Access, Call Origination and Voice Call Termination in ... - CiteSeerX

Access, Call Origination and Voice Call Termination in Mobile Networks A comparison of approaches and consequences arising from the new regulatory framework (*) Martin LUNDBORG & Ernst-Olav RUHLE Piepenbrock - Schuster Consulting AG, Düsseldorf and Vienna Fabian SCHUSTER Piepenbrock - Schuster Attorneys at law, Düsseldorf and Vienna

Abstract: The new European regulatory framework has now entered the implementation phase in the majority of member states. This paper looks at the different approaches taken by the EU member states that have signalled the measures they have taken to-date regarding two markets of special interest. These are markets no. 15 and 16 of the EU commission's recommendation on relevant product and services markets, namely access and call origination on public mobile telephone networks and voice call termination on individual mobile networks. This paper sheds some light on the analysis undertaken so far by national regulatory authorities in member states and compares the findings with respect to the competitive situation and existence of significant market power in individual states, and proposes potential solutions. The last section contains our suggestions for a possible approach focusing on some of the key parameters for a fair regulatory model for mobile termination, which accounts for cost orientation, but also looks at the various market positions of operators that may influence whether reciprocal or non-reciprocal termination rates are feasible. Key words: Regulation, mobile termination rates, LRIC, fixed-mobile substitution.

M

obile telephony has become increasingly important since its introduction to the market some 15 years ago. Since the very beginning the relationship between mobile and fixed telephony was tainted and, from a regulatory standpoint, strained. Today fixed network operators complain that that access to mobile networks is strictly limited and call origination (e.g. for carrier (pre)selection) is impossible. Even more importantly, fixed operators feel that they have to subsidize their own

(*) An earlier version of this paper was presented at the EURO CPR Conference, Potsdam (Germany), 13-15 March 2005.

COMMUNICATIONS & STRATEGIES, no. 58, 2nd quarter 2005, p. 117.

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downfall by paying termination rates to the mobile network operators ("MNO") that are tenfold higher than termination on fixed networks 1. These and other issues (such as the positive cash flow of MNOs) raises questions regarding significant market power, competition problems and possible regulatory solutions. The new regulatory framework (EU guidelines, directives and the recommendation of the European Commission on relevant product and service markets) must be considered in the application of remedies to mobile markets by NRAs. In February 2003, the commission adopted the recommendation on the relevant product and service markets within the communications sector susceptible to ex-ante regulation in accordance with the framework directive 2. Due to the stipulation in the framework directive, the market review process consists of two parts, starting with market definition and identification and followed by market analysis. In case the NRA considers an operator to have significant market power (SMP), corrective action has to be taken with respect to this market player. When such an operator has been declared as having SMP in a specific market, the NRA must impose certain obligations as set out in articles 9 to 13 of the access directive.

Competitive development and status Mobile termination markets look pretty different. The market definition in the EU-recommendation is very clear by talking about termination in individual mobile markets. This implies that when technological alternatives are not available, for example, that termination to a certain customer can only take place via the network of a specific mobile network operator and thus a monopoly by definition exists. Mobile network operators have profited from this by charging termination rates that are generally considered expensive and which by now have not been verified with respect to their cost orientation (in most EU countries). Due to the characteristics of mobile termination markets 3, competition has not been able to develop in this

1 For calculations see FREUND & RUHLE (2002). 2 COM (2003), p. 497. 3 See RTR "Ermittlung der Kosten der effizienten Leistungsbereitstellung für Terminierung in Mobilfunknetzen“, and the decisions regarding the market(s) for mobile termination in individual networks including remedies, all to be found at: www.rtr.at.

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area. Discussion of the negative effects of this situation has intensified over the last year (VALLETTI, 2003; KRUSE, 2004, 2003; WEIZSCÄKER, 2003). This has also escalated conflicts between fixed network and mobile operators. Mobile network operators argue that competition needs to be looked at from the perspective of the end user, who has the option of selecting one of the available networks and thereby takes a pre-decision in a competitive environment regarding termination. Fixed network operators, on the other hand, complain that mobile network operators are intensively trying to move traffic flows from fixed to mobile networks by cross-subsidising their retail tariffs from high incoming termination revenues, thereby hampering and distorting competition. Mobile operators reply that the fixed to mobile termination trend is not an effect of distorted competition, but stems instead from the fact that "mobility" is a value in itself and thus the product is not comparable and due to the higher value the mobile telephony product generates, the customer is also willing to pay a higher price. Even before the introduction of the new regulatory regime in the EU, mobile termination was under critical assessment by national regulators in a number of countries. Regulatory involvement has also been seen in some states. However, the spread of mobile termination rates and tariffing concepts differ largely in EU countries and quite diverse regulatory approaches have been adopted not only in the EU-25 group, but also in the EU-15 group. In the past, some mobile operators were designated as SMP in the interconnection market and the retail market. Due to the introduction of the new regulatory regime, this designation is undergoing significant change. Section 3 shows how far national regulatory authorities have come in analysing markets no. 15 and 16, designating whether effective competition or SMP exist and introducing remedies for certain mobile network operators. There is a tendency to designate mobile network operators as SMP carriers for mobile termination. All of the states that have completed the market analysis to-date have also come to the conclusion that regulation of mobile termination rates with cost control mechanisms is necessary (with the exception of some "pure UMTS operators" where this was not deemed to be necessary, and only a transparency obligation was levied). Some observers note that such decisions could have a negative effect on competition, especially as late market entrants (mobile operators with small market shares) are still dependent on today's high termination rates and thus a significant reduction in their termination rates, to the level of LRIC for example, could cause them major commercial problems, even resulting in

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their market exit. As a result, most countries are carefully evaluating what they can demand from mobile network operators with respect to the further development of termination rates.

Summary of the notifications of markets 15 and 16 According to the new regulatory framework, NRAs throughout the EU have to carry out market analysis of market number 15 (access and call origination on mobile networks) and number 16 (call termination on individual mobile networks). The results of the market analysis to-date and the main criteria used in these analyses have been examined by the authors. Comments by the European Commission regarding these notifications have also been analysed. The documentation in tables is extensive and had to be excluded from this publication. It can be requested directly from the authors. The bullet points summarise the main comments of the EU commission on notifications 4: • Remedies must be specified in greater detail, especially with regard to termination rates. • Accounting separation is an effective complement to tariff regulation and other remedies. • Non-Reciprocal Tariffs and remedies and their implications have to be monitored in detail by NRAs. • In market 15, a 60 % market share held by one operator is not enough to designate it as having SMP. In the graph below, the notifications in the different EU countries listed are summarised. As of April 2005 notification had taken place in only 10 member states regarding market number 16 and only 5 countries regarding market number 15. In market number 16, the outcome has been very clear so far, and all NRAs have notified all mobile operators as having SMP. This is in line with the definition of market 16: "call termination on individual mobile networks."

4 The Notifications and the comments by the EU Commission are all taken from the Homepage of the EU Commission for notifications: http://forum.europa.eu.int/Public/irc/infso/ecctf/library?l=/&vm=detailed&sb=Title

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The outcome in market number 15, on the contrary, has been very ambivalent. Out of the 5 member states, 3 NRAs haven't notified any operator as having SMP and 2 NRAs have notified the largest operator(s) as enjoying SMP.

Number of countries

Figure 1 - Summary of market analysis

12 10 8 6 4 2 0

10

10

5 3

2 0

Market 15

0

0

Market 16

Number of Countries with notification No. of countries with no SMP identified No. of countries with SMP identified for less than all operators No. of countries with all operators designated as having SMP

In addition to this graph, it is important to consider the fact that the remedies imposed vary from country to country. Wery small MNOs and the late entrants in particular are treated with additional care in many member states, being subject to fewer respectively lighter obligations. In Finland, for example, all operators are designated as having SMP, although, unlike other MNOs, Alands Mobiltelefon isn't obliged to offer cost oriented prices. In Sweden, the three "old" / incumbent MNOs, which started their operations in the early 1990s, are obliged to offer cost-oriented prices, while younger operators have to offer only fair and reasonable prices. The next graph shows which remedies have been chosen in the member states. In market number 15, only two countries have notified remedies at all. One of these, Finland, withdrew all remedies after the European Commission vetoed the Finnish notification. Based on one or two member states, the conclusions are hardly significant. However, it is interesting that of the two countries, only one has decided to impose the obligation to offer cost oriented pricing. Obligation to offer cost-oriented pricing is to be seen as a serious intervention in MNOs' operations, and in market number 15, meaning that NRAs will need strong arguments to impose this remedy.

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Overall it can be said that the outcome of the 20 market analyses regarding market number 15 still to come will be very hard to foresee and that conclusions at this stage are hardly representative for all member states and their respective markets. Figure 2 - Remedy overview - market number 15

Cost accounting obligations

1

Account separation

1

Cost-orientation

1

Non-discrimination

2

Network access obligation / Interconnection obligation

2

0

1

2

3

Number of countries

The remedies imposed in market number 16 are based on market analyses from ten different countries or over a third of all member states. It is consequently easier to draw conclusions about the general views of NRAs and the outcomes of their market analyses. It is very interesting that all NRAs have designated all operators as having SMP, and also that all NRAs have decided to implement cost oriented pricing so far. The overall view of the remedies imposed are, that competition in market number 16 is weak or non-existing. Otherwise, NRAs would not have come to the conclusions that they have drawn. This view seems to be shared by the EU Commission, since it has generally commented upon these decisions very positively.

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Figure 3 - Remedy overview - Market Number 16

Obligation of transparancy

8

Obligation to publish a reference interconnection offer

5

Cost accounting obligations

6

Account separation

7

Cost-orientation

10

Non-discrimination

10

Netw ork access obligation / Interconnection obligation

10 4

5

6

7

8

9

10

11

12

Number of countries

Conclusions regarding the market analyses notified so far The situation in market number 16 seems far from competitive and obligations appear necessary and justified according to the new regulatory framework. Not only is the number of NRAs deciding to designate SMP convincingly high, but the obligations chosen for implementation also indicate serious problems regarding the competitive situation. All NRAs have decided in favour of obliging cost-oriented pricing, which for the operators concerned is to be seen as the most intrusive remedy. In most countries the smallest operators and/or the new entrants are excluded from the obligation of offering cost-oriented prices. The very consequent selection of remedies for termination markets might as well be an expression of the intention to solve regulatory problems adequately and with a preference for the wholesale side of the market. It remains to be seen whether this measure goes far enough in the majority of the member states, since regulation of mobile termination markets is rather new.

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Tariff Regulation and cost control for termination services In the previous section, we examined the market analyses and notifications from NRAs regarding markets number 15 and 16. We discoverd that call termination in individual mobile networks and cost oriented pricing obligations are necessary and justified in market number 16. In this section we analyse how cost orientation can be implemented. To this end, we describe implementation in Austria, Sweden, United Kingdom, Hungary, France and Portugal, because these countries exemplify different ways of implementing a price control mechanism.

Austria In Austria, all operators have been obliged to offer cost oriented mobile termination charges. A consultation ended on December 15th 2004 and the final paper was published on March 9th 2005. A glide path is proposed according to the following formula: MTRt = max(LRAIC; MTRt-1 – A), where A = (0,138 € - LRAIC)/13 for the four biggest MNO and A = (0,1962 € - LRAIC)/12 for the new Entrant H3G MTRt-1 = The Mobile termination Rate currently used MTRt = The Mobile Termination Rate to approve LRAIC = The LRAIC for the most efficient operator According to this formula, the MTR are reduced according to a linear gradient with equal steps in Euros until 2011 starting from November 2005. An exception is made for tele.ring, which should reduce its MTR volontarily from April 1st 2005. It is therefore obliged to reduce tariffs according to the glida path from January 2006. It is also interesting to note that the new entrant H3G will have to reduce its tariffs on the July 1st 2006 for the first time in the Austrian model. The reason for this is that H3G should be entitled to a grace period of 3 years because this has also been granted to some of the other Austrian MNOs in the past. As H3G started its commercial operation in the second half of 2003, the middle of 2006 would be approximately three years later, but 6.5 years after the licence was awarded.

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However, the concrete tariffs will not be decided upon by the consultation, but in bi- or multilateral disputes in case the mobile operators should not agree. Such disputes have recently been started, but do not yet involve all MNOs yet. The development of the MTR as proposed by the Austrian NRA is displayed in the diagram below: Figure 4 - MTR development in Austria as suggested by NRA 0,2500

Mobilkom

T-Mobile

Tele.ring

One

H3G

0,2000

Euro

0,1500

0,1000

0,0500

0,0000 Jan 05

Jan 06

Jan 07

Jan 08

Jan 09

Jan 10

Jan 11

Jan 12

Sweden In Sweden, a historic cost accounting model was used before the new regulatory framework was implemented. This model was to be replaced by an LRAIC-Model. For this purpose a cost model, mainly modelling the costs bottom-up, was created. The outcome of this model was significantly lower costs than calculated under the old regime. The Swedish NRA considered the implementation of the calculated LRAIC for all operators at once to be too harsh. To spare the MNOs from disruptive effects, only the three largest operators (TeliaSonera, Tele2, Vodafone) are obliged to offer cost oriented tariffs. The other operators (Telenor, Hi3G) must offer "fair and reasonable" prices. Furthermore, to avoid disruptive effects, a glide path has been implemented that spares MNOs. According to this glide path, MNOs are obliged to offer cost-oriented prices from the middle of July 2007. Prior to that, they will have to reduce their MTRs annually in four equal steps. The

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first reduction is to a level calculated as 75% of the start tariff (set as the end of 2004) and 25% of LRIC. The second step is calculated as 50% of the start rate and 50% of LRIC, the third step as 25% of the start rate and 75% of LRIC and the last step as 100% of LRIC. Tariffs in mid-2007 consequently equal SEK 0.51 or EUR 0.056 5.

United Kingdom In the U.K., the regulation of mobile termination rates was already implemented under the old regulatory framework. During 2003, the NRA (Oftel) carried out market analysis of MTRs according to article 7 for 2004/2005 and published its statement in June 2004 6. OFCOM decided to discontinue the glide path using the price cap formula (RPI-x), which was in effect. Instead, it decided that the MTR should be cost oriented from the period 2005/2006, with an intermediate step for the period of September 1st 2004 to March 31st 2005. Regulatory costs in the UK are calculated using an LRIC model with two different surcharges, one for EPMU (EquiProportionate Mark-up - for the recovery of network and non-network costs) and one for network externalities. In the UK there is also a surcharge for 1800 MHz operators. As the NRA writes, there is probably no difference in current costs between the networks, since all operators have captured about ¼ of the market. The current subscriber base of MNOs in the UK is so high that 900/1800 MHz operators have had to build as many base stations as 1800 MHz operators. The reason for the surcharge lies in the past when penetration rates were lower and 1800 MHz operators had to build more base stations in order to achieve the same coverage. Since costs are calculated as LRIC with economic depreciations, it isn't the current costs that count, but the lifetime costs. The LRIC for 1800 MHz operators is consequently higher than for 900/1800 MHz operators because of past costs that still are incurred and weighted according to usage.

5 PTS decision 06.07.2004. 6 For the decision on the MTR in the UK see Oftel “Explanatory Statement and Notification” from 2003-19-12, the Ofcom Statement from 2004-06-01 and the notifications under UK 2003/040 and UK 2004/087 (see footnote 7).

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Including surcharges and mark-ups, 900/1800 MHz MNOs (Vodafone, O2) are allowed to charge 5.63 pence (Euro cents 8.24) per minute from April 1st 2005 and the 1800 MHz MNOs (T-Mobile, Orange) are allowed to charge 6.31 pence (Euro cents 9.24) per minute. It is interesting to note that the tariffs for termination on 3G networks in the UK are excluded from tariff regulation. Oftel considers 2G and 3G termination provided by an individual mobile network to be in the same market. However, ithe regulator considers it inappropriate to regulate 3G services on an ex-ante basis. The reasons for this are that this technology is new and innovative, the take-up of 3G services is uncertain and it is difficult to assess the costs of such a new technology. In response to this view the EU Commission commented that it is important for Oftel (OFCOM) to follow development in order to examine whether the MTR for 3G are excessive or not. Hence, the use of a transparency obligation is required. Oftel also excludes Inquam, since this network is very small and mostly serves closed user groups and the termination call volumes from other networks is therefore very limited. Moreover, Inquam customers are business customers, who are regarded to be more cost sensitive than their customers who have to pay to call them.

Hungary In Hungary all three MNOs were found to have SMP and obliged to offer cost oriented MTR in market number 16. According to the notification, MNOs were requested to submit cost information within 60 days (by the end of January 2005) to the NRA, which should sunsequently approve whether the MTR are cost oriented or not. This approval will be awarded by calculating the costs based on an LRIC-Model 7. The method chosen by the Hungarian NRA to transform LRIC cost calculations into the real life MTRs is of particular interest. Hence, the NRA enables MNOs to have MTRs that deviate from the LRIC:

7

See case HU/2004/0101 published on the European Commission homepage: http://forum.europa.eu.int/Public/irc/infso/ecctf/library?l=/uk&vm=detailed&sb=Title.

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128 Figure 5 - MTR regulation in Hungary

8

Obligation of transparancy Obligation to publish a reference interconnection offer

5 6

Cost accounting obligations

7

Account separation Cost-orientation

10

Non-discrimination

10

Netw ork access obligation / Interconnection obligation

10 4

5

6

7

8

9

10

11

12

Number of countries

France In France, the NRA has regulated mobile termination rates since 1999. In 2001, it imposed a glide path over three years and thereby reduced tariffs by about 37%. With market analysis and notifications of market number 16, the ART is just continuing its former policy to reduce MTR using a glide path. The ART has decided upon reductions for the next three years (see p. 129, Figure 6). The reason why Bouygues is allowed to have higher MTR than its competitors given by the ART is that Bouygues is a smaller operator, which doesn't benefit as much from economies of scale as other MNOs.

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Figure 6 - MTR glide path in France

0,20 Bouygues 0,1789

0,18

Euro per Minute

-17,3% 0,16 0,14

SFR Orange

0,1494 0,1494 -16,3%

0,12 0,10 0,08

0,1479

-24%

0,125 0,125 0,1124

Orange France

-24%

SFR

0,095 0,095

Bouygues 2004

2005

2006

Portugal In Portugal, all three mobile operators have been notified as having SMP. The implementation of the cost calculation remedy is interesting in Portugal. Anacom plans to take a decision over the MTR in the near future. It nevertheless proposes interim measures to reduce the MTR to the reciprocal level from October 2006. This is going to be done through a glide path starting from current prices and ending at a level of EUR 0.11 per minute for all operators. The following glide path has been decided upon as an interim solution for the MTR in Portugal:

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130 Figure 7 - MTR glide path in Portugal

Euro per Minute

0,33 0,28 0,23 0,18

0,278 0,187 0,185

0,13

0,205 0,140

0,195 0,135

0,182

0,170

0,130 0,125

0,150 0,120

0,08 Current price

March 05

0,130 0,115

0,110

July 05 October January April 06 July 06 October 05 06 06 Fixed-mobile call termination TMN / Vodafone Fixed-mobile call termination Optimus Mobile-mobile call termination

Key decisions to be made by NRAs As the six different cases above (Austria, Sweden, U.K., France, Portugal and Hungary) show, NRAs have the following key decisions to make when tariff and cost controls are implemented: • Reciprocal remedies: Are the same remedies to be imposed on all MNOs or are different remedies for the various MNOs preferable? Is it justifiable to exclude the smallest MNO or new-entrants from the most effective remedies like LRIC-oriented MTRs? • Reciprocal MTR: Is one MTR for all MNOs with SMP to be implemented, or is it fairer and more justifiable that each MNO has its own MTR? • Implementation process: Does the market situation demand incremental adjustments of the MTR along a glide path or is it better to implement LRIC-oriented MTR in one step in order to improve consumer surplus and thereby maximise welfare? To make these decisions, NRAs have to consider the specific situation in their respective national markets. A discussion of the pros and cons follows below.

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The MTR must be cost-oriented while enabling long-term competition The difficulty for NRAs making decisions regarding reciprocity is to draw conclusions from the definite pros and cons of any decision. There can be several reasons for deciding against reciprocity: Asymmetric frequency allocation: In many countries, there is asymmetrical frequency allocation (some MNOs with 900 and 1800 MHz and some with only 1800 MHz frequencies) among MNOs, for example in the UK Germany and Italy. In the UK the NRA concludes that there are disadvantages for 1800 MHz MNOs, but only during the first years of operation and not in the long run. "At the current traffic levels of MNOs, both types of operators employ a similar amount of network equipment and so have similar costs. […] Under economic depreciation cost recovery is deferred from earlier years, in which utilisation was lower, to later years, in which higher levels of utilisation are experienced. This effect is more pronounced for 1800 MHz networks because the characteristics of their spectrum imply that such operators have a smaller maximum cell radius…" 8 [The accentuation is only here]

As the British NRA writes, the disadvantages of 1800 MHz networks lie in the earlier years when call volumes are relatively small and cell capacity hasn't reached its maximum level. This also leads us to the next disadvantage of reciprocity, namely the life-time fairness requirement. The problem with asymmetric alloation can be neutralised with remedies (in market number 15, for example). If 1800 MHz operators get access to the networks of 900 MHz operators, they can use national roaming to compensate for their disadvantages in remote areas. However, this is only possible when 1800 MHz operators don't already have broad coverage themselves (see O2 in Germany) Life-time fairness and equal treatment requirement Although not one of the aims of the new regulatory framework, all private enterprises must still be treated equally in any constitutional state. It is also necessary for all MNOs to have comparable/equal opportunities to achieve

8 Oftel „Wholesale Mobile Voice Call Termination – proposals for the identification and analysis of markets, determination of market power and setting of SMP conditions“, published 2003-1219, p. 278.

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the aim of a competitive market in the long run. It is therefore necessary for the NRA to consider not only the current LRIC, but also past regulations. This may prove difficult due to changes in the regulatory framework, which mean that many NRAs are changing their regulatory policies. It is also important to consider other factors such as past tariff regulation and incumbent spin-off effects because operators like Mobilkom Austria or Telenor could build up their networks financed through monopoly profit, leading to an advantageous financial situation. Disruptive effects Another reason to not impose reciprocal MTR is that if current MTRs differ a lot within the same country, the implementation of reciprocity brings very extensive reductions for one or a couple of MNOs that have very high current MTR. In Austria, for instance, tele.ring had a MTR of EUR cent 19.62 at the beginning of 2004, while Mobilcom had a MTR of Eur cent 10.86. If reciprocal MTR had been implemented at that point in time without Mobilcom increasing their MTR, tele.ring would have had to reduce its tariffs by 45%. It is questionable whather tele.ring could have survived such reductions in the MTR, since, a reduction in the MTR normally has to be compensated for elsewhere, i.e. on the retail side, and this takes time as it implies a change of the business model. The outcome of overly rapid and harsh reductions in the MTR can therefore cause MNOs huge losses, with a market exit as possible outcome. In some cases reciprocity could consequently contradict the aims of the regulatory framework, since it can prevent instead of fostering effective long-term competition. Compensation for newcomers and niche operators At first, sustainable competition in the mobile markets can in some countries only be achieved if new MNOs enter the market. In this case, newcomers must be treated with extra care in the short-term, so that they can be compensated for missing first-mover advantages. It is also conceivable that innovators and niche operators bring more welfare in the long run, because they attract new customer groups, leading to higher penetration rates. In spite of all these factors, there are many advantages to reciprocal remedies and tariff regulation. The advantages are manifold and substantial:

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Increased tariff transparency For end customers, reciprocity increases transparency, since the number of different tariffs in the retail markets can be reduced. Since transparency leads to well-informed consumers, which is one of the conditions for perfect competition 9, non-reciprocity can possibly harm competition in the market. Additionally, when end consumers are less informed and there is a limited number of operators, collusion can easily occur, because cheating (noncolluding) operators can't compensate by increasing revenues because consumers don't react (i.e. the end consumers do not react when MTRs are reduced by one operator because they're not informed). Whether this argument holds true in the end is a matter of empirical analysis. On the one hand, one could argue that it only will take effect if the calling party always has to pay an equal tariff to mobile networks, which is by no means the case even in countries with reciprocal termination rates. In many countries end user prices for calls to mobiles differ despite reciprocal termination rates. On the other hand, end users are now used to tariff differentiation. In the fixed network where termination rates are mostly reciprocal or at least do not differ as extensively as in mobile markets, customers have become accustomed to a variety of different tariffs, even including packages, bundles and optional tariffs. Thus transparency might be an advantage, but this is not completely certain and still has not been confirmed by empirical surveys. Cost reductions in billing and carrier management Since it is easier for operators to handle fewer tariffs from a billing perspective, costs are reduced for the billing systems and for carrier management. Increased welfare due to cost oriented tariffs Generally, reciprocal tariffs cut costs for consumers, because the cheapest network/s is/are used for all terminated calls. When the lower average tariffs are passed on to retail tariffs, the consumers pay less for each call and react with longer calls and more calls to mobile phones. The result is more value for less money. On the other hand, operators can compensate for lower MTR through higher call volumes. Hence, if reciprocal MTR are imposed, all calls are terminated on efficient networks at efficient costs, which maximises welfare.

9 www.mikrooekonomie.de

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Out of these pro and contra arguments regarding reciprocity, NRAs have to examine the markets and impose tariff regulation aimed at cost orientation, but which still enables several operators to stay in the market. Effective competition can only be established if enough MNOs are active. With too few operators, the collusion risk is immense, there is no competition to foster innovation and the incentives to reduce costs are limited. On the other hand, higher MTRs for some operators carry the risk that possible inefficiencies at these MNOs are maintained and transparency is reduced, leading to less informed consumers and thereby reduced competition. There is also the problem that end consumers pay more for termination services than necessary in an efficient setting and that optimal market equilibrium is not achieved, which also leads to welfare losses. NRAs will consequently have to decide on a case-by-case basis in order to make the right decisions. NRAs must avoid a situation whereby one or more MNOs are forced out of the market. This can be achieved through a differentiated analysis allowing for non-reciprocity when necessary.

Remedy implementation must consider all national interests and avoid disruptive effects The question that NRAs face when they discover a substantial difference between the current MTR and the LRIC, which is the case in several EU member states, is whether the implementation should be made incrementally or all at once. One conclusion to be drawn from the case studies above is that glide paths are preferable to break the MTR down into incremental steps. One reason is that current MTR are well above the LRIC, and that an instant introduction of LRIC oriented prices could have disruptive side-effects. There is, however, an obvious reason for rapid, rather than incremental implementation, namely that excessive MTR causes welfare losses. Excessive MTR leads to the following diseconomies 10: - distorttion of competition between fixed and mobile networks, - distortion of prices among various mobile services, - creation of economic welfare losses, - redistribution of expenditure among various customer groups,

10 BOMSEL et al, p. 66.

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- distortion of relative competitive and growth opportunities of different business entities. In their study Bomsel et al focus inter alia on the impact on the distortion between fixed and mobile operators. When the MTR are unregulated and hence very high, while termination rates in fixed networks are regulated on a cost-oriented level, a distortion between fixed and mobile networks occurs. Bomsel et al have calculated the financial flow from fixed to mobile networks conducting a transfer of between EUR 4.81 billion in the UK, around EUR 6.5 billion in Germany and EUR 7 billion in France 11. Through these transfers from fixed to mobile network operators, fixed operators finance their own competition. Through excessive pricing, the MNO can subsidise other business activities, mostly on the retail side. The substitution has also been found by others such as the German NRA. It observes a decline in the switched minutes in fixed networks, especially for local calls, and a parallel increase in switched mobile call minutes 12. Therefore, in order to not harm fixed networks operators through asymmetric tariff regulation between mobile and fixed markets, it is important that the mobile tariffs are reduced to a cost-oriented level as quickly as possible. Another reason to reduce the MTR as quickly as possible is that the market volume effect compensates for the negative disruptive effects of such reductions, so MNOs don't necessary loose revenue from such price reductions. When consumers have to pay less for termination services, they tend to make longer and more regular calls. This volume effect is hard to forecast as it depends on the price elasticity of consumers and thus varies from country to country. If price elasticity is very high, the MNO can even profit from a price reduction. This view is shared by Bomsel et al, although it has not been quantified 13.

11 BOMSEL et al, p. 51. 12 RegTP “Tätigkeitsbericht 2002/2003“, pp. 16-17 and 42. 13 BOMSEL et al, p. 52 and p. 54.

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Conclusion/Suggestions We have shown that market number 16 (call termination in mobile networks) has to be regulated and that tariff regulation is necessary. We then described six different types of implementation in EU member states. The following conclusions can be drawn from these cases: • By implementing remedies for tariff regulation, NRAs will have to make three key decisions regarding (1) reciprocal remedies, (2) reciprocal tariffs, (3) implementation (glide paths?) • Since the best decision for NRAs depends very much on the current situation in their domestic market, tariff regulation on a cost-oriented basis will differ from country to country and evolve over time. • There are many reasons to impose non-reciprocal MTR in forthcoming years, especially in countries with few MNOs or markets with small and innovative MNOs. Due to the excessive current MTRs in many member states, a glide path will be necessary to prevent market exits and thereby safeguard future competition. The most difficult issue when regulating mobile wholesale markets is the decision regarding mobile termination rates. One central aspect is the fact that mobile incumbent operators have experienced relatively high rates in an unregulated environment for a long time. On the other hand, new operators are still trying to establish themselves in the market, having invested heavily in network rollout, and will need to secure higher termination rates for a certain period of time to balance their investments and achieve a sustainable commercial position. Therefore non-reciprocal termination rates (and remedies) are favourable. However, higher termination rates for late entrants need to be justified economically. Such tariffs should consequently only be accepted by the regulator if they reflect the long-term average incremental costs of these operators (if the incumbent operators are regulated according to the same standard). One idea to solve this problem could be to regulate all operators respectively: the late entrants according to the standard of enhanced long term average incremental costs (E-LRIC). This approach is based on the determination of mobile termination rates by establishing the efficient service provision costs of the largest mobile network operators according to their FLLRAIC and adding individual (per operator) surcharges for the other mobile

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network operators, whereby these surcharges have to conform with competitive development. These surcharges can be motivated by the reasons discussed above, such as preventing smaller and disadvantaged operators from exiting the market. As we discussed above, such market exits would harm long-term competition since there aren't enough operators in most countries to prevent oligopoly. The goal of the E-LRIC approach is to reduce differences in termination rates over time, which could, in the end, lead to reciprocal rates, although this is not necessarily the case 14. When an E-LRIC model is implemented, operator specific cost drivers and surcharges should be considered, including: • Different market shares, customer numbers and traffic volumes (assuming an equal network rollout and equal obligations to cover certain percentages of the population): If the costs (FL-LRAIC) for the market leader are calculated based on its current market positions, then it is also possible to calculate its costs if it had a different market share and different traffic volumes like those of its competitors. To achieve this, it is possible to conduct a linear regression using the ordinary least square method to calculate the costs of termination with respect to different traffic volumes. The FL-LRAIC could consequently be "simulated" for any operator dependent on market shares and/or other determinants. • Different network costs of GSM 900 and the GSM 1800 technology. Cost differences can also be derived from a cost model in this case. • Producer and consumer surplus: In the past, mobile operators have had different termination rates and different subscriber bases. Taking account of the cost situation at different points in time, it is possible to calculate the consumer and producer surplus over time. The situation for different operators might look very different and could also form an element in the calculation of a potential surcharge. This is an especially important aspect, if tariff regulation and the regulatory treatment of MNOs has been very diverse in the past. • UMTS network costs: If GSM and UMTS termination rates are regulated using the same approach and at the same time, UMTS network rollout costs should be taken into account.

14 This is also shown in fixed termination markets, where trends in recent years have shown that a differentiation in termination rates according to the different market positions, investments and costs per minute are not only economically feasible, but also accepted by the marketplace.

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The examples above show which supplements are possible and which also seem to be justified in an environment that is based on individual network operator costs for termination services, thereby accepting that all operators are active in the same retail market and that differences in costs may only be based on different network operator's individual situations.

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References FREUND N. & RUHLE E.-O. (2002): "Regulatory Concepts for Fixed-to-Fixed and Fixed-to-Mobile Interconnection Rates in the European Union", in: nd COMMUNICATIONS & STRATEGIES, no. 46, 2 quarter, pp. 253ff. KRUSE Jörn: - (2004): "Entwicklung des Mobilfunk-Wettbewerbs und Regulierungs-Perspektiven", in: Jörn KRUSE & Justus HAUCAP (Eds.), Mobilfunk zwischen Wettbewerb und Regulierung, HFM-Schriftenreihe Bd. 6, München (Reinhard Fischer Verlag), pp. 745 - (2003) "Regulierung der Terminierungsentgelte der deutschen Mobilfunknetze?, in: Wirtschaftsdienst, März 2003, pp. 203-209. VALLETTI Tommaso (2003): "Obligations that can be imposed on operators with significant market power under the new regulatory framework for electronic communications Access services to public mobile networks", paper prepared for the EU commission. WEIZSCÄKER (von) C.C. (2003): sentgelten", in: mmr 2003, p.170.

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