Access Pricing 2004 This report on access pricing and the regulation of access services was adopted by the Competition Committee in 2004. This report addresses an issue which arises in virtually every public utility industry – the regulation of access to essential facilities. Access regulation issues lie squarely at the intersection of the fields of competition and regulatory policy. Access regulation draws on all aspects of the theory of regulation of natural monopolies. At the same time, both the level and structure of access prices have important implications regarding the scope for competition in the competitive parts of the industry. Access issues are not easy for regulators and competition policy-makers – they can be both difficult technically and the source of noisy disputes in practice. By bringing together theory and practice, this report seeks to help regulators and policymakers learn from theoretical insights and from practical experience to achieve efficient and competitive outcomes. Access to Key Transport Facilities (2006) Structural Reform in the Rail Industry (2005) Competition and Regulation in the Water Sector (2004) Competition Issues in the Electricity Sector (2003) Competition and Regulations Issues in Telecommunications (2002) Competition Issues in Road Transport (2001) © OECD, 2004. © Software: 1987-1996, Acrobat is a trademark of ADOBE. All rights reserved. OECD grants you the right to use one copy of this Program for your personal use only. Unauthorised reproduction, lending, hiring, transmission or distribution of any data or software is prohibited. You must treat the Program and associated materials and any elements thereof like any other copyrighted material. 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Access Pricing in Telecommunications ORGANISATION FOR ECONOMIC CO-OPERATION AND DEVELOPMENT ORGANISATION FOR ECONOMIC CO-OPERATION AND DEVELOPMENT Pursuant to Article 1 of the Convention signed in Paris on 14th December 1960, and which came into force on 30th September 1961, the Organisation for Economic Co-operation and Development (OECD) shall promote policies designed: – to achieve the highest sustainable economic growth and employment and a rising standard of living in member countries, while maintaining financial stability, and thus to contribute to the development of the world economy; – to contribute to sound economic expansion in member as well as non-member countries in the process of economic development; and – to contribute to the expansion of world trade on a multilateral, non-discriminatory basis in accordance with international obligations. The original member countries of the OECD are Austria, Belgium, Canada, Denmark, France, Germany, Greece, Iceland, Ireland, Italy, Luxembourg, the Netherlands, Norway, Portugal, Spain, Sweden, Switzerland, Turkey, the United Kingdom and the United States. The following countries became members subsequently through accession at the dates indicated hereafter: Japan (28th April 1964), Finland (28th January 1969), Australia (7th June 1971), New Zealand (29th May 1973), Mexico (18th May 1994), the Czech Republic (21st December 1995), Hungary (7th May 1996), Poland (22nd November 1996), Korea (12th December 1996) and the Slovak Republic (14th December 2000). The Commission of the European Communities takes part in the work of the OECD (Article 13 of the OECD Convention). Publié en français sous le titre : La tarification de l'accès dans le secteur des télécommunications © OECD 2004 Permission to reproduce a portion of this work for non-commercial purposes or classroom use should be obtained through the Centre français d’exploitation du droit de copie (CFC), 20, rue des Grands-Augustins, 75006 Paris, France, tel. (33-1) 44 07 47 70, fax (33-1) 46 34 67 19, for every country except the United States. In the United States permission should be obtained through the Copyright Clearance Center, Customer Service, (508)750-8400, 222 Rosewood Drive, Danvers, MA 01923 USA, or CCC Online: www.copyright.com. All other applications for permission to reproduce or translate all or part of this book should be made to OECD Publications, 2, rue André-Pascal, 75775 Paris Cedex 16, France. FOREWORD Foreword This report on access pricing and the regulation of access services has been prepared by the OECD’s Competition Committee. The Competition Committee has, over the past ten years, explored various aspects of the interaction between competition and economic regulation. This work has looked both at specific sectors (such as the public utilities, banking, broadcasting and so on) and at specific issues which cut across a number of different sectors (such as issues related to vertical structural separation, or the handling of non-commercial services). This report addresses an issue which arises in virtually every public utility industry – the regulation of access to essential facilities. Access regulation issues lie squarely at the intersection of the fields of competition and regulatory policy – on the one hand access regulation draws on all aspects of the theory of regulation of natural monopolies; at the same time, as this report emphasises, both the level and structure of access prices have important implications regarding the scope for competition in the competitive parts of the industry. This report was prepared in three parts over the period October 2001-October 2003. The first part addresses the economic theory of access pricing, drawing strongly on the theory of regulation of a natural monopoly. At the same time, OECD countries were invited to make submissions regarding how access regulation is carried out in their country, focusing on the telecommunications sector. This material is summarised in the second part of this report. Since the importance of “cost based” access prices is firmly established in conventional wisdom, the third part of this report looks at what it means for prices to be “cost based” in the presence of both fixed and common costs. Access issues are not easy issues for regulators and competition policy-makers – they can be both difficult technically and the source of noisy disputes in practice. By bringing together theory and practice, this report seeks to help regulators and policy- makers learn from OECD theoretical and practical experience to achieve efficient and competitive outcomes. ACCESS PRICING IN TELECOMMUNICATIONS – ISBN 92-64-10592-1 – © OECD 2004 3 TABLE OF CONTENTS Table of Contents Introduction. 7 Chapter 1. The Theory of Access Pricing. 21 1. Introduction . 22 2. One-way access pricing . 25 3. Two-way access pricing: interconnection of many competing networks with one central network . 49 4. Two-way access pricing: interconnection of two competing networks. 60 5. Conclusion . 64 Appendix to Chapter 1 . 65 Notes. 76 Chapter 2. The Practice of Access Pricing in Telecommunications . 79 1. Introduction . 80 2. Regulatory arbitrage and links between different access prices . 82 3. Call origination and termination for voice services. 101 4. Call origination for Internet services . 122 5. Local loop unbundling . 131 6. Call termination on mobile networks . 138 7. Conclusions . 146 Notes. 147 Appendix to Chapter 2 . 154 Chapter 3. Measurement of the Costs of Access Services . 161 1. Introduction . 162 2. The cost allocation problem . 162 3. Review of basic principles, depreciation and the regulatory asset base . 163 4. The historic cost and depreciated replacement cost approaches . 171 ACCESS PRICING IN TELECOMMUNICATIONS – ISBN 92-64-10592-1 – © OECD 2004 5 TABLE OF CONTENTS 5. Historic cost vs. replacement cost, optimisation and cost models . 175 6. The optimal path of earnings . 182 7. The effect of uncertainty . 188 8. Conclusion . 197 Appendix to Chapter 3 . 199 Notes. 208 Glossary of Terms . 213 References . 218 6 ACCESS PRICING IN TELECOMMUNICATIONS – ISBN 92-64-10592-1 – © OECD 2004 INTRODUCTION Introduction “It is hard to find a more controversial issue in industrial policy than that concerning the terms on which entrants can gain access to an incumbent firm’s network.”* As a result of the waves of deregulation of the past two decades, the regulation of the terms and conditions under which competing firms have access to essential inputs provided by rivals has become the single biggest issue facing regulators of public utility industries. This issue is both theoretically complex and inherently controversial. Since the development of competition and the success of liberalisation often depend on the access terms and conditions chosen, there is also a strong public policy interest in getting these terms and conditions “right”. At the same time, new entrant firms and incumbents often have a substantial financial stake in the outcome and therefore a strong interest in negotiating aggressively. This report, prepared by the Competition Committee of the OECD, seeks to deepen our understanding of access regulation in order to better understand the trade-offs that must be made, to enhance the quality of access regulation and to enhance the scope for competition in the competitive segments of regulated utility industries. This report focuses on the telecommunications industry but almost all the results have direct application in other public utility industries. The report consists of three parts. The first part is a survey of the theory of access pricing. This chapter identifies the basic types of access problems and some key principles to bring