Elsevier

Information Economics and Policy

Volume 37, December 2016, Pages 20-33
Information Economics and Policy

Access regulation and the entrant's mode of entry under multi-product competition in telecoms

https://doi.org/10.1016/j.infoecopol.2016.10.005Get rights and content

Highlights

  • We model the transition from copper to fiber access networks in fixed telecoms.

  • An incumbent and an entrant sell horizontally and vertically differentiated services.

  • We endogenize the entrant's ``build-or-buy'' decision in the upstream market.

  • The optimal access rules depend on the degree of intra-/inter-firm competition.

  • A trade-off between promoting welfare and encouraging fiber investment may arise.

Abstract

We study the optimal access regulation during the transition from copper to fiber access networks in telecoms when each competitor provides broadband services that are both horizontally and vertically differentiated. We consider a setting in which there is a vertically integrated incumbent that controls a network required for the supply of the final services and an entrant that undertakes a “build-or-buy” decision. In this multi-product framework, where the quality of the services is endogenously determined, we show that the entrant always prefers service-based to facilities-based entry, provided that this option is available. Hence, the regulator sets the welfare-maximizing access charges whenever this socially optimal access pricing policy leads to higher welfare than facilities-based entry. Otherwise, a sufficient access policy that ensures facilities-based competition is to ban access to the incumbent's upstream facilities. We present the conditions under which each of these instruments should be implemented and conclude that the optimal access rules depend on the characterization of consumers according to their tendency to be “firm-oriented” or “technology-oriented” since this discrimination determines whether intra-firm or, respectively, inter-firm competition prevails in the market.

Introduction

The broadband telecommunications market is probably the most rapidly changing network industry as it has undergone extensive changes during the last decades. The interplay between access regulation and technological progress has led to continuously evolving market structures and industry performances. This industry is currently experiencing a transition from copper to fiber access networks, which may be a slow process due to both supply side and demand side factors. Thus, there may exist a period during which both fiber access networks and existing copper infrastructures coexist and compete for consumers. In this context, firms may use the fiber access networks to sell both ultra-fast broadband services and services qualitatively equivalent to the basic broadband ones provided via the copper access networks.

Our paper studies the socially optimal access regulation when each firm provides both basic and ultra-fast broadband services which are horizontally and vertically differentiated. In such multi-product framework, the characterization of consumers’ substitution patterns across products is very relevant since their tendency to be “firm-oriented” or “technology-oriented” determines whether intra-firm or, respectively, inter-firm competition prevails in the market. Our demand model allows us to consider substitution patterns that range from the extreme case in which the closest substitutes are within the vertically differentiated services provided by one firm (pure intra-firm competition) to the other extreme case in which the closest substitutes are qualitatively similar but sold by different firms (pure inter-firm competition).

We show that, in our model, the level of access prices does not affect the entrant's decision to be a service-based competitor, which means that access price regulation undermines the entrant's incentives to invest in its own upstream facilities. We thus present the access rules that induce an entrant to choose the socially optimal entry mode and we discuss their implications in terms of competition and investment incentives. We find that the socially optimal “build-or-buy” decision of the entrant, and subsequently the optimal access policy, is significantly affected by the prevalent substitution pattern.

In general, service-based entry at the welfare maximizing access charges generates higher welfare outcomes than facilities-based entry when consumers tend to be “firm-oriented”. In other words, when intra-firm competition prevails, the regulator should apply the socially optimal access pricing policy. On the contrary, when inter-firm competition is more relevant (i.e., consumers are relatively “technology-oriented”), facilities-based competition leads to higher welfare levels. In this case, banning access to the incumbent's upstream facilities is a sufficient access policy to induce the entrant to invest in its own infrastructures.

The rest of the paper is organized as follows. Section 2 reviews the related literature and discusses the contribution of this paper. Section 3 presents the modeling setup. Section 4 characterizes the equilibrium of the game and discusses the effectiveness of access regulation to induce the socially optimal outcomes. Section 5 analyzes the equilibrium results from a social and an investment perspective. The final section concludes.

Section snippets

Literature review

Recent advances in the communications technologies allowed the transmission of high data rates over the twisted copper pair telephone lines, and thus made available the provision of high-speed Internet access (or simply broadband access) using the legacy copper access networks. Since these networks were monopolized by the incumbents, the goal of regulators was to reduce their monopoly power by enabling alternative firms (the so-called “new entrants”) to enter the market and compete effectively

The model

Firms. At the beginning of the game, an incumbent (firm I) and an entrant (firm E) compete for providing a basic broadband service over the copper access network of the upstream monopolist incumbent.

The deployment of a fiber-based NGA network capable of providing ultra-fast broadband services is an upgrade of the copper access network, in the sense that it allows for an increase in the quality of the services. Deploying a fiber access network of quality δ incurs a quadratic fiber investment

Equilibrium

In this section, we characterize the equilibrium of the game which is solved backwards. Hence, we first solve the retail competition stage. Given the equilibrium retail outcomes for each regulatory instrument, we calculate the profit-maximizing fiber investment level of the incumbent (and of the entrant in the case it chooses to invest in upstream fiber facilities). Afterwards, we present the entrant's decision on how to reach its consumers, and finally we analyze the regulator's decision with

Access rules, investment incentives and consumer migration

This section presents the optimal access rules and discusses their implications in terms of investment incentives and consumer migration towards the high-quality services. Recall that the optimal access rules concern the conditions under which setting the welfare-maximizing fiber access premium or banning access to the incumbent's access infrastructures leads to better welfare outcomes.

In fact, the regulator sets the socially optimal policy by comparing the welfare levels derived under SB and FB

Conclusions

In this paper, we modeled the fixed telecommunications market during the transition from copper to fiber access networks, where each competitor provides broadband services which are both horizontally and vertically differentiated. Under such multi-product competition, we endogenized the entrant's “build-or-buy” decision in order to derive the access rules that the regulator should set ex ante. It was found that these rules are strongly dependent on the main novelty of our model concerning the

Acknowledgements

The authors are pleased to acknowledge financial support from Fundação para a Ciência e a Tecnologia (grant UID/ECO/04007/2013) and FEDER/COMPETE (POCI-01-0145-FEDER-007659). Tselekounis acknowledges financial support from Fundação para a Ciência e a Tecnologia (grant SFRH/BPD/98501/2013). We also thank the editor and anonymous referees for their very useful comments and suggestions that considerably improved the paper.

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