State Insurance Department."

 A further result is that the Governor of New York is now proposing to reregulate insurance rates. 

We now have two state laboratories, New York and Massachusetts, that have shown the disastrous results of many of the requirements in the health care legislation.  It is unfortunate that Congress did not pay any attention to them before passing the legislation.