geographic regulation and cooperative investment in next generation broadband networks

Geographic regulation and cooperative investment innext generation broadband networks

A Review of Recent Literature and Practical Cases

Roberto BalmerBundesamt für Kommunikation

Biennial ConferenceInternational Telecommunications Society

1 December 2014

Link to working paper

Disclaimer: The views presented here are those of the author and do not reflect those of BAKOM.

http://papers.ssrn.com/sol3/papers.cfm?abstract_id=2369049

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Agenda

1. Geographic regulation• Recent practical cases (Europe)• Recent literature

2. Cooperative investments in next generation broadband infrastructure• Recent practical cases (Europe)• Recent literature

1. Geo. Regulation – Practical cases

2. Geo. Regulation - Literature

3.Co-Investments – Practical cases

4. Co-Investments - Literature

5. Conclusion

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• Investment of alternative operators leads to regional increase of infrastructure competition and need for regional (de)regulation, which in European Countries is undertaken since 2008.

• When and how should geographic regulation be applied?

Geographic regulation =

• Geographic segmentation of markets: competitive conditions differ to a sufficient extent to define subnational markets. This typically implies full deregulation of competitive areas.

and / or

• Geographic differentiation of remedies: This typically implies lighter regulation in more competitive areas (still significant market power in all areas).





5. Conclusion

Geographic regulation

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The paper analyses:

• 9 cases of geographic segmentation of markets in 6 European countries, leading to full deregulation in a part of the country

• 6 cases of geographic segmentation of remedies in 6 European countries

Geographic regulation usually concerns the following markets:

• Wholesale broadband access (9 cases) • Leased lines (4 cases)• Wholesale physical access (2 cases)

Usually applied in cases where altnets roll-out own or ULL-based infrastructure regionally





5. Conclusion

Geographic regulation – Practical cases 1/4

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Current regulatory Practice in EU member states follow the 2014 BEREC Common Position on Geographic Aspects of Market Analysis (BoR(14)73):

Necessity for geographic market analysis, when: • 1+ alternative operators have significant but less than national coverage &

exert regionally a significant competitive constraint at the retail level• The incumbent operator differentiates retail prices geographically or

is setting a national uniform retail price but there are significant regional price differences with altnets

• There are significant geographic differences in product characteristics.

How to define geographic units to be aggregated• mutually exclusive• network structure of all relevant operators and the services sold on the market

can be mapped onto them• clear and stable boundaries• small enough that the competitive conditions are unlikely to vary significantly

within the unit but at the same time large enough that the burden with regard to data delivery and analysis is reasonable.





5. Conclusion


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In practice two scenarios:

1) Countries - especially in Western Europe - where competition is mainly driven by LLU-based market entry; MDF areas

2) Countries - especially in Eastern Europe - where competition is mainly driven by alternative infrastructures such as cable; communes

Homogeneously competitive areas should then be aggregated using these criteria:• barriers to entry in the market,• number of operators exerting a competitive constraint on the SMP operator,• market shares of the SMP operator and the alternative operators, and• prices

When the heterogeneity of conditions is not sufficiently strong or where the market borders are not sufficiently stable, the definition of a national market with imposition of geographically differentiated remedies is suggested. In these cases no fully deregulated areas are defined.

E.g. Market shares: Check if incumbent has market share below 40-50%

+ Number of competitors: “two is not enough”; UK 3-4 altnets necessary for full deregulation





5. Conclusion


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• UK, WBA (2010)

Most complex case combining geographic segmentation of markets and remedies

Three geographic markets:

1) MDF areas where BT is the only operator present – Cost-orientation + Price control (RPI-X)

2) MDF areas where in addition two or more alternative operators with own infrastructure or via unbundling are present* (or three when the incumbent’s market share is greater than 50%) - Cost-orientation

3) MDF areas where in addition four or more alternative operators are present (or three when the incumbent’s market share is lower than 50%). Full deregulation (about 80% of national territory!)

* Presence means coverage of at least 65% of the MDF area.New UK WBA 2014 decision slightly adjusts this (2 markets: full deregulation in MDF areas with 3+ operators, also cost-orientation lifted), but idea remains the same.

• The Netherlands, wholesale market for physical access• Price caps based on actual regional roll-out cost: 14 clusters• Min.16€/month/line, max. 26€/month/line

in parallel there is also a national wholesale price (18€/month/line); operators have to permanently choose between the national and regional price plan





5. Conclusion


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• Few literature: Bourreau, Cambini, & Hoernig (2012b), De Matos & Ferreira (2011), Flacher & Jennequin (2012), Lestage & Flacher (2010)

• Currently most comprehensive model: BCH (2012b); Features: - Geographic differences due to local cost and local competition (two potential

incumbent entrants; downstream entrants)- Geographical differences in wholesale and retail prices are allowed- Bertrand retail competition with horizon tally differen tiated goods- No legacy technology

• Regulation: BCH (2012b) show that only geographically differentiated regulated access prices according to investment cost and competition (single / duplicate infrastructure areas (SIA, DIA)) give regulators sufficient flexibility to maximise welfare.

How to set prices?• Set local SIA charge just high enough that investment can take place (higher

would only reduce static efficiency), i.e. some form of regional cost-orientation• DIA charge depends on differentiation. In case of no differentiation, no social

benefit of duplication (set DIA price to zero). Fiber? Multifiber?





5. Conclusion

Geographic regulation – Literature 1/3

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What about regional wholesale price deregulation (DIAs)?

• BCH (2012b) also show that deregulation of DIA access charges by imposing an “access only” remedy is generally not socially optimal. Needs further precautions as equilibria are unstable.

• E.g. when the two investors would be very aggressive in the wholesale market (Bertrand with homogeneous goods), the market DIA wholesale charge could be zero, i.e. no incentive for any duplication in the first place and no duplicate investment which may not be socially optimal in case of differentiation. I.e. price floor necessary to set right investment incentives!

• Setting both caps and floors would be necessary to induce a socially optimal outcome implying that prices are likely to need to be set by the regulator anyway.





5. Conclusion


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Regulators’ way forward? My view:

- Local cost LRIC for SIA in urban areas (lower) and national LRIC outside (as before). Static efficiency in urban areas increased while dynamic efficiency for SIA remains unaffected.

- In rural areas local cost LRIC would increase SIA prices. In some areas this would be good and induce investment in the first place. In others where an infrastructure is already present it could potentially reduce static efficiency without bringing tangible benefits. Need further research.

- DIA: Assess level of differentiation. If no differentiation then current duplication is inefficient and has to be stopped. Otherwise set appropriate DIA charges.

- DIA deregulation? Could lead also to “too much competition”, regulator should set prices such to control both competition and duplicate investment incentives, including price floors.





5. Conclusion


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• NGA investments cooperations since 2009• NGA roll-out costs 1:10 from most urban to must rural cluster (Switzerland)• With a joint roll-out and mutual access agreements the total investment incurred in

case of parallel roll-out may be reduced substantially• BEREC BoR(12)41: Co-Investment does not necessarily imply less

independence for the operators or reduce competition. If 3+ operators and co-investment agreements allow sufficient independence, market may be competitive.

• Horizontal clauses when operators are not fully independent (Switzerland): Layer 1 exclusivity, compensation mechanisms, non-discrimination clauses towards other operators (less favourable offers).

• NGA Co-investments essentially take place in France, Switzerland, Netherlands• Co-investment forms: Joint-Ventures vs long term access agreements (IRUs)• Multifiber (France, Switzerland). Investment costs increase by 10-20%, but boosts

profitable duplicate roll-out:• E.g. Switzerland profitable roll-out of two parallel networks 16% of households.

With Multifiber 54%.





5. Conclusion

NGA Co-investments – Practical cases

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• What are the effect of different NGA co-investment forms on competition, investment and welfare?

• Literature growing quickly: Bourreau, Cambini & Hoernig (2013), Cambini & Silvestri (2012, 2013), Inderst & Peitz (2012a, 2013), Krämer & Vogelsang (2012), Mizuno (2009), Nietsche & Wiethaus (2011)

• Joint-Venture: joint profit maximisation, set one internal (e.g. marginal cost) fee for all partners and one external access fee (“basic sharing” in CS2013)

• Long term access (IRUs): incumbent has access at marginal cost, the partner not. Access tariff structure can be fixed, linear, nonlinear. Contracted ex-ante or ex-post. Charges can be conditional on the market outcome in case of uncertainty.

Levels can be: marginal cost, LRIC, FDC, etc.

• Co-investments usually imply some investment-competition trade-off. Welfare effects a priori unclear, depends on fine details.





5. Conclusion

NGA Co-investments – Literature 1/7

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Co-investment under traditional NGN regulation- BCH(2013) analyse basic sharing with outsiders and uncertainty. - Assumes higher internal fee than MC would not be tolerated by NRA.- Feature: Simultaneous presence of co-investment with traditional

regulation, full deregulation in duopoly areas and “no access”

No access- Need own infrastructure. Duplication is fully substituted by co-

investment and duopoly coverage is extended as costs are shared.- Total coverage not affected by co-investment option (i.e. Monopoly

profits are higher than duopoly profits). Except when joint roll-out leads to efficiencies reducing the total roll-out cost or strong demand expansion effect compensating additional costs (differentiation)

Traditional NGN regulation- Undermines investment in total coverage, reducing profitability- But also in co-investments, as regulated access creates opportunity cost

Free market (Co-invested infrastructure areas only)

- Setting outsider access fees freely may soften downstream competition for the partners increasing profits.

> Increases CIA coverage- Unless strong differentiation, negative welfare effect. ARCEP actually

regulates both co-investment (internal) and traditional access (external)





5. Conclusion

NGA Co-investments – Literature 2/7 JVs

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Co-investment as alternative to NGN regulation (Certainty)• Includes legacy technology access at MC• In CS(2013) consumers’ willingness to pay for NGN depends on

amount of investments • incumbents are equally good in transforming quality investments

in willingness to pay• Without outsiders, basic sharing is superior to NGN access

regulation at marginal cost in terms of welfare, increasing both investment levels and competition, as the competitors’ profits may also be taken into account in the investment decision, thereby expanding network coverage at unchanged access conditions.

• These results remain valid when outsiders are considered (external charges set freely) even though co-investment schemes can then lead to foreclosure.





5. Conclusion

NGA Co-investments – Literature 3/7 JVs

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5. Conclusion

NGA Co-investments – Literature 4/7 JVsCo-investment as alternative to regulation (Uncertainty)

Willingness to pay is enhanced only in case of success.

1) Differing ability to increase willingness to pay of consumers across firms

In CS(2012) basic sharing leads to more competition and output than with regulation or full deregulation

- Full deregulation induces the highest investments. - From a welfare point of view, when the competitor is better than the

incumbent in providing NGN services basic sharing is always optimal. - When instead the incumbent is better, the ranking is less clear. Basic

sharing usually continues to be optimal.

2) Equal ability to increase willingness to pay of consumer across firms

- In NW(2012) Basic sharing is shown to lead to maximum output and competition as well as to maximum consumer welfare, when compared to LRIC, FDC (allowing to recoup in case of failure) or deregulation

- Because: strong competitive effects and reasonable investment incentives allowing the operators to share benefits and costs upfront - even if ex-post the investment fails.

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5. Conclusion

NGA Co-investments – Literature 5/7 IRUsLong term access agreements (Certainty)• In IP(2012) with full bargaining power, a fixed + usage based ex-post

access fee can increase rent extraction over linear access prices to the point to reach investment incentives under monopoly (JV).

• Only true under price independent demand as no allocative inefficiencies from access arise

• As in a joint-venture, the usage-based access charge chosen to set marginal cost conditions to maximise industry profits (monopoly outcome), while fixed fee allows division of the profits according to bargaining power.

• When instead industry demand is price dependent, there is an allocative inefficiency, implying that under any form of (long term) access monopoly outcome cannot be achieved and investment incentives are reduced compared to JV.

• Ex-ante contracts increase investment incentives for any tariff plan when the incumbent does not have full bargaining power, making rent extraction always more efficient (hold-up)

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5. Conclusion

NGA Co-investments – Literature 6/7 IRUsLong term access agreements (Uncertainty)

In IP(2013)- Risk neutrality - Unconditional fees are

inefficient Hold-up problem

Usage of NGN by competitor

in all cases

Competitors’ outside option

Overall NGN investment incentives

Fixed access charges unconditional on NGN gross utility

1) - Ex-ante contract - Non-optional fixed charge

unconditional on demand Efficient No

- Incumbent NGN/copper

- Competitor copperIntermediate

2) - Ex-post contract (before realisation of demand)

- Optional fixed charge unconditional on demand

Inefficient No- Incumbent NGN- Competitor copper

Low

Fixed access charges conditional on realisation of NGN gross utility

3) - Ex-post contract (after realisation)

- Optional fixed charge conditional on demand

Inefficient Yes- Incumbent NGN- Competitor copper

Intermediate(maximum with full bargaining power)

4) - Ex-ante contract - Optional fixed charge conditional on demand

Efficient Yes- Incumbent NGN- Competitor copper

Maximum

5) - No fixed charge - Linear usage based charge


Intermediate(but higher than

unconditional fixed fee)

6) - No fixed charge - Nonlinear usage based charge


Lower thanthan linear usage

based charges

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5. Conclusion

NGA Co-investments – Literature 7/7 IRUs

With risk aversion:- Unconditional ex-ante fixed fees again more interesting. Can distribute

risk to the competitor.

Conclusions- Co-investments increase investment incentives in duopoly coverage- But may negatively impact competition compared to normal duopoly - Is duplication useful? Differentiation?

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Questions?

Dr. Roberto BalmerBundesamt für Kommunikation Telekom / Sektion ÖkonomieZukunftstr. 442501 BielSwitzerland

Tel. +41 32 327 56 43 [email protected]

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5. Conclusion

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Backup

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Overview (interpretation)

Static welfare (competition)

Dynamic efficiency(investment incentives

in SIA and DIA)Total welfare

Geographically segmented regulated welfare-maximising access prices according to investment cost and competition

Optimal Optimal

Optimal (even if in the market model this implies no

duplication)

Geographically segmented LRIC prices according to investment cost and competition (SIA)

Suboptimal SuboptimalSuboptimal

(but better than uniform LRIC)

Geographically segmented remedies

Can be optimal Can be optimalCan be optimal

(depends on mechanism)

Uniform/geographically segmented cost-oriented access price regulation (at marginal cost)

Suboptimal(but optimal in

already covered areas)

Suboptimal Suboptimal

Uniform above cost access price regulation (including LRIC)

Suboptimal SuboptimalSuboptimal

(but better than marginal cost-oriented)

Uniform full deregulation Suboptimal Suboptimal Suboptimal

Geographically segmented full deregulation

Suboptimal Suboptimal Suboptimal

Geographically segmented prices according to competition only


Geographically segmented LRIC prices according to competition only


Backup – Geographic regulation 1

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Backup – Geographic regulation 2

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• A high fibre access price always leads to high investment incentives

• A high copper access price? Implies

1) low opportunity costs for the entrant > high entrant investment incentives (replacement effect)

2) that incumbent risks cannibalization and does not invest (Wholesale revenue effect)

3) low pressure on retail prices > more investments (Business migration effect)

• Overall unclear whether a high legacy network access charge can increase investments in next generation broadband or not.

• Most papers on geo. regulation consider regulated marginal cost access to copper and therefore absence of “migration” distortions.

Backup – Migration to NGA

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Paper C – NGA Co-investments (1/9)

Main assumptions

Main resultsCooperation type

Paper

Fixed investment

contribution (share of

investment cost)

Usage based access

charges for insiders

Usage based access

charges for outsiders

UncertaintyPresence of legacy

technologyEffect of NGN

Joint-venture

(JV)

Cambini & Silvestri (2013)

Yes, equal shares

Yes(free choice)

Yes, positive and higher than insider

fee

No Yes

NGN increases willingness to pay (same for both firms) depending on investment

extent

Cambini and Silvestri (2013) show that without outsiders, basic sharing is superior to NGN access regulation at marginal cost in terms of welfare, increasing both investment levels and competition, as the competitors profits may also be taken into account in the investment decision, thereby expanding network coverage at unchanged access conditions. These results remain valid when outsiders are considered even though co-investment schemes can then lead to foreclosure.


Yes, variable shares.

Yes(free choice)

- Yes Yes

Chance that NGN investment increases willingness to pay (by same amount for both

firms)

Under uncertainty, without outsiders, when there is differing ability to increase willingness to pay of consumers across firms basic sharing always leads to more competition and output than with regulation or deregulation, while full deregulation induces the highest investments. From a welfare point of view, when the competitor is better than the incumbent in providing NGN services (and the regulator would consequently set the NGN access price under full regulation to zero) basic sharing is always optimal. When instead the incumbent is better, the ranking is less clear. Basic sharing usually continues to be optimal.

Basic investment sharing

(particular form of

JV)


(see above)Yes, marginal

cost(see above) (see above) (see above) (see above) (see above)

Nietsche & Wiethaus (2011)

Yes, equal shares

Yes, marginal cost

- Yes Yes

Chance that NGN investment increases willingness to pay (by same amount for both

firms)

Risk sharing (basic sharing) is shown to lead to maximum output and competition as well as to maximum consumer welfare, when compared to LRIC, FDC or deregulation, for its strong competitive effects and reasonable investment incentives allowing the operators to share benefits and costs upfront - even if ex-post the investment fails.

Bourreau, Cambini &

Hoernig (2013)

Yes, equal shares

Yes, marginal cost

Yes, same as insider fee

Yes NoDemand for NGN can be high

or low (same willingness to pay across firms)

With uncertainty and outsiders deregulation of basic sharing agreements (i.e. no ex-post regulation of the outsider access price) may be socially preferable to access regulation only when services are highly differentiated and the access charge under regulation would be high. This is the case because with outsiders dampening of competition takes place also under basic sharing. Nevertheless, there are some circumstances under which deregulation can be a welfare optimal solution in presence of such a co-investment scheme.

Krämer & Vogelsang

(2012)

Yes, 75% incumbent / 50%

competitor (according to

demand share)

Yes, marginal cost

- No NoNo quality effect, willingness

to pay is identical for both firms

Basic sharing is not taking place in equilibrium due to aggressive downstream retail competition assumptions when compared to the rest of the literature. Experimental results suggest that such equilibrium would not arise in reality and that operators may use co-investments here as a means to increase collusion - even when the access fee is fixed at marginal cost and in presence of Chinese walls limiting communication. Overall the regulator can ensure positive effects on consumer welfare when the introduction of a co-investment option is accompanied by measures preventing collusion.

Access innovation

joint-venture

Mizuno (2009) Yes, variable

Incumbent has access at

marginal cost. Competitor has

access at regulated

prices (fixed multiple of

marginal cost)

- No NoNGN investments have no

effect on quality but can reduce marginal costs

Under a regulated (usage) cost based access pricing rule when positive spill-overs from access innovation on the entrant (via a high access charge) are sufficiently high, the entrant also benefits from a reduction in access costs. In this case the negative effects from competition (in this range the incumbents marginal costs decrease more than the entrants’) are sufficiently balanced. Then the entrant may participate in a cooperative investment scheme increasing overall investment incentives. The author moreover shows that in case of standard LRIC cooperation is enhancing total welfare. Finally he shows that investment incentives under no cooperation can be enhanced with a two-part tariff but that this would not be welfare optimal.

Long term access

Inderst & Peitz (2012a)

-



access at possibly above marginal oost

prices.

- No Yes

NGN increases consumers’ gross utility of the service

(same amount for both operators).

Under certainty, with price independent demand and full bargaining power that non-linear ex-post access fees can increase rent extraction over linear access prices to the point to reach investment incentives under monopoly (joint-venture). This is the case because under price-independent demand, no allocative inefficiencies from access arise. When instead industry demand is price dependent, there is an inherent allocative inefficiency, implying that under any form of (long term) access, investment incentives are reduced. Under these circumstances, a highly complex contract with lump-sum compensation payments based on ex-post market shares can possibly achieve replication of the monopoly outcome under full bargaining power and certainty. Finally, ex-ante contracts increase investment incentives for any tariff plan when the incumbent does not have full bargaining power, making rent extraction always more efficient.

Inderst & Peitz (2013)

-



access at possibly different access options.

- Yes Yes

NGN increases consumers’ gross utility of the service

(same amount for both operators).

Under uncertainty instead conclusions of Inderst and Peitz (2012a) are no longer true and fixed unconditional fees are inefficient. When demand turns out to be low the competitor would continue to use the copper network. Competition as well as investment incentives could, however, be enhanced when it would be given access at reasonable terms. Conditional fees are therefore more efficient in this case. Conditional fees can also be defined ex-ante (describing all possible outcomes), additionally addressing a possible hold-up problem. Ex-ante optional conditional fixed fees (with subsequent access at marginal cost) are therefore the most efficient access option to promote investment incentives under risk neutrality. Finally, with risk aversion, it is shown that profits are less valuable when they are uncertain. When the investor is known to be risk averse and regulation aims at balancing risks between market participants a largely non-optional ex-ante fee becomes again an interesting access option promoting investments.

geographic regulation and cooperative investment in next generation broadband networks

Technology

regulation literature

lighter regulation

geographic units

geographic market analysis

coinvestments literature

review of recent literature

competitive conditions

significant market power