Fixed-Mobile Substitution and Lessons for Broadband

BOSTON CHICAGO DALLAS DENVER LOS ANGELES MENLO PARK MONTREAL NEW YORK SAN FRANCISCO WASHINGTON

Fixed-Mobile Substitution and Lessons for Broadband

Aniruddha (Andy) BanerjeeVice President, Analysis Group

Eighth ACCC Regulatory Conference The Evolution of Regulation

Gold Coast, Queensland, Australia

July 26-27, 2007

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AgendaAgendaAgendaAgenda

What is Fixed-Mobile Substitution (FMS)?

Trends in FMS

Substitution and Complementarity

The Enigmatic and Elusive Cross-Price Elasticity

Market Definition/Antitrust Policy Implications of FMS

FMS in a Broadband World

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What is Fixed-Mobile Substitution (FMS)?

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Background: Evolution of TelecommunicationsBackground: Evolution of TelecommunicationsBackground: Evolution of TelecommunicationsBackground: Evolution of Telecommunications

Before Now

Wireline Networks Wireless Networks

Television Broadcast and

Cable Networks

Wireline Networks

Internet Backbone

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Background: Evolution of TelecommunicationsBackground: Evolution of TelecommunicationsBackground: Evolution of TelecommunicationsBackground: Evolution of Telecommunications

Before Now

Fixed VoiceData

Video

Mobile Voice

Fixed Voice

Triple

PlayQuad

Play

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Telecom Competition: Tale of Two StrategiesTelecom Competition: Tale of Two StrategiesTelecom Competition: Tale of Two StrategiesTelecom Competition: Tale of Two Strategies

Fixed-Mobile Substitution (FMS)

Mobile Operator Strategy: Displace

MobileFixed

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Telecom Competition: Tale of Two StrategiesTelecom Competition: Tale of Two StrategiesTelecom Competition: Tale of Two StrategiesTelecom Competition: Tale of Two Strategies

Fixed-Mobile Convergence (FMC)

Fixed Operator Strategy: Integrate

MobileFixed

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Nature of Substitution in FMSNature of Substitution in FMSNature of Substitution in FMSNature of Substitution in FMS

Network access vs. usage (calls, minutes of use)

Price and non-price (lifestyle, mobility) drivers

Technological factors (leapfrogging)

Different types of economic substitution “Cut the cord” (ex post, access and usage)

strict usage substitution

“Straight to mobile” (ex ante, choice of service)

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Trends in FMS

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Fixed and Mobile GrowthFixed and Mobile GrowthFixed and Mobile GrowthFixed and Mobile Growth

Year Fixed Lines Mobile Subscribers

1990 negligible

1999 0.91 billion 0.41 billion



Source: ITU

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Fixed and Mobile Growth: ContrastsFixed and Mobile Growth: ContrastsFixed and Mobile Growth: ContrastsFixed and Mobile Growth: Contrasts

Year Fixed Lines Mobile Subscribers

Dec 2003 270 million 275 million

Mar 2007 416 million 689 million

CAGR 13.2% 28.8%

Year Fixed Lines Household Penetration Rate

2000 192 million 97.6%

2005 175 million 94.8%

Developing Country Example: China, India, Indonesia

Developed Country Example: United States

Source: Telegeography, FCC

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Evidence of FMS: Empirical ResearchEvidence of FMS: Empirical ResearchEvidence of FMS: Empirical ResearchEvidence of FMS: Empirical Research

Mixed evidence of substitution (FMS in access or usage) and complementarity

Complementarity findings Early years of mobile telephony Developed countries

Substitutability findings As mobile telephony has grown over time As cross-network externalities have diminished Developing countries, now in developed countries

Mobile is substitute for fixed long distance (usage) second fixed lines (network access)

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Substitution and Complementarity

The Enigmatic and Elusive Cross-Price Elasticity

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Three Questions About FMS “Evidence”Three Questions About FMS “Evidence”Three Questions About FMS “Evidence”Three Questions About FMS “Evidence”

Are FMS trends sufficient to draw conclusions about economic (relative price-based) substitution? state of intermodal competition?

Can econometric studies reliably determine whether fixed and mobile are substitutes or complements? remain so over time?

How should findings of FMS inform policymaking in voice-only context? triple or quadruple play context?

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Substitutes and Complements: Commonly Substitutes and Complements: Commonly Accepted DiagnosticAccepted DiagnosticSubstitutes and Complements: Commonly Substitutes and Complements: Commonly Accepted DiagnosticAccepted Diagnostic

Cross-price elasticity of demand between two goods X and Y

Percent change in demand of one given percent change in price of the other

Positive cross-price elasticity → substitute

Negative cross-price elasticity → complement

These statements are only true for Hicksian, not Marshallian, measures of the cross-price elasticity

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Problem of False Positives: Complements Could Problem of False Positives: Complements Could Actually be Substitutes!Actually be Substitutes!Problem of False Positives: Complements Could Problem of False Positives: Complements Could Actually be Substitutes!Actually be Substitutes!

Correlations of stocks can be misleading if fixed and mobile stocks both rise → complementarity?

Not necessarily in some circumstances rising incomes lead consumers to buy more of both with no change in relative

prices marketing campaigns boost first-time consumers of both fixed and mobile even

though existing consumers don’t switch strongly downward-trending prices for fixed and mobile create parallel surges in

demand total bill effect (when telecom demand is separable)

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Problem of False Positives: Complements Could Problem of False Positives: Complements Could Actually be Substitutes!Actually be Substitutes!Problem of False Positives: Complements Could Problem of False Positives: Complements Could Actually be Substitutes!Actually be Substitutes!

Fixed and mobile access are apparent complements in developed countries, even though usage may be

substitutes apparent substitutes in developing countries, even though usage may be

complements or unrelated

No natural experiment to permit reliable resolution of this problem

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The Cross-Price Elasticity ProblemThe Cross-Price Elasticity ProblemThe Cross-Price Elasticity ProblemThe Cross-Price Elasticity Problem

Notoriously hard to determine even in best of circumstances

Especially so (as in telecom) when prices remain stable over time (regulatory reasons) move in unison (competitive or technological reasons)

Only Hicksian (compensated) cross-price elasticities reveal “true” substitutes or complements, but harder to estimate

Marshallian (uncompensated) cross-price elasticities more commonly used, but can provide opposite inference from Hicksian elasticities

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The Cross-Price Elasticity ProblemThe Cross-Price Elasticity ProblemThe Cross-Price Elasticity ProblemThe Cross-Price Elasticity Problem

Only Hicksian cross-price effects are always symmetric; Marshallian cross-price effects need not be

Although Hicksian cross-price effects are symmetric, corresponding cross-price elasticities need not be

Marshallian cross-price elasticities may indicate “substitute” in one direction but “complement” in the other

Even when Hicksian and Marshallian cross-price elasticities agree in sign, they are usually different in magnitude

Because cross-price elasticities are asymmetric in magnitude, may be important to know in which direction the relationship (substitute or complement) is stronger

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Market Definition/Antitrust Policy Implications of FMS

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Three Impact AreasThree Impact AreasThree Impact AreasThree Impact Areas

Product market definition and granularity

Product market definition from the policymaker’s perspective story of intermodal competition

Complementarity of network access and usage demand in granular markets regulate or not regulate mobile termination charges?

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Product Market Definition and GranularityProduct Market Definition and GranularityProduct Market Definition and GranularityProduct Market Definition and Granularity

Telephony

Fixed Telephony Mobile Telephony

Mobile-to-Fixed Mobile-to-MobileFixed-to-Fixed Fixed-to-Mobile

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Market Definition: Policymaker’s PerspectiveMarket Definition: Policymaker’s PerspectiveMarket Definition: Policymaker’s PerspectiveMarket Definition: Policymaker’s Perspective

Policy issues: Relax/repeal regulation of incumbent fixed network?

Evidence of sufficient (intermodal) competition?

Who/what belongs in the relevant economic market?

Key indicator: Demand substitution, e.g., positive (and “healthy”) cross-price

elasticity

Market definition questions:

Single economic market for all voice? Separate markets for fixed voice, mobile voice?

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Case: AT&T Wireless/Cingular Merger 2004Case: AT&T Wireless/Cingular Merger 2004Case: AT&T Wireless/Cingular Merger 2004Case: AT&T Wireless/Cingular Merger 2004

FCC’s issue: Fixed voice belongs in market for mobile voice?

Mobile voice belongs in market for fixed voice?

BellSouth testimony in favor of merger: In 2004, no evidence that fixed voice constrains mobile voice pricing,

does not belong in mobile voice market

FCC’s decision: Agrees with BellSouth

limits relevant market to mobile voice providers only finds sufficient competition in that market approves merger

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Case: Deregulation of BellSouth’s Fixed Voice Case: Deregulation of BellSouth’s Fixed Voice Services 2004Services 2004Case: Deregulation of BellSouth’s Fixed Voice Case: Deregulation of BellSouth’s Fixed Voice Services 2004Services 2004

State regulator’s issue: Mobile voice belongs in market for fixed voice (intermodal

competition)?

BellSouth testimony in favor of deregulation: Strong evidence that

mobile voice constrains fixed voice pricing FMS mobile voice belongs in fixed voice market

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Case: Deregulation of BellSouth’s Fixed Voice Case: Deregulation of BellSouth’s Fixed Voice Services 2004Services 2004Case: Deregulation of BellSouth’s Fixed Voice Case: Deregulation of BellSouth’s Fixed Voice Services 2004Services 2004

CompTel/ASCENT testimony opposing deregulation: If fixed voice does not belong in mobile voice market (citing

BellSouth testimony in AT&T Wireless/Cingular merger), then opposite also true (argument of symmetry of cross-price elasticities)

Confusion of symmetry of cross-price effects with that of cross-price elasticities!

State regulator’s decision: Reject claim of symmetry and arguments based thereon

Favor direct evidence of substitution

Grant deregulation with conditions

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Access-Usage Complementarity: Regulation of Access-Usage Complementarity: Regulation of Mobile Termination Access MonopolyMobile Termination Access MonopolyAccess-Usage Complementarity: Regulation of Access-Usage Complementarity: Regulation of Mobile Termination Access MonopolyMobile Termination Access Monopoly

Problem: In Calling Party Pays (CPP) countries, unregulated mobile operators

enjoy termination access monopoly

High mobile termination charges (MTC), particularly detrimental for fixed-to-mobile (FTM) voice calling

Possible policy responses: Direct regulation of MTC

Receiving Party Pays (RPP)

Bill and keep

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Direct Regulation of MTCDirect Regulation of MTCDirect Regulation of MTCDirect Regulation of MTC

In favor: Regulators in many CPP

countries (UK, Japan, Australia, New Zealand)

Not much cross-network externalities left to lose, given high penetration rates

Pass-through of lowered MTC reduces cost of FTM calls Increases FTM call volume increases demand for mobile

subscribership (access-usage complementarity effect)

Effective with or without “waterbed effect”

Opposed: Many economists

High MTC enables subsidies to mobile network

access Increases mobile subscribership Generates greater FTM calling

(access-usage complementarity in opposite direction)

What if lowered MTC are not passed through into retail FTM calling prices?

“Waterbed effect”exists MTC profits competed away Unsubsidized access may

suppress mobile subscribership

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Can it be effective? Clearly, an empirical issue

Access-usage complementarity Cross-price elasticity between demand for FTM calling and demand for mobile

network access Does complementarity exist in both directions (symmetric in sign)? How strong is the complementarity (symmetric in magnitude)?

Can pass-through of reduced MTC into retail FTM price be assured and monitored?

What are the indirect costs of regulation and monitoring relative to bill and keep?

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Can be shown that the following matter: Own-price elasticity of demand for mobile network access

Cross-price elasticity of demand for FTM calling with respect to MTC (which affects FTM price)

Number of mobile subscribers (network externalities)

Volume of FTM calls (call externalities)

Effective price (net of subsidy) of mobile network access

Profit margin from mobile network access (can be negative if subsidized))

Profit margin from terminating FTM calls (can be zero if MTC set at cost)

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FMS in a Broadband World

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Broadband AccessBroadband AccessBroadband AccessBroadband Access

High-speed, packet-based access to voice, data, video services

Definitions (based on speed of access) vary

Broadband delivered over fixed (wireline, cable, powerline), mobile, and satellite systems

Source of definition Access speedFCC 200+ kbps

OECD 256 kbps downstream

ITU 1.5-2 Mbps

Japan, Korea 8+ Mbps

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Broadband Technologies: ExamplesBroadband Technologies: ExamplesBroadband Technologies: ExamplesBroadband Technologies: Examples

Fixed Systems DSL

Cable modem

Power line

Fiber (FTTH/FTTP)

Mobile Systems Fixed wireless

(LMDS)

Wi-Fi (UMA)

Wi-Max

HSDPA (3G+ successor to GSM)

EV-DO (3G successor to CDMA)

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FMS in BroadbandFMS in BroadbandFMS in BroadbandFMS in Broadband

Important developments IP-based service provision

Need for higher-bandwidth access networks

Fixed systems VDSL GPON (control and intelligence shifts to edges of network)

Mobile systems Wi-Fi (WLAN) and fixed and mobile WiMax Picocells (enterprise customers) and femtocells (SOHO)

Consequence: New substitution opportunities fixed vs. fixed wireless fixed vs. mobile fixed wireless vs. mobile

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FMS in Broadband: Policy ImplicationsFMS in Broadband: Policy ImplicationsFMS in Broadband: Policy ImplicationsFMS in Broadband: Policy Implications

Service definition Electronic communication (triple or quadruple play) vs. voice, data, or

video individually Imperfect, but close, substitutes develop under the service level (e.g., voice,

email, text messaging, social networks)

Impetus for deregulation or regulatory re-direction? Competition based on access rather than service (commoditized)

Consumers have greater access/service options and control

Terminating access monopoly in CPP countries dissipates

Network externalities resurgent as consumers become originators and storers of content

Danger that continuing ex ante regulation can pick winners and losers among technology platforms

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Contact InformationContact InformationContact InformationContact Information

Aniruddha (Andy) Banerjee, Ph.D.

Vice President, Analysis Group, Inc.

111 Huntington Avenue, 10th FloorBoston, MA 02199, USA

Tel: +1 617 425 8222Fax: +1 617 425 8001

[email protected]

Documents

Fixed-Mobile Substitution and Lessons for Broadband