This section of the module discusses:
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Key
trade-offs for regulators in determining their approach to regulating interconnection prices.
Interconnection Pricing Objectives
Access and interconnection prices have several possible, not necessarily compatible, goals.
In general, interconnection prices should promote economic efficiency. There are three forms of economic efficiency:
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Allocative efficiency requires that resources, products, and services are allocated to the person or persons who value them the most. For this to happen, consumers of final products or services (such telephone calls to other customers) should pay prices that reflect the cost of the resources used to provide those products or services
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Productive efficiency requires that market participants use scarce resources as productively as possible. This means that the most efficient provider should not be precluded from serving customers, and
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Dynamic efficiency requires that all firms (entrants and incumbents) should have proper incentives to invest in technologies that reduce costs and/or expand product offerings.
Some countries have additional objectives telecommunications, such as:
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Actively promoting competition, by making it easy for new entrants to obtain interconnection. This is sometimes takes the form of low interconnection prices, to encourage new entry
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Achieving universal service. Many jurisdictions have historically maintained charges for basic telephone services that are below cost. This is to encourage widespread subscribership. Recently, some countries have mandated high charges for call termination by wireless carriers. The aim is to keep charges to wireless subscribers low, in order to encourage rapid uptake of wireless services.
Interconnection Pricing Principles
There appears to be a general consensus that, where possible, interconnection prices should be based on the additional cost to the incumbent from providing interconnection services. However, it is difficult to strictly align prices with the cost of interconnection.
Broadly, three broad principles, or “pricing rules” are used to set interconnection prices:
A formal exposition of the retail minus approach is the Efficient Component Pricing Rule, ECPR:
Interconnection (Access) price = additional marginal cost of interconnection (access)
%20 (Retail price – marginal cost of retail)
The ECPR results in interconnection prices that are higher than incremental costs. ECPR prices incorporate the opportunity cost to the interconnection provider of customers lost to the entrant. This includes any contribution to shared and common costs and any foregone profits. For this reason, ECPR is controversial. Although it does encourage productive efficiency, it does not necessarily support the goal of allocative efficiency.
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Bill and keep. Bill and keep only applies to two-way interconnection. With “bill and keep” the calling party’s network retains whatever revenue it raises through retail usage charges. Neither the calling nor receiving parties’ networks pay each other — the interconnection charge is effectively zero. One advantage of a bill and keep policy is that it can be adopted quickly without the need to employ a cost analysis. This could be useful in the situation of a small, developing country needing an interim policy to facilitate interconnection between competitors while developing a policy based on cost analysis.
When the traffic exchanged between networks is roughly in balance, the net payments in either direction would be relatively small, approximating the result of a “bill and keep” regime. Accordingly, “bill and keep” has sometimes been limited to situations where such approximate traffic balance occurs, with positive payments to the terminating carrier when traffic is not reasonably balanced.
Specific pricing and charging considerations vary between one-way interconnection and two-way interconnection.
Pricing Principles for One-Way Interconnection
The pricing principles listed here derive from the general pricing principles above.
The interconnection price should give the interconnection seeker incentives to purchase interconnection from the upstream carrier where this is the least cost option (for the economy as a whole). For this, interconnection prices should not exceed the cost of providing interconnection.
If the interconnection provider is vertically integrated, and competes with the interconnection seeker, then the interconnection price should be set so that the most efficient downstream provider has a legitimate opportunity to compete successfully. (For example, the combination of interconnection and retail prices should not result in a vertical price squeeze.)
Economic theory suggests that access prices can be set to offset imperfections in retail price levels, for example by:
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Setting access prices higher (lower) than interconnection costs when retail prices are above (below) cost, or
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Setting access prices below cost in order to offset market power in the downstream market (where market power would otherwise lead to downstream prices that are above cost)
Pricing Principles for Two-Way Interconnection
There are several approaches to structuring interconnection payments for two-way interconnection:
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Calling party pays (CPP): The calling party, or the calling party’s network pays the network of the party receiving the call. CPP is commonly used for mobile services (including throughout Europe, South America, India, and Africa)
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Receiving party pays (RPP): The receiving party, or receiving party’s network, pays the calling party’s network for interconnection. RPP is less common than CPP, but is used in North America and Japan
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Bill and keep: Neither the calling nor receiving parties’ networks pays the other. In many two-way interconnection situations, this may be the best form of regulation once the full costs of regulation are taken into account. Bill and keep can reduce incentives to rely on arbitrage to maximize payments from other carriers, and is significantly less costly to implement than cost based interconnection pricing.
Models of two-way interconnection are very complex, and conclusions about how to charge for two-way interconnection tend to be model-specific. Which approach is optimal depends on a range of factors, including:
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Assumptions about the distribution of the benefits from the call between the calling party and the call recipient
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Whether or not traffic between the two interconnecting networks is approximately in balance
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Differences in costs between the two networks.
Trade-Offs in Regulating Interconnection Prices
Setting interconnection prices requires trade-offs between the complexity of pricing framework, its accuracy (how closely price tracks cost), and transaction costs for affected parties. Theoretically optimal prices vary significantly depending on the assumptions made in the economic model.
Governments and regulators need to be pragmatic about interconnection regulation for three reasons:
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The direct regulatory costs of a detailed forward-looking cost regime may be significant: operators may hire engineers, economists and lawyers to put forward their views; the regulator must have enough resources to assess competing claims about cost; and there may be costly dispute resolution processes
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As regimes increase in complexity, operators and potential entrants are more likely to focus on arbitrage opportunities than ways to offer consumers genuinely new services
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There is no guarantee that detailed cost estimation approaches will be accurate.
RELATED INFORMATION
Economic and Accounting Measures of Cost
Useful Economic Concepts
Forms of Interconnection
Long Run Incremental Cost Modelling