Competition and Regulation in the Telecommunications Industry in ...

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Competition and Regulation in TelecommunicationsTable 1.2 examines the cost structure of different network types. As it reveals, thecost structure in fixed line networks (PSTN or cable) is geared towards sunk andfixed costs making it largely insensitive to traffic volumes. For this reason it is oftennoted that the marginal cost of making a phone call is negligible. In fact, the marginalcost/revenue decision for the PSTN operator is whether to connect a new customeror not (Laffont & Tirole 2000). If the new customer is expected to generate morerevenue than it costs to install the line, then the PSTN will install the line. The resultof this cost structure is that economies of scale and density are reasonably large andthere is a large initial investment required to begin operating local access.The sunk costs are largely the trenches and ducts for wire that can make up to 40%of annualised costs (Caves 1995). Allowing the distribution through poles aboveground does lower costs. These sunk costs are the reason that lower cost entrantsare companies with a local transmission network already in place – e.g. cable TVcompanies or electricity companies. In these cases there are economies of scope asmany of the additional costs of rolling out a network are already incurred. Thedifficulty of course is allocating these costs between the different services. The otherservice that cable can enter once upgraded for telephony is data transmission.Cave (1995) notes that in the comparison of costs between cable and PSTN, thefollowing conclusions may be drawn:• Cost per home passed (the local loop) is higher for a CATV network• The incremental cost of provision of a telecommunications service by a CATVoperator with an established local loop is a small fraction of the total cost faced bya PSTN• For the subscriber already connected to the CATV local loop the cost disparitywith a telecommunications provider is even greater.Table 1.2 assumes that the cable provider already has a local loop in existence andis providing both video and telephony (hence exploiting their economies of scope).The conclusion one can draw is that cable can in all likelihood be considered in thesame market for telecommunications once established.Table 1.2: Cost characteristics of local access technologies for telecommunicationsFixed line CATV network Fixed wireless Mobile wirelessFixed/variable ratio High Medium Low LowSunk/salvageableratioTrafficsensitive/non-trafficsensitiveHigh Medium* Low LowLow Medium* High HighEconomies of scale Medium Medium Small SmallEconomies ofdensityLarge Large Small SmallEconomies of scope Possible Yes No PossibleInitial investmentrequiredRequires specialhandsetLarge Medium Small SmallNo No No Yes*Based on some economies of scope by offering video and telephony services6
Competition and Regulation in TelecommunicationsReproduced from Cave (1995)If the PSTN were to exploit their potential economies of scope into video then part ofthe sunk costs allocated to telephony would be shared with other services. ThePSTN has already lowered some of the costs by exploiting its ability to provideaccess to two-way transmission data networks (i.e. Internet or private data networks).The exponential growth in traffic volume has been associated with data and notvoice. This enables PSTNs to operate at greater levels of capacity utilisation and solower the unit costs. This is a strong reason for the better productivity performance ofUS telephone companies.Wireless NetworksWireless networks differ from fixed line in their use of the radio frequency spectrumfor transmission. The local access process involves a handset for the subscribertransmitting to and from a base station using a specific spectrum that the networkprovider is licensed to use. The base stations are usually connected to each other oranother network through a fixed line infrastructure.In local access there are two types of wireless networks – fixed and mobile. The fixedwireless local loop is a recent addition and is being used to provide a ‘last drop’ to theconsumer for fixed line voice or data networks. It is similar to two-way radio wherethe physical coverage is very limited, and the receiving device (a telephone) is oftenfixed in location. The same receiving device as fixed lines is used. In terms of amarket boundary for competition analysis, it is not designed to compete with thecellular networks but rather to provide a cheap alternative to using fixed wire as thelast drop to the home. Therefore it would usually fall into the fixed telephony market(in fact it is usually rolled out by the PSTN as part of a mixed technology strategy –Telkom is no exception).The cellular networks provide local access but also the added advantage of mobility.The subscriber is required to invest in a handset that cannot be used for fixed line orfixed wireless access (a switching cost). The current mobile networks are constrainedin their network speed to offering voice and data services only. However, the socalled3 rd Generation or Universal Mobile Telecommunications Services (UMTS)hope to achieve networks speeds that would enable the transmission of video too.The first networks of this kind are due to be operational in Japan in 2002.The cost structure of mobile is different to that of fixed lines (see table 1.2). Thespacing of the base stations (and therefore the number required) is dependent on thetraffic volumes. The result is that the initial investment required to establish a localaccess infrastructure is lower than that of fixed lines. It also means that there arelower economies of scale and density, making more network providers viable.A key question is the extent to which mobile competes with fixed line in the localaccess market (i.e. is a close enough substitute to be considered in the samemarket). This is crucial for competition and regulatory analysis. From a use andquality of product perspective, they clearly offer the same potential group of basicand advanced voice products but with mobile having the added feature of mobility.What may therefore determine whether they are in the same product market is thedifference in price between the two or whether other services are bundled in too (inparticular data services). If voice is bundled with data services then fixed linecurrently holds a broader array of products to mobile, where data is available but in afar more limited way due to screen size. The actual cost differential depends on the7
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